How to Report Scholarship Income on Your Taxes
Understand how scholarship income affects your taxes, which expenses qualify for tax-free status, and how to accurately report it to avoid potential issues.
Scholarships can ease the cost of education, but they may also have tax implications. Some scholarship funds are tax-free, while others must be reported as income depending on how they are used. Failing to report taxable portions correctly can lead to penalties or unexpected tax bills.
Determining Taxability
The taxability of a scholarship depends on how the funds are used and the recipient’s enrollment status. According to the IRS, scholarship money used for qualified education expenses—tuition, mandatory fees, and required course materials—is not considered taxable income. To qualify, the student must be pursuing a degree at an accredited institution.
Funds used for non-qualified expenses, such as room and board, travel, or optional equipment, are taxable. For example, if a student receives a $10,000 scholarship and applies $7,000 to tuition and $3,000 to housing, the $3,000 must be reported as taxable income.
Scholarships tied to work, such as teaching or research stipends, are considered compensation and are fully taxable. These payments are treated as wages and may be subject to income and self-employment taxes if classified as independent contractor income.
Ineligible Expenses
Scholarship funds used for non-educational expenses must be reported as income. Rent, utilities, groceries, and other personal costs, even if necessary for attending school, do not qualify as educational expenses.
Health insurance premiums and medical expenses are also not classified as qualified costs, even if a university mandates coverage. Transportation expenses, including public transit passes or vehicle costs, are similarly considered personal expenses.
Technology purchases depend on necessity. If a laptop or software is explicitly required for coursework, it qualifies as an educational expense. However, general electronics that are not mandated by the school do not. A high-end computer purchased for personal use, even if occasionally used for schoolwork, does not qualify. The same applies to furniture, dorm decor, or other household items.
Required Tax Forms
The correct tax forms depend on the student’s situation. If a school issues a Form W-2, typically for work-related scholarships or fellowships, the taxable amount appears in Box 1 as wages and must be included on Line 1a of Form 1040.
For taxable scholarships without employment ties, the recipient must report them as “Other Income” on Schedule 1 (Form 1040), Line 8r. These amounts are not subject to payroll taxes but are still taxable at the student’s marginal income tax rate.
Some students may not receive a W-2 or any formal tax document detailing their scholarship income, making it their responsibility to track fund usage. Keeping records such as tuition statements (Form 1098-T) and receipts for educational expenses is essential. Since Form 1098-T only reflects tuition and qualifying costs billed by the institution, students must determine the taxable portion themselves.
For 2024, single dependents must file a tax return if their unearned income, including taxable scholarships, exceeds $1,250. If they have additional earned income, they must also consider the IRS filing threshold of $14,600. Those with significant unearned income may be subject to the Kiddie Tax, which applies when unearned income surpasses $2,600 and subjects it to their parents’ tax rate.
Misreporting Repercussions
Failing to report taxable scholarship income can lead to financial penalties and increased IRS scrutiny. Underreporting income, whether accidental or intentional, may result in accuracy-related penalties, adding 20% of the underpaid tax to the student’s liability. Deliberate misreporting can trigger civil fraud penalties, increasing the penalty to 75% of the underpayment.
Misreporting can also affect financial aid eligibility. FAFSA and institutional aid applications require accurate income reporting, and discrepancies between tax returns and aid forms can trigger verification requests. Errors may result in repayment of need-based grants or loss of eligibility for subsidized loans. Understating income can also impact income-based benefits such as SNAP or Medicaid, potentially leading to overpayments that must be reimbursed.
Relationship With Education Credits
Scholarship income can affect eligibility for education tax credits, which help reduce education costs. The two most commonly claimed credits are the American Opportunity Tax Credit (AOTC) and the Lifetime Learning Credit (LLC). Both have different rules regarding qualified expenses and income limitations, requiring careful coordination with scholarship funds to maximize tax benefits.
The AOTC provides a maximum credit of $2,500 per eligible student, covering 100% of the first $2,000 in qualified expenses and 25% of the next $2,000. However, if a scholarship fully covers these costs, there may be no remaining eligible expenses to claim the credit. Some students may benefit from voluntarily including part of their scholarship as taxable income to increase their out-of-pocket tuition expenses, allowing them to claim a larger credit. This strategy, known as “scholarship allocation,” requires careful tax planning to ensure the additional taxable income does not outweigh the credit’s benefit.
The LLC offers a credit of 20% on up to $10,000 of qualified expenses. Unlike the AOTC, it has no four-year limit and can be claimed for graduate education or professional development courses. However, it is non-refundable, meaning it can only reduce tax liability to zero but does not generate a refund.
Both credits begin to phase out for single filers earning over $80,000 and disappear entirely at $90,000 ($160,000 and $180,000 for joint filers). Coordinating scholarships with these credits can significantly impact tax liability, making it important to evaluate the best approach before filing.