What Is a Courtesy Letter and Does It Mean I Don’t Have to Pay Taxes?

confusion meterI think that one of the most confusing points regarding grad student taxes is the nature of the “courtesy letter.”  I have personally never received one from my university or funding agency but I know many students in my lab, department, and university who have.  You may not even be sure what you have received is a “courtesy letter” at all, but I’ll let you in on a few of it likely characteristics:

  • It’s confusingly worded.
  • It looks university/funding agency-official but not IRS-official.
  • It avoids making a definitive statement regarding whether or not you owe income taxes.
  • It may tell you that your income is not being reported to the IRS by the issuing body.

 

Basically, it’s a letter from your university or funding agency that tells you how much money they’ve given you over the course of the year, but leaves it open to your interpretation whether or not you need to report your income to the IRS or pay income tax.  I know several students who have read the letter and interpreted it as saying that they do not owe income taxes on their stipends, but that is not the case.

 

Here is the text of a courtesy letter my friend received from his funding agency (emphasis mine).  I actually think that this letter does a decent job of explaining the situation if you are familiar with the specialized vocabulary.

 

“As a _____ Fellow, your award is considered income from a non-compensatory fellowship or scholarship. Although [we are] not able to provide tax advice, the following is general information to help you comply with U.S. Internal Revenue Service (IRS) requirements. When personal services are not provided as a condition for an award, the IRS generally takes the position that grant awards are not subject to self-employment taxes, and [we are] not required to report payments on IRS Form W-2 or 1099-MISC. Accordingly, [we] did not withhold income or social security tax, and will not send you an official tax form…

 

“Please note that you may be subject to state and local taxes in addition to the federal income tax discussed in this memo. It is your responsibility to determine your individual tax liability.”

 

And this is another courtesy letter issued by my university.  It manages to say even less and includes a double negative!

 

After discussing courtesy letters in detail with an administer at my university, I have a good understanding of the circumstance in which my university would issue a courtesy letter.  While I can’t guarantee that your university or funding agency uses them the same way, I think it’s a good starting point for your tax-related research.

 

My university issues a courtesy letter when it has paid a student’s stipend with a fellowship through payroll and the student has not set up income tax withholdings1099-MISC box 3 income and courtesy letter income are from the same type of source, a fellowship or scholarship, but in the case of the 1099-MISC the student has had taxes withheld.  Receiving 1099-MISC or courtesy letter income, at least at my university, means that the student is being paid through the non-compensatory payroll system.  If the student were paid through the compensatory payroll system, she would receive a W-2.  (Compensatory payroll is associated with being an employee, though I would certainly say that grad students receiving W-2s are still more “student” than “employee.”  Compensatory means you are being compensated for your work, whereas non-compensatory or fellowship income means you are being paid for… being you, apparently.  This hearkens back to the earned income debate.)

 

My partner and I put together a guide for calculating grad student income, which can be very confusing as many students have stipend income (could be compensatory/W-2 or non-compensatory/1099-MISC/courtesy letter) as well as income that pays their tuition (likely scholarship/fellowship).  The take-home point, though, is 1) you have to file an income tax return and 2) if you received income that you didn’t have to use for qualified tuition and fees, it’s almost certainly going to be taxed.

 

If you received a courtesy letter, it’s totally understandable that you would be puzzled by its implications for your taxes.  Since you aren’t having income tax withheld, you probably should have been filing quarterly estimated taxes.  I recommend that you set up withholdings from each paycheck so that you don’t have to file estimated taxes or owe a bunch of money and fines at the end of the year.

 

Have you ever received a courtesy letter and did you understand it?  Does you university or funding agency issue courtesy letters for non-comp fellowship pay when there is no withholding like mine does?  Would you rather receive a courtesy letter or nothing whatsoever?

 

photo from Free Digital Photos 

 

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15 Responses to "What Is a Courtesy Letter and Does It Mean I Don’t Have to Pay Taxes?"

  1. Wow, talk about confusing. I remember my roommate got these while in his PhD program. People in grad school, generally, are busy enough without having to figure out something like this with their taxes. Taxes are confusing enough as it is without throwing something like this on top of it. I would follow your advice and have the money taken out of each paycheck.

    1. Emily says:

      Add the fact that many grad students have never paid taxes because either they haven’t had a high enough income to be taxed or their parents did their taxes for them and you have a recipe for disaster!

  2. S. B. says:

    I’ve never received one of these letters and I had to chuckle over the awkward wording. To generalize a bit, however, there are a lot of forms that indicate that certain data is not being reported to the IRS. For example, when you get a 1099 form from your broker, it indicates that stock sales are reported to the IRS, but that certain other transactions (e.g. option sales) are not reported to the IRS. Nonetheless, you are still responsible for reporting and paying taxes on everything, whether or not the broker is responsible for reporting it.

    1. Emily says:

      Very good point. People need to keep in mind the general principle that all income needs to be reported and will be taxed unless there is a reason for it not to be. Unfortunately, many assume the opposite – if no one tells the IRS, it’s not taxable.

  3. My old friend Bob misses his calling. He was always sprouting double-talk gibberish. My favorite ever: it’s going to rain today. Unless it doesn’t

    1. Emily says:

      It’s really frustrating that the institutions can’t make definitive statements, but it’s understandable from a liability perspective.

  4. First time I have heard of this and after reading your post it has left me more confused. I wonder they do this on purpose to confuse us?

    1. Emily says:

      Oh no – what do you still find confusing that I could explain better??

      I bet they want to send out some kind of form so that students are not constantly calling them to ask for their W-2s but they don’t want to unnecessarily involve the IRS.

  5. […] Antrobus perfectly characterized the nature of the courtesy letter: “My old friend Bob misses his calling. He was always sprouting double-talk gibberish. My […]

  6. Jose says:

    I’m not an expert on this but I would think that if it’s taxable the university would issue a 1098-T which reports on grants and other education assistance you have received that “may” be taxable. The 1098-T also reports on how much your tuition was for the tax year.

    1. Emily says:

      Please read this page.

      Again I can only speak for the way my university does things.

      The 1098-T is a useless document for the student – it is basically just a communication between the university and the IRS that the student is cc’d on. The 1098-T does not necessarily even encompass all the transactions in the Bursar account. In the case that more tuition and qualified fees are paid out of the Bursar account than the amount of scholarship money posted, a 1098-T is issued. If it was equal or the scholarships exceeded the tuition/QFs, none is issued. So you can see that it is useless for someone receiving scholarship postings equal to or above the amount of tuition/QFs, which is the case for most PhD students. Students must check their Bursar accounts to see their real income and expenses because it may or may not be captured on a 1098-T.

      However, in this post I am discussing stipends issued through payroll services, not through the Bursar account. Payroll pay will not be captured by the Bursar account and will not appear on the 1098-T even if one is issued. (I have only ever met one PhD student who was paid her stipend through her Bursar account, and she was an international student who was experiencing major hiccups getting her pay set up so being paid through the Bursar account was a backup method.) Being paid through compensatory payroll is very straightforward because the student will receive a W-2, but being paid through non-compensatory payroll means that at year end the university will issue either a 1099-MISC (if there were withholdings) or a courtesy letter (if there were no withholdings).

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  8. […] constitutes income from scholarships or fellowships and must be included alongside 1099-MISC/courtesy letter income when calculating the total scholarship and fellowship income.  (This must be added to W-2 […]

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  10. […] you received a stipend but no official tax forms, you likely had fellowship income with no income taxes withheld.  My university and some external […]

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