Grants and the AOC

[dkss]

Adult client is going to local community college. Made a whopping $400 in earned income for the year. She received a Pell grant, an Indiana state grant , a SEOG, and student loans to pay for her college and "to live on". Total educational expenses are about $4000, total grants are about $6000, and student loans about $7000.

Question: Can the grants be allocated toward the living expenses and not the educational expenses, therefore making the grants taxable income and the educational expense paid with student loan proceeds eligible for the refundable portion of the AOC?

Debbie

[appelman]

Does she really qualify for AOC?

That's the first question -- first 4 years of post-secondary education, etc?

Second question is "Does she meet the special qualifications for the refundable portion of the AOC?"

If she meets those qualifications, and all or part of the grant is not explicitly allocated to qualified educational expenses, I would think you could do what you suggest.

[taxmom34]

aren't the grants and scholarships paid directly to the college, not the taxpayer? if so, how can you allocate grants to living expenses. and isn't there somewhere that says those funds used first for education. just a thought on my part.

[Gary2]

There are cases where the funds are deposited with the school, which then releases funds for living expenses to the student. You'll need to find out which, if any, of the grants permit using the funds for purposes other than tuition.

Keep in mind that grant funds used for living expenses are taxable income. There may be a W-2 or a 1099-MISC, or possibly the income will need to be reported manually. In the last case, you'll need to check whether it goes on line 7 or line 21, and whether or not it's eligible for EIC purposes.

[dkss]

More Info

That's the first question -- first 4 years of post-secondary education, etc?

Second question is "Does she meet the special qualifications for the refundable portion of the AOC?"

If she meets those qualifications, and all or part of the grant is not explicitly allocated to qualified educational expenses, I would think you could do what you suggest.

She meets all qualifications for the AOC.

I have a copy of her school account activities. All grants and loans are placed into the account and then any excess is refunded to her. Being that her grants already exceed her educational expenses and she is receiving a refund from the school of the extra monies, I assume that means the grants are not restricted in their use.

I will check with the school to see if the grants are "restricted".

Debbie

[taxmom34]

in looking at the numbers on this client's return, you have earned income $400 and taxable grants $2000 or $6000 . she doesn't even have to file if she is claiming herself on the tax return. how old is she? are parents claiming her on their return and taking the education credits.? wouldn't parents benefit more by claiming her? are you including the loans of $7000 as taxable?

[dkss]

in looking at the numbers on this client's return, you have earned income $400 and taxable grants $2000 or $6000 . she doesn't even have to file if she is claiming herself on the tax return. how old is she? are parents claiming her on their return and taking the education credits.? wouldn't parents benefit more by claiming her? are you including the loans of $7000 as taxable?

She is an adult (30+) single mom with dependent child, does not live with parents or anyone else. She does get food stamps and other welfare benefits and she has another child who receives SS from deceased father. I would not include a loan as taxable income. I understand that she is not required to file a return, I am curious if the grants can be manipulated in a way that the refundable portion of the AOC can be legally claimed. I am still awaiting the response from the financial aid office at the college to check the usage restrictions (if any) on the three different grants.

[taxmom34]

That's the first question -- first 4 years of post-secondary education, etc?

Second question is "Does she meet the special qualifications for the refundable portion of the AOC?"

If she meets those qualifications, and all or part of the grant is not explicitly allocated to qualified educational expenses, I would think you could do what you suggest.

it doesn't sound like you answered the first question. at 30 did she just get out of high school? using the same numbers would she qualify for the EIC instead?

[dkss]

Yes, she is in her first 4 years of post secondary education pursuing a degree. She has not attended college before now.

As for EIC, I think taxable grants are not considered "earned" income for the purpose of the EIC, although her $400 in wages would be make her eligible for a little EIC.

[taxmom34]

my understanding may be wrong but i thought i read somewhere that college enrollment had to be right after high school, (so a student couldn't go to work for four years and then decide to go to college and get the credit). and isn't the taxable scholarship reported on line 7 with wages. not sure if that income is included for calculation of EIC

[dkss]

my understanding may be wrong but i thought i read somewhere that college enrollment had to be right after high school, (so a student couldn't go to work for four years and then decide to go to college and get the credit). and isn't the taxable scholarship reported on line 7 with wages. not sure if that income is included for calculation of EIC

The AOC does not have a requirement that it can only be taken immediately after high. It can be used for the first 4 years of college regardless of how long ago you graduated from high school.

Taxable scholarships are reported on line 7 but are backed out in the computation of the EIC.

Currently, I have found out that the state grant is restricted for educational expenses only. I have two messages out to the financial aid office at the college for info concerning the Pell grant and the SEOG. When I called the gov number concerning those two grants, I was referred to the college's financial aid office...now if they would only respond back....

[dkss]

Update

I finally received a response from the Financial Aid office at the local community college. They stated that the Pell grant and the SEOG were unrestricted and could be used for living and transportation expenses.

So, I will go ahead and make a larger portion of the grants taxable (used for personal expenses). Allocate the loans to pay education expenses and take the refundable portion of the AOC.

[FEDUKE404]

Do some homework on this issue

I finally received a response from the Financial Aid office at the local community college. They stated that the Pell grant and the SEOG were unrestricted and could be used for living and transportation expenses.

So, I will go ahead and make a larger portion of the grants taxable (used for personal expenses). Allocate the loans to pay education expenses and take the refundable portion of the AOC.

I would be very wary of "tax facts" from most financial aid offices. After all, these are the same folks who prepare the Forms 1098-T.

It has been my experience, especially for community colleges and the like, that the Pell Grants are pretty well stopped before any taxable income could in theory be generated, i.e. up to the amount of qualifying education expenses. After that, the loans kick in.

I also got a bit lost as to why a person with $4k of education expenses would be receiving $13k in loans/grants. "Pretty good work, if you can find it." I'm also a bit intrigued as to how she would ever obtain "living expenses" at a (supposedly local) community college???

Although I don't have time to do any research, I seem to recall the question raised by taxmom34 about any grants/scholarships FIRST being applied to qualified education expenses. **IF** that rule (still) applies, then by definition there would be no education credit issues to be considered in the first place.

Tread VERY carefully here. . . . .

FE

[dan doshan]

This has been going on ever since the Hope Credit first came into being. I gave up some time ago. If they get a 1098T that shows 4000 in qualifying expenses and 6000 in grants abd scholarships, etc. then I can only assume that the qualifying expenses were paid for via grants and scholarships. No manipulating the numbers.

If, on the other hand, a student is awarded a Scholarship from some source and the Scholarship terms are not restricted to certain educational expenses that is another story. In my several years of tax prep I have only had 1 client that had received a large Scholarship, from a source, the terms of which were unrestricted as to how it was used.

If these grants etc. can be manipulated in such a way so as to get clients education credits then I sure have screwed clients out of a lot of money over the years.

[dkss]

NATP response

I decided to use my free NATP research question on this issue. Here is their response:

Here is the answer:
If the grants can be applied to anything and she picks it up as income on her return, then the grant does not reduce the qualified education expenses for the AOC. See the information and examples below.

¶A-4543. Scholarship and fellowship grants that reduce qualified tuition and related expenses for purposes of Hope and Lifetime Learning credits.
The amount of qualified tuition and related (QT&R) expenses taken into account in computing the Hope credit (AOC) and the Lifetime Learning credit must be reduced by the amount of any qualified scholarship that's excludable from gross income under Code Sec. 117 . . For purposes of this rule, a qualified scholarship that's excludable from gross income under Code Sec. 117 includes any scholarship or fellowship grant (including a Pell grant 35 ) that is excludable from gross income under that Code section 36

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35
Notice 97-60, Sec. 1, Q&A 20, 1997-2 CB 310 ; Notice 97-60, Sec. 2, Q&A 11, 1997-2 CB 310 .
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36
Joint Comm Staff, Gen Expln of '97 Tax Legis (JCS-23-97), 12/17/97, p.19.
A restricted scholarship that must be used to pay QT&R expenses is a qualified scholarship excludable under Code Sec. 117 37 (thereby reducing the amount of QT&R expenses a taxpayer may otherwise take into account in claiming an education credit). 38

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37
Preamble to TD 9034, 12/24/2002 .
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38
Preamble to Prop Regs, 1/6/1999 .
However, a scholarship or fellowship grant is not treated as a qualified scholarship excludable under Code Sec. 117 to the extent that one of the two following conditions applies: 39
(1) The scholarship or fellowship grant (or any portion) may be applied, by its terms, to expenses other than QT&R expenses within the meaning of Code Sec. 117(b)(2) (such as room and board ) and the student reports the grant (or the appropriate portion thereof) as income on the student's federal income tax return if the student is required to file a return. 40 In other words, to the extent that an unrestricted scholarship, or a portion of the scholarship, is used to pay nonqualified expenses and such use is consistent with the terms of the scholarship, the scholarship is not a qualified scholarship excludable under Code Sec. 117 . 41
Illustration 1: University charges A $3,000 for tuition and $5,000 for room and board. University awards a $2,000 scholarship to A. The terms of the scholarship require that it be used to pay tuition. The scholarship is treated as a qualified scholarship that is excludable from income under Code Sec. 117 . 42
Illustration 2: The facts are the same as in Illustration (1), except that the terms of the scholarship permit it to be used to pay any of a student's costs of attendance at University, including tuition, room and board, and other incidental expenses. University applies the $2,000 scholarship against A's $8,000 total bill. A pays the $6,000 balance of the bill with a combination of savings and amounts she earns from a summer job. University does not require A to pay any additional fees beyond the $3,000 in tuition in order to enroll in or attend classes. A does not report any portion of the scholarship as income on A's federal income tax return. Because A doesn't report the scholarship as income, the scholarship is treated as a qualified scholarship that is excludable from income under Code Sec. 117 . 43
Illustration 3: The facts are the same as in Illustration (1), except that A reports the entire scholarship as income on A's federal income tax return. Since the full amount of the scholarship may be applied to expenses other than qualified expenses (room and board) and A reports the scholarship as income, exception (1) above applies and the scholarship is not treated as a qualified scholarship excludable under Code Sec. 117 . 44

Illustration 4: The facts are the same as in Illustration (1), except that the terms of the scholarship require it to be used to pay tuition or room and board charged by University, and the scholarship amount is $6,000. Under the terms of the scholarship, A may allocate the scholarship between tuition and room and board in any manner. However, because room and board totals $5,000, that is the maximum amount that can be applied under the terms of the scholarship to expenses other than QT&R expenses. Therefore, at least $1,000 of the scholarship must be applied to tuition. As a result, the maximum amount of the scholarship that qualifies under exception (1) above is $5,000; and at least $1,000 must be treated as a qualified scholarship excludable under Code Sec. 117 ($6,000 scholarship - $5,000 room and board). 45
(2) The scholarship or fellowship grant (or any portion) must be applied, by its terms, to expenses other than QT&R expenses within the meaning of Code Sec. 117(b)(2) and the student reports the grant (or the appropriate portion) as income on the student's federal income tax return if the student is required to file a return. 46
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