Is your child entering his or her senior year in high school this autumn? A gifted student may qualify for a college scholarship based on a specific talent, experience or achievement. Strategy: Have your child aim for tax-free scholarships. Not that your child should pass up a taxable award- it’s “free” money, after all- but a tax -free scholarship provides more bang for the buck. It’s a common misconception that all scholarships are tax free. In reality, some are fully taxable, and others are split. Here’s the whole story: If your child is not a degree candidate, the entire amount of the scholarship is taxable. Conversely, if the child is pursuing a degree, any amounts earmarked for tuition or course fees are exempt from federal income tax. Also, the IRS says that no tax is due on amounts used to pay for books, school supplies and equipment that are mandatory. However, if a professor merely suggests that a particular purchase would be helpful for completing a project, the exemption does not apply. The IRS treats a student as a degree candidate if the child either: 1. Attends a primary or secondary school or is pursuing a degree at a college or university. 2. Attends an educational institution that (1) provides a program that is acceptable for full credit toward a bachelor’s or higher degree or offers a program of training to prepare students for gainful employment in a recognized occupation. And (2) is authorized under federal or state law to provide such a program and is accredited by a nationally recognized accreditation agency. Suppose that a scholarship is used to pay for room and board instead of tuition. In that case, the full amount is subject to tax, whether or not the child is a candidate for a degree. The same thing is true for wages received for teaching or research services that are a condition of a scholarship or fellowship. Tip: See more details in the IRS Pub. 970, Tax Benefits for Education, at www.irs.gov/publications/p970/ch01.html.
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