Update 4/8/2016: This post has been updated and improved based on commenter feedback. Weigh in with your opinion in the comments section!
This is just about my least favorite tax lie. I believed this lie all through grad school and I think everyone at my university did, too. When I first started researching grad student taxes in detail, I became aware of the possibility that the scholarships that pay health insurance premiums may be taxable income, and I tried as hard as I could to find a justification that they weren’t. Ultimately, I was forced to admit defeat. I now believe that at many universities the scholarships that pay grad student health insurance premiums are taxable income. However, I still fervently want to change my position on this, so if you have any evidence that this is not a lie after all, I want to hear it!
It would be logical if the portion of our income that pays our health insurance premiums were not taxed, because that is how that portion of employee pay is treated when the premiums are paid through payroll deductions. However, the grad students that are not full-fledged university employees (I’ve only heard of a few universities where that is the case – virtually all grad students are primarily students and some of them only secondarily employees) are not paying the premiums through payroll tax but rather through their student accounts. (Grad students who are employees and do pay their insurance premiums through payroll deductions might be able to take a tax deduction on the income that pays the premium.)
The great majority of grad students have health insurance premiums posted to their student accounts alongside their tuition and other required fees. Then, scholarships are posted to the account to pay all those fees. Scholarships do not have to be included in our gross taxable income if they are completely balanced out by qualified education expenses, but excess scholarship money is taxable. The key point to understand is that health insurance premiums may not be qualified education expenses.
IRS Publication 970 Chapter 1 (p. 6) states:
Qualified education expenses. For purposes of tax-free scholarships and fellowship grants, these are expenses for:
- Tuition and fees required to enroll at or attend an eligible educational institution; and
- Course-related expenses, such as fees, books, supplies, and equipment that are required for the courses at the eligible educational institution. These items must be required of all students in your course of instruction.
Expenses that don’t qualify. Qualified education expenses don’t include the cost of:
- Room and board,
- Travel,
- Research,
- Clerical help,
- or Equipment and other expenses that aren’t required for enrollment in or attendance at an eligible educational institution.
You can see that health insurance is not explicitly listed as a qualified education expense or excluded from being a qualified education expense. The key to determining whether it is a qualified education expense or not is likely whether it is classified as a required fee.
At my alma mater, every student was required to have health insurance. While health insurance was offered by the university, it was not required that we buy it through the university. In that situation, I don’t think that our health insurance premium was a qualified education expense. This point is absolutely debatable, and I have debated it with my husband, a CPA and staff member at my university, friends, and online commenters, generally without coming to a conclusion that is fully satisfactory to both sides.
Further Reading: Disagreement over Grad Student Health Insurance Taxes
Think about this extreme case as a test: If a student bought insurance independently that met his university’s requirement, would the premium for that insurance be a qualified education expense for the purpose of making scholarship or fellowship income tax-free?
It may be the case that other universities require their graduate students to buy health insurance from the university as a condition of enrollment. Those health insurance premium would be a required fee and therefore a qualified education expense. The scholarships that pay health insurance premiums at those universities could therefore become tax-free for the students. How universities provide health insurance for their students is currently a rapidly changing landscape due to the Affordable Care Act, so this designation could even change from one year to the next at the same university. If you are receiving a scholarship that pays your health insurance premium, be sure to check each year to see whether it is a required fee.
Whether health insurance premiums at universities are qualified education expenses for the purpose of making a scholarship tax-free is a confusing question, even for the IRS. Kathleen shared in a comment below (from 3/27/2016) that she talked with an IRS helpline agent who confirmed that at her university the health insurance premium was a qualified education expense for the purpose of making a scholarship tax-free. I also called the IRS helpline about this issue on 4/1/2016. At first, the agent I spoke with stated that the health insurance premium was a qualified education expense, then after better understanding the scenario at my own alma mater she reversed her position to say that it wasn’t. After further discussion, we left the conversation with her leaning toward the premium not being a qualified fee, but not completely sure. With this confusing and conflicting feedback from IRS helpline agents (who have no more information available to them than what is public), perhaps it can be called a gray area. (If you have called the helpline about this issue, please leave a comment on what you were told!)
If you decide to make the scholarship that pays your health insurance premium tax-free, be prepared to justify to the IRS (if it asks) that your health insurance premium was a required fee with written documentation of your university’s policies.
A quick note on 1098-Ts: A student’s health insurance premium should not be listed in Box 1 or 2, which is one point of reference for determining the amount of qualified education expenses a student has in the course of a year that the IRS may rely on. (Please add a comment if your university does list the premium in Box 1 or 2.) It is acceptable to include more (or fewer) qualified education expenses in your tax calculations than what is listed on your 1098-T, especially because of the varying definitions of a qualified education expense.
The 1098-T Instructions state (p. 3):
Qualified tuition and related expenses. Qualified tuition and related expenses are tuition, fees, and course materials required for a student to be enrolled at or attend an eligible educational institution.
The following are not qualified tuition and related expenses.
- Amounts paid for any course or other education involving sports, games, or hobbies, unless the course or other education is part of the student’s degree program or is taken to acquire or improve job skills.
- Charges and fees for room, board, insurance, medical expenses (including student health fees), transportation, and similar personal, living, or family expenses.
Tax lie #4 and tax lie #5 expand on why portions of a grad student’s taxable income may not be associated with official tax forms or be subject to tax withholding. See the tax lies home page for a full list of tax lies that graduate students should not fall for.
We at Grad Student Finances are not tax professionals, and none of the content in this section should be taken as advice for tax purposes.
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Hello! I have seen a lot of different sources, but a university representative from my school contacted the IRS and was given this explanation:
Tim was correct that student health expenses cannot be used as a tax credit or deduction, however that is only relevant if those fees were paid by the student out of pocket (ie by credit card, debit card, check or loan). Instead, these expenses are paid for by the scholarship. The question therefore, is whether the scholarship money that paid for the student health expenses is tax-free. That determination is not based on whether the expense is a qualified education expense, but rather that the expenses were required for all students of the institution. Since student health insurance and student health center fees are required of all students for enrollment, then the scholarship used to pay for that should be tax-free.
What this means is that you should not be taxed on the difference between Box 5 and Box 2 on your 1098-T. The IRS agent said that this is the correct course of action, and will not raise any red flags because scholarship money can be used for books, etc that would also not be counted in Box 2. On TurboTax, while entering your 1098-T under boxes 1-2 you can click “What if this is not what I paid to this school?”. In there you can put in the full amount of the scholarship used to pay for graduate school tuition, including the student health fees, ie the amount in Box 5.
If you scroll down here:
http://www.irs.gov/Individuals/Qualified-Ed-Expenses
You can see that qualified education expenses are not relevant to tax-free funds, ie scholarships.
“Expenses Cannot Be Paid with Tax-Free Funds
You cannot claim a credit for education expenses paid with tax-free funds. You must reduce the amount of expenses paid with tax-free grants, scholarships and fellowships and other tax-free education help.”
And if you look here:
http://www.irs.gov/taxtopics/tc421.html
You can see that the scholarship is tax-free if the scholarship is used for fees required for enrollment.
And if you look here:
http://www.hopkinsmedicine.org/som/StudentInsurance/PhD
You can see that health insurance is required for all PhD students, and that the student health center fees are required for all students regardless of where they are receiving their insurance.
Graduate student stipends are a unique beast, so it’s understandable that even tax professionals unfamiliar with graduate school finances can get it wrong. Since I myself am not a tax professional, you don’t have to take my word for it. Call the IRS at 800-829-1040 and enter the extensions, 2,2, 4, and then 1 to ask 1040-related questions. I had less than a 5 minute wait time and the IRS person focused on asking whether the scholarship money used was required for enrollment, and confirmed that it did not matter if it was used for student health insurance and fees.
Thanks for your detailed and well-resourced comment!
I think part of the confusion here is that “qualified education expenses” is a term that is defined differently based on the tax break you’re trying to receive – the “qualified education expenses” for the Lifetime Learning Credit are not necessarily the same as the “qualified education expenses” for the Tuition and Fees Deduction, etc., even though the lists overlap. So I like that you are focusing on Tax Topic 421 and Publication 970 Chapter 1, which is the chapter relevant to tax-free scholarships and fellowships. Health insurance and fees, while explicitly excluded from being “qualified education expenses” for some of the other education credits and deductions, do not appear in the included or excluded list of qualified education expenses in Publication 970 Chapter 1.
So I think this is a valid argument for why scholarships that pay student health fees should be tax-free. However, I’m not sure the same applies to scholarships that pay health insurance premiums. While health insurance is required to be enrolled at a university, at least at my alma mater we were not required to buy the university health insurance. However, we would not receive the scholarship if we did not enroll in the university health insurance plan, so it’s a bit of a chicken and egg scenario. I thought this was the case everywhere. Am I reading the JHU page you linked correctly that students cannot opt out of the university health insurance (only opt out their family members if they are covered elsewhere)? The first paragraph seems to strongly state that it is required, but the last paragraph leaves open the possibility that a student would not enroll. If the student cannot opt out, I also agree that it is a required fee and the scholarship that pays it should be tax-free.
I will call the IRS hotline to chat about this. However, having called the hotline about other grad student pay-related issues in the past, I have to say that I don’t completely trust the customer service agents to know what is correct in these specialized situations. I’ve gotten different answers to the same question by talking with different agents. I would be much more comfortable to see health fees and health insurance premiums explicitly appear in the list of qualified education expenses (or not qualified education expenses) in Publication 970 Chapter 1 or Tax Topic 421. But if I talk with an agent who seems very knowledgable and confident, I will keep an open mind! Perhaps in a future year the publication will be updated to clarify.
Thanks again for your great comment! I hope that I am swayed to reverse my position on this issue because I certainly don’t want graduate students to pay too much in tax based on my conservative reading!
Fun update: The agent I spoke with was not sure but leaning toward the scholarship that pays the health insurance premium to not be tax-free. We talked about it for a looooong time; it took her a while to understand the scenario, so after initially saying it would be tax-free and I kind of argued her out of it being tax-free and then partway back in. (They don’t have any info at their disposal that you can’t find in the publications, tax topics, interactive tax assistant, etc.) I think in the case that buying health insurance through the university is required it would be a QEE but not in the case that you can opt to use outside insurance. However, the agent was really heavily deferring to the university’s definition of a QEE as it appears on the 1098-T, which I don’t think is necessarily reliable because the definition of a QEE varies so much depending on what you are trying to use the expense for. I might give my alma mater a call to ask how they decide what is and is not a QEE for the purpose of the 1098-T. I’m curious if you had a similar conversation with the agent you spoke with as I did or if from the start you said that buying health insurance through the university is required?
I updated the post to reflect the case when students are required to buy health insurance through the university and also more of the debate/gray area around this issue. Thanks again for your input, Kathleen!
Great post and comments! The other question about this and a bunch of others is whether there would actually be any repercussions of not paying taxes on a stipend/fellowship that flows from the school or government, directly to cover health care expenses. The current audit rate I have seen bandied about is less than 1 in 100, and it is highly skewed towards the super wealthy and those reporting 0 income (types of individuals that do not include grad students who file their taxes honestly: http://www.sfchronicle.com/business/networth/article/IRS-income-tax-audit-chances-are-slim-except-for-6202608.php) The fact that you and the other student who did digging on this got multiple answers suggests that the answer is not clear, anyways. For the health care which is required at my school – I did not undertake the effort to back it out of my fellowship income/expenses. I am confident that if I do win the lottery and get audited (/s), it won’t be because of something like not paying tax on my fellowship income that was then used to cover required health care expenses. Food for thought….
Thanks for your comment, Ben! I hope you can appreciate that I am doing my best to help graduate students prepare their tax returns accurately and fairly, and that I really can’t advocate from this platform for them to intentionally misrepresent their income. Where there is a gray area, there is a gray area of course. I have anecdotally heard of (former) grad students being audited and a personal friend was questioned by the IRS about his (correctly reported) grad student income, so while I’m sure the chance of being ‘caught’ is rare it is non-zero and unfortunately honest mistakes are penalized like intentional ones.
Believe me, the auditors are not as untrained as the barely over minimum wage employees that answer the phones. When IRS first employed phone answerers they were given a list of 20 most common questions and answers and had no tax experience. It is somewhat better now, but they don’t stand behind their own answers. Go to the publications, and even better to the regs. You talk of the honest grad students while advocating cheating taxes. Slippery slope. IRS is going afterEIC abuse and education credit abuse specifically.
I think your “extreme case” leaves something out. If a student bought insurance independently that met his university’s requirement, *would he get the value of the school’s insurance premium added to his paycheck?* If no, I don’t see how the insurance premium that the school pays to insure its students could be considered income for any individual student. By that logic, students should be taxed on the liability insurance premiums the school pays and the water bills the school pays and the….
Hey sorry for missing your comment earlier; it was caught by the spam filter.
I’m not sure of the connection you are drawing between income and qualified education expenses. That thought experiment is asking whether independently purchased insurance that fulfills a university requirement would be a considered a “required fee” and doesn’t directly relate to the student’s income.
Emily, Kathleen, and Ben– thank you *very much* for your extraordinary attention to this issue. For about a year it’s perplexed me, and I thought I was the only one worrying about it. The internet is a perfect place to find kindred souls!!
Just to add a tiny wrinkle to the conversation, I attended a grad student tax prep workshop last year at my alma mater (UChicago.) The university representative there told us quite explicitly that we might indeed need to pay taxes on the health insurance premiums that the university paid for us.
(Our scenario is similar to those described above: for those of us blessed enough to be on grad scholarship, the university simply pays for us to be on the student health plan. We never see the money; it just shows up as an expense paid on our bursar bill. We can decline to accept university insurance and the accompanying subsidy, but then we need to prove that we have some alternative, equivalent insurance– insurance *is* a requirement for enrolling.)
Anyway, I thought it was pretty interesting that the university officials themselves were advising us to report it. With, of course, the usual caveats about how this wasn’t legal advice. Right now I am debating whether I should go back, do amended returns, and re – file everything from the (very many) years of graduate school when I *didn’t* report the health insurance premiums as taxable income. Dunno.
Haha yes this is a bit of an esoteric topic, but I think it’s captivating for people who are used to being able to find the “right” answer and do the “right” thing!
That’s very nice that the person running the tax prep workshop gave the students at UChicago a firm answer on this question. Some of the questions in this area come from the university’s individual policies for health insurance.
Also– let me tell you the advice I received from a friend who is a professor of tax law at a famous law school. She said — this is pretty much a direct quote — “As long as you have a halfway reasonable argument for believing what you believe, the IRS won’t penalize you harshly in an audit. File your taxes resolving any ambiguities in your own favor, and let the IRS figure it out later.”
Comfort for the fears of an audit, not so much comfort for the fear that we’re just not following the rules right and being fair to our fellow citizens.
It’s easy to make mistakes with taxes so I hope your friend is right about the leniency! I certainly have ammunition for an argument either way on this (and other non-compensatory pay-related) issue!
I am not sure if this is still an active page, but I have a question to pose with some recent rulings about graduate student employment status. While I don’t know much about taxes, I agree with the information here that in the past, the scholarship received for heath care should be taxable income. I am curious, however, if anything changes due to the August 23, 2016 ruling by the NLRB that graduate students are considered employees. The ruling was to give students the right to unionize, but can it effect this issue as well? If graduate students are employees, then their employer (the university) is providing them benefits. According to the IRS, those benefits do not have to be taxed. https://www.irs.gov/businesses/small-businesses-self-employed/employee-benefits. Do you have an opinion on this? I really want to file correctly and this new development could changes things in my mind, but I could be completely off.
Great question! I don’t know the answer for sure. I have observed that what makes a person an “employee” with respect to one area does not necessarily translate to others. That said, your reasoning makes sense to me as well.
I think that if your idea is correct, the cost of the health insurance benefit would show up on the student’s W-2. https://www.irs.gov/uac/reporting-employer-provided-health-coverage-on-form-w-2 In fact, I recently learned of one university that reports this way. The page I linked to says that the employer contribution is not taxable when reported this way (informational only). But if the scholarship shows up in the student account/on the 1098-T (without the cost of the insurance being included as a qualified education expense), I think the argument in this article would still apply.
Great insight. Thank you!
Things are more complicated in my situation. Our university only partly provides scholarships and insurance fee coverage.If the grad insurance awards are taxable, and how much?
For example, the tuition is $25000 corresponding to 1098-T Box2, the insurance fee is $2000 , and total $25500 corresponding to Box5 include the $24000 scholarship and the $1500 insurance award.
Ideally, education expense is 25000- 24000=1000 (~200 credits), and taxable income from insurance awards is 1500 (~150 taxes). However, I have no way to separate this in software like Turbotax. Insurance awards are not supposed to pay tuition, but the software simply subtract Box2 from Box5 then get additional 500 income (~50 taxes). I not only lose credits but also get more taxes, it is not so fair.
Hi, Great post! Would it be possible to count the insurance premium under medical expense deductions on taxes? Usually for graduate students this is is more than 10% of their income. At least that is the case for me (health insurance is about 4k and I make a little under 30k). I wonder if this would be okay, since it is technically counting as taxable income as it is not an educational expense. And that income you used (even thought processed automatically) to pay the health insurance premium.
Hi Abigail, I’m sorry, I thought I had taken this post down! I actually changed my position. Read: http://pfforphds.com/prepare-grad-student-tax-return/ Best, Emily