Confusion over scholarship taxes?

[jnthnzuniga12]

I am a graduating college student that has little to no idea of what’s going on in regards to taxes. Pardon the ignorance, but i was not aware we had to pay taxes on scholarships that’s left over after costs likes tuition and the such. I was always under the impression that since the rest of the money went to university apartment rent, at least in my case, it wouldn’t be considered as income. That being said, I attended UCLA from 2015-2017. And i didn’t list the leftover scholarship money when I did my taxes in 2016/2017. I did work, and i did file out the taxes from the income i earned from my jobs, but never the scholarships. We, my mother and I, would just go to our tax person and we would give them our tax forms from our jobs, and that was the end of it. I wasn’t aware of this.  So really there’s 4 questions that need to be answered for me.

I read that scholarship taxes are only taxes at the state level, as in not for social security or medical, is this true? 

If not, and either way, on my 1089t it says about 4500 is taxable for one given year, so how much would I expect to pay from that if it’s the same for two years?

I’ve been listed as a dependent for my mom up until last year, will this affect her? 

Am I in deep trouble?

Also, side note while I was looking around for information, but a cnn article said that the IRS doesn’t really penalize for not reporting scholarships? Is this also true?

[Opus 17 · Accepted solution]

Everything is described here. https://www.irs.gov/forms-pubs/about-publication-970

Scholarship money that is not spent for qualified education expenses is taxable income.  Qualified expenses are tuition and certain required fees and other required costs.  Room and board is not a qualified education expense even if you live on campus.  (Everyone has some kind of cost for food and housing and it's never deductible, just because you are a college student doesn't make your food and housing more deductible than mine.)

This is taxable income but it is not "earned income" so it is not subject to social security and medicare tax, just state and federal income tax.

This should all be reported on your 1098-T.  If you have a full scholarship, you don't pay for tuition so you aren't eligible for tuition-based credits or deductions.  Then the excess will automatically be added back to your taxable income if you entered the 1098-T and fully completed the interview in Turbotax.

It is somewhat surprising that the IRS has not already billed you, at least for the 2015 tax year (filed in spring of 2016), they usually can match up 1098-Ts to tax returns by computer and send automatic letters when there is a mis-match.

If you file an amended return to report the income and pay tax, the IRS can assess a late payment penalty of 0.5% per month of the amount that was paid late (counting back to April 15, 2016 for the 2015 tax year, or counting to April 15, 2017 for the 2016 tax return) plus statutory interest on the unpaid amount (tax plus penalty) at a variable rate that is currently about 4% per year.  If the IRS audits you and catches you, and decides the error was willful tax avoidance, they can assess an additional 25% penalty.  

You would not pay the penalty and interest when you filed the amended return, wait for the IRS bill you for the exact amount.  And, there is a form to request an abatement of the penalty if this is your first time owing a penalty (but the interest can't be waived).  

If you don't amend to fix your returns, the statute of limitations for the IRS to catch you and bill you is 3 years from the original due date or the filing date, whichever is later; or 7 years if the error results in an underpayment of tax owed by more than 25%.  

The amount of tax you actually owe could be from 0-28% of the excess scholarship, depending on your other income, but 10% or 15% is most likely.  Plus penalties and interest.  And probably 3-5% for your state income tax.

You owing tax and penalties will not affect your parents' tax return even if you are their dependent for the years in question.

You say you gave your paperwork to your "tax person."  Did you also give them the 1098-T?  If so, they should have included your scholarship as income.  Look at your tax returns; the excess scholarship should be added to your wages on line 7 with the notation "SCH" in the margin.  It might also be on line 21, "Other income."  If you did not give the tax person your 1098-T, go back to them and apologize, give them the forms, and ask them to prepare amended returns for you.

[jnthnzuniga12]

My tax person never asked for my 1098-T.  I only became aware of it after looking around in my finance links for my school account. That being said, for that taxable amount, if I’m understanding correctly, I’d only pay 450$~ in taxes for that given year, correct? Not including the penalties.

[Opus 17]

Or $675, if your other taxable income was more than about $14,000.

[jnthnzuniga12]

So while it may be strenuous, it’s manageable given it’s only the last few years, correct? Sorry, I’m not knowledgeable in this area, evidently, and I’m just trying to reassure myself. Thanks for the information!

[Hal_Al]

Taxes are complicated. Here’s another possible complication.
Your parent probably did not claim an education credit, on her return, because your education was fully covered by scholarships. There is a tax “loophole” available. The student reports all his scholarship, up to the amount needed to claim the American opportunity credit, as income on his return. That way, the parents  (or himself, if he is not a dependent) can claim the tuition credit on their return. They can do this because that much tuition was no longer paid by "tax free" scholarship.  You cannot do this if the school’s billing statement specifically shows the scholarships being applied to tuition or if the conditions of the grant are that it be used to pay for qualified expenses.
Using an example: Student has $10,000 in box 5 of the 1098-T and $8000 in box 2. At first glance he/she has $2000 of taxable income and nobody can claim the American opportunity credit. But if she reports $6000 as income on her return, the parents can claim $4000 of qualified expenses on their return.

If you amend, you may want to include even more scholarship income, so that your parent can amend and claim the tuition credit.
Reference: form 1040 instructions (pg 47): “You may be able to increase an education credit if the student chooses to include all or part of a Pell grant or certain other scholarships or fellowships in income.” You’ll also find similar wording in pub 970.

[cminnich]

Would the child need to pay kiddie tax on the scholarship amount applied to unqualified expenses since it is unearned income?

[Hal_Al]

Q. Would the child need to pay kiddie tax on the scholarship amount applied to unqualified expenses since it is unearned income?

A. Yes.

Scholarships are a hybrid between earned and unearned income. It is earned income for purposes of the  $12,400 filing requirement and the dependent standard deduction calculation (earned income + $350)..  It is not earned income for the kiddie tax and other purposes (EIC, IRA contributions or additional child tax credit).

[confusedcollegestudent]

I have a question, so Im a first year in college and I am a dependant of my parents, I have gotten 26K of scholarships, and 15K was for education expenses and 17K was for room and board, and I was doing the 1098-T or whatever its called on the irs to calculate my taxable 'income', so my taxable money is 10799$. What does this mean? Also do I have to report my refunds from the school? Im so confused and worried for my parents. I dont want them to have to pay for my school. pls help.

[Hal_Al]

You would only need to file a tax return if your excess (taxable) scholarship (plus any other income) was more than $12,550 (2021filing  threshold).  So, you do not need to file a return with only $10,799 of taxable scholarship.

But, you should be aware that there is a tax “loop hole” available. The student reports all his scholarship, up to the amount needed to claim the American Opportunity Credit (AOC), as income on his return. That way, the parents  (or himself, if he is not a dependent) can claim the tuition credit on their return. They can do this because that much tuition was no longer paid by "tax free" scholarship.  You cannot do this if the school’s billing statement specifically shows the scholarships being applied to tuition or if the conditions of the grant are that it be used to pay for qualified expenses.

Using an example: Student has $26,000 in box 5 of the 1098-T and $15,000 in box 1. At first glance he/she has $11,000 of taxable income and nobody can claim the American opportunity credit. But if she reports $15,000 as income on her return, the parents can claim $4000 of qualified expenses on their return.

Books and computers are also qualifying expenses for the AOC. So, extending the example, the student had another $1000 in expenses for those course materials, paid out of pocket, she would only need to report $14,000 of taxable scholarship income, instead of $15,000.

Your parents can collect as much as $2500 for the education credit while you only pay about $250 in tax.

[tm56]

Hi,

I would just like to ask my son is a full time college student. He does not work. He is lives with us. He got a 1098-T with an amount of $5700 on box 1 and $9700 on box 5. I filed the return thru turbo tax (1040 SR) and listed him as a dependent since he does not work. Should he file a separate return for this 1098-T.  I just came across this post and worry that I may have read the wrong answer before that he does not need to file. Hope you can give some advice. Its already October and this 1098-T was from last year. Thanks

[Hal_Al]

Q. Should he file a separate return for this 1098-T?

A. Simple answer: No.

The  1098-T is only an informational document. The numbers on it are not required to be entered onto your (or your student's) tax return.

Scholarships that pay for qualified expenses (tuition, fees, books and course materials, including a required computer) are tax free.  Any excess is taxable income to the student. Your student potentially has $4000 (9700 - 5700) of taxable income.  If that is only income, he does not need to file a tax return as his standard deduction* is more than that.

Since he is a dependent, he does not qualify for a tuition tax credit, so he has no reason to "file the 1098-T". 

Q. Can you, the parent, claim a tuition credit?

A. Normally no, since his qualified expenses were covered by tax free schoalrship.

But, there is a tax “loop hole” available. The student reports all his scholarship, up to the amount needed to claim the American Opportunity Credit (AOC), as income on his return. That way, the parents   can claim the tuition credit on their return. They can do this because that much tuition was no longer paid by "tax free" scholarship.  You cannot do this if the school’s billing statement specifically shows the scholarships being applied to tuition or if the conditions of the grant are that it be used to pay for qualified expenses.

Using an example: Student has $9700 in box 5 of the 1098-T and $5700 in box 1. At first glance he has $4000 of taxable income and nobody can claim the American opportunity credit (AOC). But if he reports $9700 as income on his return, the parents can claim $4000 of qualified expenses on their return. $4000 is the amount needed to get the maximum AOC.

Since $9700 is still less than his standard deduction*, he still does not technically need to file a tax return. But, you may want him to do so to document his reporting of the scholarship as income. 

Books and a computer are also qualifying expenses for the AOC.  Extending the example, the student had another $1000 in expenses for those course materials, paid out of pocket, he would only need to report $8700 of taxable scholarship income, instead of $9700.

*Note: Taxable scholarships  is treated as earned income for purposes of calculating a dependent's standard deduction (earned income + $350). 

[tm56]

I would just like to ask, if my child did not work and no other income to declare except the scholarship where he has a refund of roughly 5k last year does he need to file a return. I was reading that he does not have to since it's belowe the standard deduction. He has this refund because he qualified for pell grant. He is our dependent in our tax return. How about the 1098-T will this be reported to the IRS. Kind of confusing.

[Hal_Al]

Q. I would just like to ask, if my child did not work and no other income to declare except the scholarship where he has a refund of roughly 5k last year does he need to file a return?

A. No, because the amount is less than the $13,850 filing requirement (and maximum standard deduction).

Q. How about the 1098-T will this be reported to the IRS?

A. Yes.  But, their computers are capable of discerning there's nothing taxable there and it's not area of high enforcement. 

Unless your income is too high (>$180K married), you should be looking at claiming the tuition credit, on your tax return. See "loop hole" explanation above.  

The IRS actually encourages use of this technique. From the form 1040 instructions: “You may be able to increase an education credit if the student chooses to include all or part of a Pell grant or certain other scholarships or fellowships in income. For more information, see Pub. 970, the instructions for Form 1040 and IRS.gov/EdCredit".  PUB 970 even has examples of how to do the “loop hole”.

[Realanswers]

I noticed your posts about a "loop hole". If someone receives a 1098-T WITH TUITION, BOX 1 OF $7172, AND BOX 5 SCHOLARSHIP OF $14556, and the student had no additional income. If the parent claims them, the student has a tax liability of $105 (if the parents files the 1098-T, the student doesn't have to file, correct?). But, you make it seem like the parent to file the tuition amount up to $4000, and then the student file taxes and claim the scholarship and the other $3,712? That loop hole is confusing. Am I incorrect in my understanding?

Claude