Q. So basically the scholarship counts as taxable income? Even if it's being used to pay tuition?
A. No! Scholarships that pay for qualified educational expenses (QEE - tuition, fees, books and other course materials) is tax free. Only the portion of scholarship amounts that exceed QEE is taxable income, on the student’s tax return.
Q. Would it help if we said it was for room & board?
A. No! Just the opposite. Doing that would make it taxable. Room & board are NOT qualified expenses for either a tuition credit or tax free scholarship.
Q. The scholarship amount does not exceed the tuition amount.
A. Then none of the scholarship is taxable, unless you choose to make it taxable.
Q. Why would you do that?
A. To re-allocate the expenses to other education tax breaks (tuition credit or 529 plan distributions).
Since, "The scholarship amount isn't even scratching the surface for her tuition", just enter the 1098-T, you will get the full $2500 AOTC (assuming you're otherwise eligible).
