Pell Grant

[Jesse]

Student received a Pell Grant that was greater than the amount of her tuition and books and was refunded the excess. If I add the entire amount to her income she will benefit in claiming the hope credit.

Taxbook pg 12-3 says the option is not available to restricted scholarships. I thought the Pell Grant would be considered restricted.

Actually, after reading some literature, the Pell Grant may be used for qualifying education expense, not just tuition, so it is not restricted. Is there any other regs that would prohibit the inclusion in income and then claiming the hope credit?

[Koss]

Scholarships

You may be misinterpreting the term restricted.

If the terms and conditions of a Pell Grant require that the student use the money for educational expenses, it is probably a restricted scholarship.

The strategy you are trying to use--treating the scholarship as taxable income in order to claim an education credit--has a theoretical underpinning to it that may provide some insight into the definition of a restricted scholarship.

A scholarship is taxable to the extent that it exceeds qualifying educational expenses. For purposes of this definition, qualifying educational expenses includes tuition, books and equipment and fees that are associated with coursework. This is extremely broad. It includes things like laptop computers. It does not include ordinary living expenses such as rent, food and transportation.

So if a student gets a scholarship for $12,000, and the tuition paid to the school is only $10,900, it's a pretty good bet that the remaining amount was used for qualified educational expenses, and that none of the scholarship is taxable. I don't really care whether they have receipts. For me, it passes the duck test. If the client asserts that the remaining funds were spent on books and other educational expenses, that's the end of the story.

But if the scholarship is $15,000, and the tuition was only $7490, some of that excess money might be taxable, and I would have a rather intense discussion with my client about how to determine the amount of qualified educational expenses other than the tuition and fees that are billed directly by the school.

This is a long-winded way of getting to the point. And the point is:

A scholarship can be taxable either because it's really taxable, or because you elect to treat it as taxable. But the rules of the game are the same either way. For a scholarship to be taxable, the funds have to be used for something other than qualified educational expenses--as this term is defined for purposes of determining whether a scholarship is taxable.

The distinction that is relevant here is whether the funds are used for educational expenses or for living expenses--not whether the funds are used for tuition or for other types of educational expenses.

My off-the-cuff conclusion is that you are using the wrong criteria. A Pell Grant probably cannot be treated as a taxable scholarship because by accepting it, the student agrees to use the funds for educational expenses. A Pell Grant probably cannot be used for living expenses.

The distinction you are using is the one that is used to determine whether an expense qualifies for the education credit. That rule is different. For education credits, books and equipment don't count. But this stuff counts when determining whether a scholarship is taxable.

So to treat a scholarship as taxable, I think the terms and conditions have to allow the student to use the money for general living expenses. And I don't think that's how a Pell Grant works.

Burton