A Common Tax Trap with Fellowships and US Graduate Students
It’s tax season in the US and soon it will be fellowship announcement time! This post is about the overlaps of these two events, one very exciting and one very boring but that quickly becomes important as you start considering your tax burden.
If you’ve won the NSF Graduate Research Fellowship or another scholarship — congratulations on your achievement and what an honor to be selected! I imagine you have questions about your future in a Ph.D., and I’m glad some of the stress of graduate school has been relieved with this announcement.
Sometimes, fellowships like this change whether your institution withholds income taxes on portions of your stipend. I’ve seen the results of this firsthand and with others who have received the NSF GRF or similar fellowships: an unexpected tax bill in March or April!
In this article, I’m going to tell you about how taxes typically work for graduate students, why NSF GRF and fellowships may be different, and how you may need to pay quarterly taxes.
Here’s the tl;dr:
- Your university probably automatically pays taxes on your stipend if it’s in return for TA or GRA work.
- When you get a non-service fellowship award, taxes might not be automatically paid for you because your university doesn’t consider it work for them
- To avoid a huge tax bill or other complications due to non-service fellowship funds, the IRS has a calculator that lets you manually pay the tax you’ll owe every few months
- So: check with your university to see if they are automatically paying your tax (aka “withholding”)
- If not: you need to do it yourself with quarterly taxes.
Before I jump in: this post is to raise awareness only on what can be a sticky tax situation for many students. This isn’t tax advice for your unique situation. I have to simplify and make some assumptions to give examples, so make sure to get professional tax advice if you need it!
How Taxes Typically Work for Ph.D. Students in the US
Let’s quickly review how taxes work for most jobs, including graduate schools, using the fictional example of Jey. Jey works for a company (whether for a salary or hourly wage, it doesn’t matter). Every two weeks or month, the company withholds a portion of their income, paying their estimated federal and state income taxes on their behalf to the federal and state governments. Most companies are legally required to do this on the income you earn from them because you work for them.
Ph.D. and graduate students are often taxed the same way that Jey is because they are considered direct employees of the university. They perform a job for the university as a research or teaching assistant, and the university pays them for that work — so the university withholds taxes. It doesn’t matter if it’s an hourly job like serving as a grader or a fixed stipend, most graduate students are considered employees of the university when they are RAs (research assistants) or TAs (teaching assistants).
In January of the next year, Jey will need to file their US federal taxes to reconcile the differences between what is withheld and what they truly owe. Their employer will send a W2 that contains the income they received and the portion of that income that was withheld in federal taxes. Because their employer has withheld taxes for them, it significantly reduces the amount that Jey would pay out of pocket to the government to cover their taxes. Jey may only owe a little bit of money to reconcile the difference, or if they’re lucky, receive a refund.
To summarize, the university withholds taxes on wages from the employee relationship it has with its students in RA and TA positions.
Why is the NSF GRF and other Fellowships Different Than Regular Income?
Remember the nice courtesy of withholding taxes for you? Things start to get tricky with certain kinds of income sources and compensation packages available to graduate students, like those for fellowships.
Many universities do not consider NSF GRF Fellows “employees” of the university while being funded by a scholarship/gift/fellowship from an outside organization. This is because the student is not doing labor for the university through an RA or TA — a third party is paying for your tuition and stipend and you’re not in a working relationship with them over that portion of your income. This is a non-service fellowship.
When that happens, many universities will not withhold taxes on that source of fellowship income. The university becomes a pass-through to help NSF or the funder give you the money, but doesn’t deal with your tax situation.
This also can happen if a company or organization pays a one-time lump sum for an award or scholarship without the university involved. Because the university is not involved in that money (typically, these generate 1098 forms in the US, instead of a W2), it won’t withhold taxes.
All this money is considered income. Income is taxable and the federal and state governments are entitled to a portion of that money. This means you may not be withholding taxes correctly as you expect throughout the year. The most painful and obvious consequence of not withholding is that you realize in January or February that you owe the federal government more money than you expect for your tax bill. Technically, the IRS also can penalize you for not paying your taxes fast enough.
What happens if you don’t pay? First, you’ll owe a larger-than-you-thought tax bill at the end of the year (ouch). This is where things really hurt because most Ph.D. students don’t expect to save any portion of their incomes and the $ can be large depending on how much you’ve made. Two, Uncle Sam can penalize you with interest and penalties if your quarterly taxes are late/unpaid or if you underpay your taxes.
Wait, How Do I Figure Out the Withholding Issue?
I hate to hedge when talking about taxes, but the truth is that it’s not straightforward to know how a scholarship or fellowship will be classified and how much to withhold without knowing the specifics of each fellowship. Some sources of money are taxable, while others are not because they cover “qualified educational expenses”. Additionally, some universities realize this is burdensome on students and will withhold taxes on your behalf — even on NSF GRF and other fellowships. Sometimes they don’t.
Another complicating factor is that withholding amounts vary between people, even at the same salary. For instance, if you have a child/dependent, you can qualify to withhold less than the same person who has no dependent. In short, it’s complicated and I don’t know how much to tell you to withhold.
All hope is not lost, however — despite there being individual differences, most people are mostly the same. There are two ways to check this with your employer. First, examine your paystubs to see if there are taxes being withheld. If you’re being compensated for your Ph.D., this is income that is subject to being taxed, and so you should see some money withheld. This is obvious if you’re not withholding anything/a small amount, but can get confusing when 20% of your income is from a fellowship. Another good time to check is if your pay has shot up by a fair bit and you’re surprised, you should investigate how you’re being paid.
Second, you can also call HR and ask about this issue directly. They may be unwilling to commit to telling you exactly if you’re doing things right — after all, they aren’t your personal accountant. But, you can always ask what kind of tax forms are being generated for your income (a W-2 or something else). A giveaway that you may need to withhold more is that they’re making you something other than a W-2. HR can’t give you tax advice (like how much to withhold), but they can tell you if they’re making you a W-2 or another form (like a 1099-T or 1098-MISC or 1098-NEC).
The Solution: Quarterly Taxes!
So, if the university isn’t withholding taxes for you, who is? No one. Who’s responsible for paying taxes in these situations? You are. For income that is from non-standard or irregular sources, the IRS requires that you pay quarterly estimated taxes four times a year on income that isn’t withheld by someone else (like your employer).
Let me say that again — or the portions of your income that the university is not withholding, you will need to pay estimated taxes on any portion of your income that is not being withheld on behalf of your employer!
Filing quarterly estimated taxes is straightforward as far as taxes go — do the 1040-ES worksheet, make a fair guess of your tax burden in the last quarter, and pay the government taxes on that. You do this for federal taxes and for many states as well. Quarterly taxes also apply to both your salary that is untaxed (like monthly stipends from fellowships) AND any large, one-time lump payments, like a big fellowship check that is paid to you. For instance, I had to pay quarterly taxes on a fellowship I received, paid directly to me, from Snapchat.
When you file taxes the next year (beginning of 2023 for tax year 2022), you will compare what you owe with what you’ve paid and reconciled the difference when you file. Paying quarterly taxes is admittedly an administrative hassle to deal with, but does have one major upside — you won’t be so short on taxes come time for you to file. That means you decrease the likelihood you’ll owe a very large check at tax time.
Now that I’ve told you how to figure out if you owe quarterly taxes, you’ll need to actually…do them if you need to. This blog post (and her blog in general) has an excellent summary of this exact situation and how to file quarterly taxes. You can also consult with a tax professional or accountant if you have questions.
In this article, I told you how taxes typically work for graduate students like Ph.D. students, and why fellowships like the NSF GRFP and other awards may be different. To avoid the traps in this situation, you’ll need to pay quarterly taxes on fellowship income. Let me know on Twitter if you enjoyed this, and please clap and share this with friends if you found it useful!