It was a pleasant telephone from one of our clients at Chennai wishing me “HAPPY HOLI GREETINGS”, which I also extend to my readers though the questions raised by my client necessitated this article, particularly for those foreign citizens of Indian origin whose children were born in U.S.A., during the stay of their parents abroad. However, there are many questions on student aid, scholarships and other assistance available for students who purse their study in U.S.A., and also the taxation aspects of them. Not many of us are aware of any thing in this aspect.
It is therefore my endeavor to explain the basics in the simplest language possible, of course quoting relevant materials from Internal Revenue Service and other American Government sources.
The first part deals extensively the grants, scholarships, loans or other assistance available for students who are American citizens or Green card holders who want to pursue their education either for under graduation or higher education like Master programs.
Part 1
Pell Grant
The federal government gives nonrefundable grants to students of low income families. The following information has been taken from the following website:
https://ed.gov/programs/fpg/index.html?exp=0
“The Federal Pell Grant Program provides need-based grants to low-income undergraduate and certain post baccalaureate students to promote access to post secondary education. Students may use their grants at any one of approximately 5,400 participating post secondary institutions.
Grant amounts are dependent on: the student’s expected family contribution (EFC) (see below); the cost of attendance (as determined by the institution); the student’s enrollment status (full-time or part-time); and whether the student attends for a full academic year or less.
Students may not receive Federal Pell Grant funds from more than one school at a time.
Financial need is determined by the U.S. Department of Education using a standard formula, established by Congress, to evaluate the financial information reported on the Free Application for Federal Student Aid (FAFSA) and to determine the family EFC.
The fundamental elements in this standard formula are the student’s income (and assets if the student is independent), the parents’ income and assets (if the student is dependent), the family’s household size, and the number of family members (excluding parents) attending post secondary institutions.
The EFC is the sum of: (1) a percentage of net income (remaining income after subtracting allowances for basic living expenses and taxes) and (2) a percentage of net assets (assets remaining after subtracting an asset protection allowance). Different assessment rates and allowances are used for dependent students, independent students without dependents, and independent students with dependents.
After filing a FAFSA, the student receives a Student Aid Report (SAR), or the institution receives an Institutional Student Information Record (ISIR), which notifies the student if he or she is eligible for a Federal Pell Grant and provides the student’s EFC.”
Since the purpose of this article is just to give some information on grants, scholarships etc., and the actual students who want to pursue the undergraduate courses would invariably contact the eligible educational institutions, lot of efforts are not made to give too much explanation.
However, it is possible that the students who were born in U.S.A., during the stay of their parents who were working there on H 1B visa, became U.S.A., citizens by birth but in realistic terms might have never gone there again until they decide to pursue the studies there after schooling in India.
I came across some clients who wanted form number 4506 T particularly form for non- filing which has to be filed along with the application of their kids who may seek admission in undergraduate courses in U.S.A., universities.
Let us discuss this important form, 4506 T.
The form can be looked at
https://www.irs.gov/pub/irs-pdf/f4506t.pdf
Let us also discuss this important form.
Form 4506 T is titled ‘Request for Transcript of Tax Return’ has clearly stated under item number 8 that it can provide up to 10 years transcript information such as “Form W-2, Form 1099 series, Form 1098 series, or Form 5498 series transcript”.
It is advisable to contact a CPA to get the needful done since the recent experience with IRS involves waiting on telephone, sometimes, up to 8-10 hours.
Let us focus on other types of Scholarships; Fellowship grants; and other Qualified tuition reductions which do help students to pursue the studies without much botheration on the financial needs.
A scholarship or fellowship grant is tax free (excludable from gross income) only if one is a candidate for a degree at an eligible educational institution. Any educational institution will verify their legal existence. Most of them are accredited ones with many decades of existence.
A scholarship or fellowship grant is tax free only to the extent it doesn’t exceed one’s qualified education expenses which obviously does not include boarding and lodging expenses unless we look at the following sentence from publication 940 from irs.gov web site;
- One doesn’t have to treat as payment for services the part of any scholarship or fellowship grant that represents payment for teaching, research, or other services if he receives the amount under: The National Health Service Corps Scholarship Program, The Armed Forces Health Professions Scholarship and Financial Assistance Program, or A comprehensive student work-learning-service program (as defined in section 448(e) of the Higher Education Act of 1965).
- Since those who are under the above category would automatically receive the required information, the writer does not intend to discuss the matter further.
If one’s only income is a completely tax-free scholarship or fellowship grant, he doesn’t have to file a tax return and no reporting is necessary. If all or part of the scholarship or fellowship grant is taxable and he is required to file a tax return, and report the taxable amount.
One of the most prominent scholarship in olden times named ‘ Fulbright Grants ‘ needs some clarification .
Fulbright grant is generally treated as a scholarship or fellowship grant in figuring how much of the grant is tax free.
The following information has been taken out of Publication Number 970 of Internal Revenue Service relevant to scholarships, educational credits or other relevant matters.
If one is allowed to study tuition free or for a reduced rate of tuition, payment of tax on this benefit is not needed. This is called a “tuition reduction.” One doesn’t have to include a qualified tuition reduction in the income.
A tuition reduction is qualified only if one receives it from, and use it at, an eligible educational institution. One doesn’t have to use the tuition reduction at the eligible educational institution from which it is received. In other words, if one works for an eligible educational institution (say, Kansas University) and the institution arranges for taking the courses at another eligible educational institution (say, Kansas State University) without paying any tuition, he/she may not have to include the value of the free courses in his/her income. The rules for determining if a tuition reduction is qualified, and therefore tax free, are different if the education provided is below the graduate level or is graduate education.
One must include in the income any tuition reduction he/she receives that is payment for the services rendered.
Eligible educational institution
An eligible educational institution is one that maintains a regular faculty and curriculum and normally has a regularly enrolled body of students in attendance at the place where it carries on its educational activities. Recent events do indicate where students from Andhra Pradesh entered ineligible institution which were not recognized or accredited.
Officers, owners, and highly compensated employees
Qualified tuition reductions apply to officers, owners, or highly compensated employees only if benefits are available to employees on a nondiscriminatory basis. This means that the tuition reduction benefits must be available on substantially the same basis to each member of a group of employees. The group must be defined under a reasonable classification set up by the employer. The classification must not discriminate in favor of owners, officers, or highly compensated employees.
Payment for services
Generally, one must include in the income the part of any qualified tuition reduction that represents payment for teaching, research, or other services by the student required as a condition of receiving the qualified tuition reduction. This applies even if all candidates for a degree must perform the services to receive the degree. For example: Graduate students who take classes for under graduate students in universities – again, one can see many Indian students who work as teachers for under graduate courses and earn partial reduction in their tuition courses towards their graduation and also earn sufficiently to pay towards their apartment rental, electricity and other expenses. But, the income is taxable.
(See below for exceptions.)
Exceptions.
One doesn’t have to include in income the part of any scholarship or fellowship grant that represents payment for teaching, research, or other services if he/she receives the amount under: The National Health Service Corps Scholarship Program, The Armed Forces Health Professions Scholarship and Financial Assistance Program, or A comprehensive student work-learning-service program (as defined in section 448(e) of the Higher Education Act of 1965) operated by a work college (as defined in that section).
Education below the Graduate Level
If one receives a tuition reduction for education below the graduate level (including primary, secondary, or high school), it is a qualified tuition reduction, and therefore tax free, only if his/her relationship to the educational institution providing the benefit is described below.
- He/she is an employee of the eligible educational institution.
- He/she were an employee of the eligible educational institution, but retired or left on disability.
- He/she were a widow or widower of an individual who died while being an employee of the eligible educational institution or who retired or left on disability.
- He/she were the dependent child or spouse of an individual described in (1) through (3) above.
Child of deceased parents
For purposes of the qualified tuition reduction, a child is a dependent child if the child is under age 25 and both parents have died.
Child of divorced parents.
For purposes of the qualified tuition reduction, a dependent child of divorced parents is treated as the dependent of both parents.
Graduate Education
A tuition reduction one receives for graduate education is qualified, and therefore tax free, if both of the following requirements are met:
- It is provided by an eligible educational institution.
- He/she is a graduate student who performs teaching or research activities for the educational institution.
- He/she must include in income any other tuition reductions for graduate education that he/she receives.
Any tuition reduction that is taxable is reported in Form 1040 or 1040A under line 7 or under line 1 of 1040EZ.
The writer has intentionally kept a little high level of English which is generally used in American educational institutions since one does not get spoon feeding or a paternalistic way of explanations. Parents do not get explanations but the students are expected to apply their minds and find a suitable solution. The writer was once politely told to allow his ward to explore and progress individually rather than requesting the parents to assist. But it must be kept in the minds of the parents that they are expected to sign the papers so long their children are dependents of the parents. Please allow them to exercise their right to choose their future.
Now to consume some numbers.
Life time learning credit
It is not possible to explain the meaning of credit. Kindly read my first article on individual tax
‘https://taxguru.in/income-tax/american-taxation-file-returns-individual-tax-return.html’ for information.
Lifetime learning credit
Yes, it is not uncommon to find any one in U.S.A., when a boy of 26 years working in Burger King going to a nearby community college to upgrade the skills. His American dream does not end with his tough working in that fast food restaurant.
Lifetime learning credit is 20% of the first $10,000 of qualified education expenses paid for all eligible students. The maximum credit is $2,000 per return regardless of the number of eligible students. It can be availed in any number of years.
Credit is phased out at modified Adjusted Gross Income between $55,000 and $65,000. It can’t be claimed by any one filing under the status Married Filing Single. Obviously, the tax payer is an eligible student.
American Opportunity Credit
The maximum credit is $2,500 per student.
- 100% of the first $ 2,000 of the qualified expenses
- 25% of the next $ 2,000 of the qualified expenses
Certain restriction does apply which can be looked at the reference given at the end of this article.
Tuition and Fees Deduction Tax Benefit
Tax payers may deduct qualified education expenses they paid for eligible students up to:
- $4,000 if modified AGI is $65,000 or less ($1,30,000 or less for Married Filing Jointly)
- $2,000 if modified AGI is $80,000 or less ($1,60,000 or less for Married Filing Jointly)
- 0 if modified AGI is over $80,000 ($1,60,000 for Married Filing Jointly)
Qualified education expenses for the tuition and fees deduction are the same as the American Opportunity Credit, except that expenses for the course materials must be paid to the educational institution as a condition of enrollment.
Student Loan Interest Deduction
Oh! Quite often I come across clients who availed educational loans from U S federal government or others ask for student loan interest deduction in their tax returns. Almost all the advocates, doctors or Certified Public Accountants would have availed student loans to study and later prosper. Let us happily look at above information in details:
- Maximum deduction is $2,500 of interest including early payments not yet required, interest on consolidated or refinanced loans, and capitalized loans.
- Phase out of $65,000-$80,000 ($1,30,000-$1,60,000 if married filing jointly)
- Interest deductible during the remaining period of the student loans.
- A taxpayer filing MFS and a tax payer claimed as a dependent.
Conclusion
This article also emanated because one trader in Chandni Chowk, Delhi, one of the crowd’s most after sought place in Northern India enquired about the American taxes, education in U.S.A., and other explanations. It was a surprise for me to comprehend that traders in old Delhi have crossed the frontiers and their children may force their parents to learn about the education in U.S.A. (Of course, with glee, I agree that even the heads of state of many countries already long and get the sweets from Megh Raj, China Ram and Haldi Ram sweets to enthrall their days)
This article, therefore, starts explaining FAFSA, student aid, eligible educational institutions, various credits available during filing of tax returns and ultimately the relevant data to comprehend our discussion. To the unwitting question whether this academic paper can easily help anyone to file his tax return easily, the obvious answer is to contact the nearest CPA for handling the professional service and also pay adequately to maintain the trust and quality of tax consulting.
I also want India to join the comity of nations which emphasize education as a tool to bring happiness to its teething millions. Like my other dream, this will also be fulfilled at the earliest.
Reference
- Internal Revenue Service web site “irs.gov”
- IRS publication 970, Tax benefits for Education
- Form 8863, Education credits (American Opportunity and Lifetime Learning Credits)
- The amazing tax book by Tax Materials, Inc which is published every year for the discerning public. Millions of taxes paying public in the world buy this book to enrich their knowledge.
- Form 1040 U.S. Individual Income Tax Return
- My first article titled “American taxation – How to file returns – Individual Tax Return” in Taxguru.in
About the author
About the author: Subramanian Natarajan C.P.A. (USA), M.Sc., CAIIB took voluntary retirement in 2000 from Punjab National Bank after handling various facets of banking like deposit mobilization, foreign exchange, auditing and borrower accounts. After living in USA for 12 years during which period he worked in international auditing firms specializing in international tax, auditing, IFRS etc., he continues his practice in New Delhi, India. He can be reached at subcpa@gmail.com. Tel: 7503562701, 9015613229. He currently lives in Delhi. His name appears as tax consultant in web site of American embassy, New Delhi. He is thankful to various suggestions received from readers and is delighted to feel the enthusiasm of readers.
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