Qualifying for a Pell Grant helps you minimize the amount you have to contribute to help your children attend college. However, not all scholarships and grants are tax-free. Knowing the rules for how you must report grants on your taxes – and the tax returns your children file – allows you to avoid making mistakes on your tax return.
You won’t have to pay taxes on your child’s Pell Grant because it’s not your income, and depending on how your child uses it, he or she might not have to either.
Federal Pell Grant Overview
Federal Pell Grants typically are need-based financial grants that awarded to qualifying undergraduate students who have "exceptional financial need." This grant is not a loan, so recipients generally do not have to repay the funds.
The amount a particular student receives depends on a combination of factors such as the student's and his/her family's contribution, the costs at the school of attendance, the student's status as a full-time or part-time student, and the student's attending a school for a full or partial academic year. For the 2018-2019 award year, the maximum grant is $6,095, and for the 2019-2020 award year, the maximum grant is $6,195.
Apply for a Pell Grant online at StudentAid.ed.gov or by calling the Federal Student Information Center at 800-433-3243 to request an application.
Pell Grant Generally Excluded
The taxes on the Pell Grant, if any, would be paid by your child. However, your child might not have to pay taxes either. As long as the Pell Grant is used for qualified educational expenses and your child is a degree-seeking student, your child won’t have to include the Pell Grant as part of his or her taxable income.
Qualified educational expenses include tuition and fees required to attend school as well as course-specific materials that are required for everyone in the class. For example, a lab fee that everyone in chemistry class must pay would count, but an optional study aid wouldn’t count.
Grants for Living Expenses
The tax-free treatment of Pell Grants only extends to Pell Grants used for qualified education expenses. A Pell Grant is taxable to the extent you use it for any nonqualified expenses, such as room and board.
For example, say your tuition costs $20,000 and you have $8,000 in room and board costs. If you have a scholarship from the school for $18,000 and a $3,000 Pell Grant, the first $2,000 of your Pell Grant is tax-free because it is used for qualified expenses. However, the last $1,000 that isn’t used for qualified expenses counts as taxable income.
Lower Tax Brackets
The Tax Cuts and Jobs Act reduced income tax rates starting with the 2018 tax year. Though the first tax bracket is still 10 percent, the second tax bracket is only 12 percent instead of 15 percent. When it comes to the IRS, Pell Grant rules extend beyond whether the grant is taxable. If you want to claim the American opportunity credit and a Pell Grant paid for part of your costs, you can’t use any portion of your Pell Grant that you treat as tax-free when calculating your qualified expenses.
Based in the Kansas City area, Mike specializes in personal finance and business topics. He has been writing since 2009 and has been published by "Quicken," "TurboTax," and "The Motley Fool."