Accounts Payable Topic: Taxation of Prizes and Awards
Prizes and awards paid by universities generally
fall into two broad categories:
(1) prizes which are in the nature of a scholarship or fellowship;
(2) prizes, which are NOT in the nature of a scholarship or fellowship, such as prizes and awards for a competition.
For tax purposes, a scholarship or fellowship may be defined as any amount paid to an individual “for the purpose of aiding his study, training, or research”, and which does not represent compensation for personal services. Prizes in category 1 are prizes, which the grantor specifically intends to be spent by the grantee to defray the expenses of his study, training, or research.
Prizes in category 2 usually involve a payment in the nature of an award or recognition for some sort of special achievement, special skill, special knowledge, or special renown in a certain area, or can represent an award won in a contest of some sort.
Examples of prizes in category 2 would be a prize paid for winning a piano competition, a prize paid to a figure of world renown for his outstanding achievements in a certain area of research or politics, or a prize paid for winning some sort of contest.
When paying a prize in category 2, the grantor does not specifically intend that the grantee spend the prize amount “for the purpose of aiding his study, training, or research”, but instead intends the prize to be an award which recognizes the achievement or renown of the grantee and which may be spent or done with in any fashion the grantee sees fit. The intent of the grantor and the circumstances surrounding the payment of the grant determine the essential nature of the grant and what category it falls under.
Gift, Plaques & Framings presented to Employees:
Monetary gifts to employees, including gift certificates or gift cards, or anything that might be perceived as a gift, including items given as a thank you for or in recognition of services provided,cannot be purchased from any university account, EXCEPT in the following instances:
If such gift or award was awarded through a documented competitive process (Note: these payments are required to be processed through the Payroll office);
If such gift or award was presented in recognition of an employee’s retirement from the university or lengthy service to the university (more than 10 years), provided this gift or award has been approved by the appropriate dean and/or vice president and is documented on a completed host form, charged to a host account and does not exceed $250;
If the plaque, award or framed artwork was purchased for permanent display in a university owned building.
An employee achievement award is an item of tangible personal property that meets all of the following requirements.
- It is given for length of service or safety achievement.
Special note - (athletic awards given such as jewelry cannot be classified according to the IRS Code as either length of service or safety achievement award and thus cannot fall under a qualified plan award).
- It is awarded as part of a meaningful presentation.
- It is awarded under conditions and circumstances that do not create a significant likelihood of disguised pay.
There are special rules and limits as to the deductibility by the institution for employee achievement awards, which is beyond the scope of this discussion.
Under section 61 of the IRS code, prizes in category 2 are entirely includible in the gross income of the recipient. Similarly, section 74(a) of the Internal Revenue Code states the general rule that gross income includes amounts received as prizes and awards except as provided in subsection (b).
Section 74(b) of the Code excludes from gross income amounts received as prizes and awards made primarily in recognition of religious, charitable, scientific, educational, artistic, literary, or civic achievement, but only if:
(1) the recipient was selected without any action on his part to enter the contest or proceeding;
(2) the recipient is not required to render substantial future services as a condition to receiving the prize or award, and
(3) the prize or award is transferred by the payor to a governmental unit or organization described in paragraph (1) or (2) or section 170(c) of the Code (i.e., the government of a state, U.S. possession, or the District of Columbia, or a U.S. non-profit organization) pursuant to a designation made by the recipient.
If all 3 conditions named above are not met with respect to the category 2 prize, then it is fully taxable, and subject to 1099-MISC reporting by NSHE if payments are > $600.00 for the calendar year. If the recipient is an employee (including student workers) of NSHE, it must be processed on through payroll and reported as W-2 wages, and taxed accordingly.
If prizes and awards are made to a nonresident alien, they are fully reportable on form 1042-S, and subject to 30% withholding. In the case of category 2 prizes and awards, which are fully taxable to the nonresident alien recipient under the Code, tax treaties usually do not contain separate articles exempting prizes and awards from taxation. However, some treaties contain provisions about “other income” (i.e., income not mentioned by any other article of the treaty). The NRA recipient would file form W-8BEN with the payor institution to invoke his treaty benefit, and such institution would report the prize income on form 1042-S without withholding any tax. Notwithstanding, most treaties do not contain “other income” articles; and of the treaties which do, not all of them exempt such “other income” from U.S. taxation.
Prizes and awards given in the form of tangible personal property will be reported and taxed based on the cost to the institution and if not known, fair market value will be used.
The process of grossing up the payment or value of the prize or award with university funds in order to pay the nonresident alien's portion of withholding tax may create eligibility problems with NCAA, thus is not allowed.
Some things to remember:
- In summary, before accepting a prize or award, please be aware of the taxability consequences.
- Based on your individual tax situation, you should consult your tax professional to determine your tax liability.
- The University is not allowed to give tax advice.