Rev. Rul. 73-256

Advice has been requested whether amounts received by medical students under a State's Medical Education Loan Scholarship Program are scholarships within the meaning of section 117 of the Internal Revenue Code of 1954 under the circumstances described below.

In order to increase the number of doctors in its rural areas, a State advances to its qualified residents, amounts not in excess of $10,000, to aid such residents in attending medical schools. The tuition and other fees are paid from these amounts directly to the particular school selected by the recipients. Any remaining amounts are paid directly to the students to help them meet their other expenses.

The student and the board appointed to administer the program enter into an agreement which includes a promise by the recipient to repay the amounts in five annual installments commencing one year after the completion of his medical education. The agreement further provides that for each year the recipient practices medicine in a rural area of the State, the installment due that year is to be cancelled. Therefore, by fulfilling his promise to practice five years in a rural area, the recipient is relieved of any obligation to repay the amounts advanced to him. If, for any reason, other than death, the recipient is unable to commence or continue his practice in the designated community, he is required to repay the outstanding balance of the amounts. The repayment requirements are to insure that the program accomplishes its aim of providing doctors for the rural areas of the State.

Section 61 of the Code provides that unless otherwise excluded by law, gross income means all income from whatever source derived including, but not limited to, income from discharge of indebtedness.

Subject to certain limitations and qualifications, section 117(a) of the Code provides that gross income of an individual does not include any amount received as a scholarship at an educational institution or as a fellowship grant.

Whether an amount received by an individual is excludible from his gross income under section 117(a) of the Code depends upon the facts and circumstances under which the payment is made. A scholarship or fellowship grant is defined as an amount paid or allowed to an individual for the primary purpose of furthering the education and training of the recipient in his individual capacity.

Section 1.117-4(c) of the Income Tax Regulations provides, in part, that any amount or amounts paid or allowed to, or on behalf of an individual to enable him to pursue studies or research shall not be considered to be an amount received as a scholarship or fellowship grant if such studies or research are primarily for the benefit of the grantor.

In Bingler v. Johnson, 394 U.S. 741 (1969), 1969-2 C.B. 17, the Supreme Court of the United States upheld the section 117 regulations as comporting with the ordinary understanding of scholarships and fellowships as relatively disinterested, "no-strings" educational grants, with no requirement of any substantial quid pro quo from the recipients.

Under the facts presented in this case, the amounts are cancellable on the condition that the recipient practice medicine in a rural area of the State. This condition requires a substantial quid pro quo from the recipient, in that in return for receiving a medical education, he must perform services in an area selected by the grantor. Thus, although no employment relationship exists between the grantor and the grantees, the services required do not further an educational purpose and are designed to accomplish a basic objective of the grantor. Therefore, the cancellation of the loan is primarily for the benefit of the grantor within the meaning of section 1.117-4(c) of the regulations.

Accordingly, in the instant case, the amounts received from a State under its Medical Education Loan Scholarship Program are not excludible from a recipient's gross income under the provisions of section 117(a) of the Code, but are includible in his gross income under section 61 of the Code in each taxable year to the extent that repayment of a portion of the loan is no longer required. For example, if a recipient, after receiving a total of $10,000 while attending medical school, practices medicine for 5 years in the rural areas of the State and 1/5 of the $10,000, or $2,000, is cancelled for each of the 5 years, then $2,000 is includible in his gross income for each of those years.