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Administrative Procedure 8.561 Administrative Procedure 8.561



Title

Tax Treatment of Non-Service Financial Assistance for Individuals

Header

Administrative Procedure Chapter 8, Business and Finance
Administrative Procedure AP 8.561, Tax Treatment of Non-Service Financial Assistance for Individuals
Effective Date:  February 2015
Prior Dates Amended:  None.  This is a new procedure.
Responsible Office: Office of the Vice President for Budget and Finance/Chief Financial Officer
Governing Board and/or Executive Policy: EP 1.102, Authority to Manage and Control the Operations of the Campus
Review Date:  August 2018

I. Purpose

To address the tax treatment of financial assistance provided to/for individuals who are not required to perform services in exchange for the financial assistance they receive, and who are not regular employees. 

Non-Service Financial Assistance (NSFA) is generally considered income by the Internal Revenue Service (IRS), unless an Internal Revenue Code or tax treaty exemption can be applied.  Scholarships and fellowships are the most common form of NSFA at educational institutions, and may consist of tuition waivers, as well as payments for fees, room, board, and many other types of expenses, including travel costs.

All scholarship and fellowship payments made to or on behalf of University of Hawai‘i (UH) students must be processed through UH.

II. Definitions

A.  Fellowship is defined as an amount paid for the benefit of an individual to aid in the pursuit of study or research.  An example of a fellowship is a stipend awarded to a post-doctoral fellow for the purpose of aiding the post-doctoral fellow’s research.

B.  General Program Expense is defined as any costs supporting activities of educating or instructing students for imparting knowledge or skill that fulfills the purpose of the academic program. 

C.  General Welfare Exclusion (GWE) is a terminology that the IRS has accepted to exempt gross income from individuals who received payments under governmentally provided social benefit programs for the promotion of the general welfare.  To qualify for this exclusion, the payments must: (1) be made to individuals; (2) be made from a governmental fund; (3) be for the promotion of the general welfare, based on need –i.e., individual or family need; and (4) not represent compensation for services.

D.  Nonresident Alien is defined as any individual from a foreign country who is not a permanent resident or a resident alien.

E.  Permanent Resident Alien is defined as a lawful permanent resident of the United States at any time if the person has been given the privilege, according to the immigration laws, of residing permanently in the United States as an immigrant. The person generally has this status if the U.S. Citizenship and Immigration Services (USCIS) (or its predecessor organization) has issued an alien registration card, also known as a “green card.” The person continues to have resident status under this test unless the status is taken away or is administratively or judicially determined to have been abandoned.

F.  Resident Alien is defined as a status a foreign person attained by obtaining permanent resident status as defined earlier or being physically present in the United States for a specified time under the substantial presence test as prescribed by the IRS.  Under the IRS rules, to meet the substantial presence test, an individual must be physically present in the United States for at least: (1) 31 days during the current calendar year, and (2) 183 days during the 3 year period that includes the current year and each of the two years before the current year.  Individuals with F-1 visa status will be exempt from the substantial presence test for the first five years and J-1 visa status individuals will be exempt for the first 2 years in the preceding 6 calendar years.

G.  Scholarship is defined as an amount paid or allowed to, or for the benefit of, a student (whether a primary/secondary school student, undergraduate, or graduate) at an educational institution to aid in the pursuit of his or her studies.  An example of a scholarship is the UH Regents and Presidential Scholarship awarded to outstanding UH undergraduate students.  This scholarship provides a four-year tuition waiver, a $4,000 allowance, and one-time travel grant of $2,000.

H.  Stipend is defined as a fixed sum of money paid periodically for services or to defray expenses. A stipend may include, but is not limited to, scholarship, fellowship, honorarium, prize, awards, etc.  As a result, tax treatment may differ based on the purpose of the stipend payment.

III. Administrative Procedure

A.  Scholarship and Fellowship Payments to UH Students

    1.  All scholarship and fellowship payments made to or on behalf of UH students must be processed through UH as described below: 

        a.  U.S. Citizens, Permanent Resident Aliens, and Resident Alien Students – All scholarship and fellowship payments for qualified educational expenses paid to a U.S. citizen, permanent resident alien, or resident alien student enrolled at the University of Hawai‘i, shall be processed through the Banner student information system (Banner).  However, payments for non-qualified scholarship and fellowship to UH students shall be processed either by the UH Casher’s Office through Banner or by the UH Disbursing Office through the Kuali Financial System (KFS).

        b.  Nonresident Alien Students – Similarly, all qualified education expenses should be processed through the Banner student information system.  Non-qualified scholarship and fellowship payments paid to nonresident alien students enrolled at the University of Hawai‘i shall be processed by the UH Disbursing Office through KFS, to comply with tax withholding and reporting requirements.

        c.  All scholarship and fellowship payments shall be disclosed to the student payee’s home campus Financial Aid Office as required by federal Title IV regulations.

Examples of situations that do not qualify as a scholarship or fellowship:

        - A payment for services is not considered a scholarship or fellowship.  If payment is contingent on services being performed, the payment cannot be classified as a scholarship or fellowship.

        - General program expenses incurred by a scholarship or fellowship program that do not benefit a specific individual (such as beverages provided at an informational community meeting or a bus/transportation service that is open to any participant) are not considered part of an individual scholarship/fellowship.  However, if the expense is to support a specific recipient (such as payments for an airline ticket or lodging), the expense is likely a scholarship/fellowship (provided all other scholarship/fellowship requirements are met) unless the activity resulting in the expense is part of an official UH course curriculum, the activity is specifically described in the class catalog, or UH Chartered Student Organization. Please see FAQs posted on Financial Management Office – Tax Services website for examples.

B.  Qualified and Non-Qualified Scholarships/Fellowships

    1.  Qualified Scholarships/Fellowships

        a.  A qualified scholarship is not considered income to a recipient, and no reporting or withholding is required.  A scholarship and/or fellowship are considered “qualified” if the following conditions are met:

            (1)  The recipient must be a candidate for a degree at an educational institution 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 (this includes students who attend a primary or secondary school or are pursuing a degree at a college or university);

            (2)  The scholarship or fellowship must be for the purpose of conducting study or research at an educational institution; and

            (3)  The scholarship or fellowship must be used for tuition, fees, books, supplies, and equipment required for enrollment or attendance at the educational institution (i.e., required for all students in the course at the educational institution).

    2.  Non-Qualified Scholarships/Fellowships

        a.  A non-qualified scholarship/fellowship is considered income, but is only reportable (and possibly withholdable) by UH for nonresident aliens.  Accountable plan rules may not be applied to exclude income from any expense payments (including travel expenses) that qualify as scholarship/fellowship.  Thus, all non-qualified scholarship/ fellowship travel expense payments are considered income regardless of substantiation.
 
        b.  A scholarship and/or fellowship is considered “non-qualified” if it does not meet the definition of a qualified scholarship or fellowship.  Non-qualified scholarships/fellowships are often provided for room, board, and other types of expenses, such as travel costs.

        - An example of a non-qualified scholarship payment is the $4,000 allowance (unless the allowance is used for tuition or other qualified expenses) and $2,000 travel grant provided by the UH Regents and Presidential Scholarship discussed in Section II.G., above.  Other examples of non-qualified scholarship payments may include the assistance provided by programs such as TRIO, Upward Bound, Talent Search, and GEAR UP, that provide counseling and tutoring services, travel expenses, etc., to eligible high school students. 

C.  Tax Residency Determination – The tax treatment of a non-qualified scholarship/fellowship payment is governed by different sections of the Internal Revenue Service Code, depending on whether a recipient is a U.S. citizen, permanent resident alien, resident alien, or nonresident alien.  This necessitates the need to determine the tax residency of individuals who are not U.S. citizens or permanent resident aliens, by having the individual complete the Substantial Presence Test (SPT) on the UH Form WH-1.  If an individual passes the SPT, he/she is categorized as a resident alien and may be treated in the same manner as a U.S. citizen or permanent resident alien.  If an individual does not pass the SPT, he/she is categorized as a nonresident alien.

D.  Tax Treatment of Qualified Scholarships/Fellowships – U.S. Citizens, Permanent Resident Aliens, Resident Aliens and Nonresident Aliens

    1.  Qualified scholarship/fellowship payments are excluded from a recipient’s income.  There is no requirement for reporting on an IRS Form 1099-Misc or IRS Form 1042-S, and no withholding is required for nonresident aliens.

        - An example of a qualified scholarship is the tuition waiver provided by the UH Regents and Presidential Scholarship discussed in Section II.G., above.

E.  Tax Treatment of Non-Qualified Scholarships/Fellowships – U.S. Citizens, Permanent Resident Aliens and Resident Aliens

    1.  Non-qualified scholarship/fellowship payments are not required to be reported on an IRS Form 1099-Misc.  However, programs are responsible for responding to any scholarship/fellowship recipient inquiries regarding the amount of financial assistance provided to the recipient.  When welcome/informational letters are first sent to recipients informing them of their financial assistance, it is recommended that the letters include language similar to the following: “If you require financial information regarding the financial assistance and/or benefits you will be receiving, please contact [insert name of appropriate program personnel].”  Programs (respective departments) at UH are responsible for responding to any scholarship/fellowship recipient inquiries regarding the amount of financial assistance provided to the recipient.

    2.  A disbursement voucher (DV) should be processed through KFS to pay an individual for non-qualified scholarships/fellowships.

    3.  If payment to a recipient is impractical and a third-party payment method is used instead, financial assistance information for each individual recipient will not be available in the UH payment records.  A third-party payment is any payment that is not paid directly to a recipient, such as when: (1) a cash advance is given to a principal investigator or other authorized employee who in turn pays recipients cash or provides recipients with services or goods, or (2) a vendor is paid to provide services/goods (such as airline tickets, accommodations, food, gift cards, etc.) to recipients.  In order for programs to respond to recipients’ requests for information, it is recommended that the amounts paid on behalf of each recipient be tracked.  An example of a spreadsheet template can be requested through Financial Management Office – Tax Management.  If a program chooses not to track the amounts actually provided to each recipient, the program will still be responsible for providing recipients with this information if requested.

    4.  Certain types of non-qualified scholarship/fellowship payments may be excluded from a recipient’s income.  If a program believes that certain payments may qualify under the General Welfare Exclusion (GWE) (or other applicable exclusion), the program may inform the recipient about the GWE and suggest that he/she consult with his/her own tax advisor to determine whether the exclusion is applicable.  The ability to apply the GWE depends on a recipient’s individual financial circumstances. 

F.  Tax Treatment of Non-Qualified Scholarships/Fellowships – Nonresident Aliens

    1.  Non-qualified scholarship/fellowship payments that are U.S. source income (meaning that the payment is made for an activity that occurs in the U.S.) may be subject to tax withholding, and must be reported on an IRS Form 1042-S regardless of the amount paid or whether the tax withholding rate is reduced or eliminated.

    2.  A disbursement voucher (DV) should be processed through KFS to pay an individual.  Submit all payment requests for nonresident aliens to UH Disbursing for the appropriate tax reporting and/or withholding.  Tax withholding reduces the amount paid to an individual.  For example, if 30% tax withholding is required, the individual only receives 70% of the intended payment.

G.  Reductions/Exclusions to Tax Withholding on Non-Qualified Scholarships/ Fellowships for Nonresident Aliens

    1.  Income Source – Only U.S. source income is subject to U.S. taxation.  If UH makes a payment for an activity occurring outside of the U.S., it is considered “foreign source” income, which is not reportable to the IRS and is not subject to tax withholding.

    2.  Visa Status – The standard statutory tax withholding rate is 30%.  If the recipient is a candidate for a degree on an F, J, M, or Q visa, the tax withholding rate may be reduced to 14%. 

    3.  Tax Treaty – The amount of withholding may be reduced or eliminated if there is an applicable tax treaty.  In order for a recipient to claim a reduced or eliminated withholding rate, programs must obtain an IRS Form W-8BEN from the recipient, and submit the form to UH Disbursing. 

    4.  If the funding source is a U.S. Agency for International Development (USAID) grant and the payment is for lodging or meals for a program in the U.S., the withholding rate can be reduced to 0%.  A signed statement by the Principal Investigator, such as “I certify that the [name of grant] is funded by USAID”, must accompany the payment document.

    5.  GWE – While the GWE for need-based programs (discussed in Section E.4, above) may ultimately reduce a nonresident alien recipient’s income when his/her personal tax return is filed, UH cannot make a determination as to whether the GWE applies, because such a determination involves recipients’ individual financial circumstances.  UH will therefore continue to report and/or withhold the payments on an IRS Form 1042-S.

H.  Third-Party Payments of Non-Qualified Scholarship/Fellowship for Nonresident Aliens

    1.  For third party payments of non-qualified scholarship/fellowship to nonresident aliens, the program will be responsible for:

        a.  Contacting the Disbursing Office, A/P Supervisor or Senior Pre-Audit Clerk in advance to establish a special vendor code and assist as necessary in processing the payment.

        b.  Collecting and forwarding the recipient’s UH WH-1 form and related supporting documentation to the Disbursing Office for assessment.  Upon completion, Disbursing will advise the department of the tax withholding rate for the payment and grossing up the payment amount (contact Disbursing Office if assistance is required).

        c.  Submit invoices and a summary report directly to the Disbursing Office as soon as practicable to ensure timely payment of tax withholding to the Internal Revenue Service (IRS).

            (1)  Summary report spreadsheet should include the following information for each participant:

                  (a)  Last Name, First Name, Middle Initial

                  (b)  US SSN/ITIN (if available)

                  (c)  Current mailing address

                  (d)  Pro Rata amount for the individual

            (2)  The purpose of the summary report is to report each recipient’s amount on IRS Form 1042-S at the end of the calendar year.

        d.  Program responsibilities for the following third-party payment situations are explained below:

            (1)  Cash Payment by a Program – Cash advances to Nonresident aliens are not permitted by the UH.

            (2)  Gross Up Method and Tax Withholding on a Vendor Payment Made by UH.

                  (a)  The following scenarios are examples illustrating the mathematical calculations for the proper grossing-up of the federal tax that is required to be withheld. 

        - Scenario 1 (30%):  If $100 is due the vendor, divide $100 by 70% (.70) = $142.86.  $142.86 is the amount the program must pay.  $100 is paid to the vendor, and $42.86 is the “withheld tax” paid to the IRS [30% of $142.86]

        - Scenario 2 (14%):  $100 is due the vendor, divide $100 by 86% (.86) = $116.28.  $116.28 is the amount the program must pay $100 is paid to the vendor, and
$16.28 is the “withheld tax” paid to the IRS [14% of $116.28]

                  (b)  The tax paid to the IRS when an amount is grossed up is more than the amount that would have been withheld on a payment made to a recipient, because the total taxable amount includes the tax paid on behalf of the nonresident alien.  For example, in the first scenario, $42.86 is more than the $30 that would normally be withheld on a $100 payment, because tax must also be paid on the $30 tax that is being paid for the nonresident alien.

                  (c)  If a single payment is made to a vendor for assistance that will be provided to multiple recipients (who have different tax residency statuses and/or withholding rates), the gross up calculation must be performed for each individual for whom the withholding is required.

I.  Tax Treatment for Scholarship and Fellowship Matrix

Refer to AP 8.561 Attachment 1, Tax Treatment for Scholarship and Fellowship Matrix.

J.  PRIZES AND AWARDS

    1.  If a payment is based on a past accomplishment or activity or is received as the result of entering a contest, it is generally considered a prize or award, rather than a scholarship/fellowship, which is generally awarded for future or continuing educational activity (such as for future studies or participation in an educational program).  A recipient of a prize or award must complete an IRS Form W-9 (U.S. citizens and permanent resident aliens) or a UH Form WH-1 (resident aliens and nonresident aliens).

    2.  U.S. Citizens, Permanent Resident Aliens, and Resident Aliens – A payment of $600 or greater from all UH campuses for the same person (or cumulative payments totaling $600 or greater for a calendar year) must be reported on an IRS Form 1099-Misc.  Accountable plan rules may not be applied to travel expenses that are classified as a prize or award, and all such payments are included as income on an IRS Form 1099-Misc.  Merchandise or products won as a prize or award are reported at their fair market value, and a description and amount must be submitted to the UH Disbursing Office along with UH Form WH-1 with the recipient’s vendor record number, for inclusion in the recipient’s IRS Form 1099-Misc. 

    3.  Nonresident Aliens – Payments for prizes or awards made to nonresident aliens shall generally be withheld at a rate of 30% unless a tax treaty applies.  The prize or award (including the value of travel expenses and merchandise or products) must be reported on an IRS Form 1042-S regardless of the amount.    If a third-party payment is made, follow the procedures outlined in Section III, H, above.  Appropriate information shall be submitted to UH Tax Management for proper analysis and processing.

K.  MISCELLANEOUS NSFA

All other types of financial assistance provided to/for an individual that do not require services and are not considered scholarships or fellowships will be treated in the same manner as a prize or award for tax reporting and/or withholding purposes.

    - Example:  If a U.S. citizen, permanent resident alien, or resident alien individual (such as post-doctoral fellows who are not classified as employees at UH) receive financial assistance to attend a conference, and the financial assistance is not classified as a business expense or non-qualified scholarship or fellowship, it is subject to reporting on an IRS Form 1099-Misc if $600 or greater.  Financial assistance provided to nonresident aliens is subject to reporting on an IRS Form 1042-S, and the tax must be withheld at the standard statutory rate of 30% unless a tax treaty applies (third-party vendor payments made for nonresident aliens must be grossed up to account for any required tax withholding).  Accountable plan rules do not apply to non-service financial assistance.

IV. Delegation of Authority

There is no administrative specific delegation of authority.

V. Contact Information

    
Financial Management Office - Tax Management at 956-7162 or kenlum@hawaii.edu Website:  http://www.fmo.hawaii.edu/tax_services/index.html

VI. References

    A. Link to superseded Executive Policies in old format https://www.hawaii.edu/policy/archives/ep/
    B. Link to Administrative Procedures in old format https://www.hawaii.edu/policy/archives/apm/sysap.php

VII. Exhibits and Appendices

Attachment 1: Tax Treatment for Scholarship and Fellowship Matrix
Attachment 2: RCUH Scholarship Fellowship Expense Summary Tracking Sheet

Approved

    Signed    
    Kalbert Young    
    February 24, 2015    
    (Date)    
    Vice President for Budget and Finance/Chief Financial Officer

Topics

Tax Treatment; Non-Service Financial Assistance; scholarship; fellowship

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