How to start a scholarship fund: the four ways to set one up, what each costs, and the rules

The four ways to start a scholarship fund

Starting a scholarship fund means deciding who holds the money, who picks the students, and what tax benefit your donors get. The four routes answer those questions differently.

Three questions to answer first

1. Who is it for? College and trade-school students, or K-12 students? Graduates of one school, a field of study, a town? For K-12 private school tuition, tutoring and similar costs, the SGO route gives donors a federal credit no other route offers.
2. How much money, and for how long? A non-endowed fund spends the gifts themselves, so a $5,000 fund makes $5,000 of awards and is done unless it raises more. An endowed fund keeps its principal and pays awards from its earnings, which takes a much larger starting gift.
3. How much work do you want? A fund at a community foundation or school asks almost nothing of you after the gift agreement. Your own organization means a board, bookkeeping, a selection committee and an annual IRS information return (Form 990 series).

1. A named fund at a community foundation

A community foundation is a public charity that holds many named funds for donors in its region. You sign a fund agreement that sets the fund’s name (often in memory of someone), the eligibility criteria and whether the fund is endowed. The foundation invests the money, runs or oversees the application process, pays the awards and handles the tax filings.

Minimums and fees vary, so ask your local foundation. Two that publish them: the Community Foundation of Anne Arundel County opens scholarship funds at $25,000 with a 1% annual fee ($10,000 for a non-endowed fund administered by a school), and The Suffolk Foundation requires a $25,000 minimum gift to establish a named fund.

You can usually help choose recipients, within limits. A fund where the donor gives advice is normally a donor-advised fund, and donor-advised funds can’t make grants to individuals. A scholarship fund escapes that rule under IRC §4966(d)(2)(B)(ii) only if you advise solely as a member of a committee whose members the foundation appoints, you and related persons don’t control that committee, and every award is made on an objective and nondiscriminatory basis under a procedure the foundation’s board approved in advance. Community foundations set their scholarship funds up this way.

2. A fund held by a school or college

Colleges, universities, private K-12 schools and many public-school foundations accept named scholarship funds. You sign a gift agreement with your criteria, and the school’s financial aid office or scholarship committee picks the students. Minimums are set by each school. This is the simplest route when the goal is to help students at one particular school.

For K-12 private schools there is a newer alternative. From 2027, a donor can give to a Scholarship Granting Organization and get a federal tax credit instead of a deduction, and many scholarship organizations let donors direct a gift toward a particular school’s scholarship fund while the organization chooses the students. See directing a §25F gift to a school for what the rules allow.

3. Your own nonprofit or private foundation

Starting your own organization gives you the most control over the fund’s mission and criteria, and the most paperwork. You incorporate a nonprofit in your state, get an EIN, adopt bylaws and a conflict-of-interest policy, and apply to the IRS for 501(c)(3) recognition. The IRS user fee is $600 for Form 1023 and $275 for Form 1023-EZ, and the EZ form is only open to organizations that expect $50,000 or less in annual gross receipts in each of their next three years and hold $250,000 or less in assets.

The IRS then classifies the organization as either a public charity or a private foundation. A charity supported by many donors can qualify as a public charity. One funded mainly by a single family is generally a private foundation, and private foundations that give scholarships carry extra rules:

• Advance IRS approval. Grants to individuals for study are taxable expenditures unless the IRS approves the foundation’s grant procedure in advance under IRC §4945(g). The request is filed on Form 8940, which carries its own IRS user fee.
• Objective selection. Recipients must be chosen on an objective and nondiscriminatory basis, using criteria related to the purpose of the grant, by people who are not in a position to benefit from the choice (Treas. Reg. §53.4945-4(b)).
• No awards to insiders. A scholarship to a substantial contributor, a foundation manager, or their spouse, ancestors, children, grandchildren, great-grandchildren or those relatives’ spouses is self-dealing under IRC §4941 and §4946.
• Minimum payout. Each year the foundation must distribute roughly 5% of the value of its assets that are not used directly for charitable purposes (IRC §4942).
• Excise tax. A 1.39% tax on net investment income (IRC §4940), reported on Form 990-PF every year.

A public charity avoids most of those rules, but it has to keep passing the IRS public-support tests, which means raising money from the public rather than from one family.

4. For K-12: a Scholarship Granting Organization

Starting January 1, 2027, the federal Education Freedom Tax Credit (IRC §25F) gives an individual who gives cash to a qualifying Scholarship Granting Organization a dollar-for-dollar federal tax credit of up to $1,700. Under Treasury’s proposed regulations (October 2026), which donors may rely on for 2027 gifts, spouses filing jointly are treated as separate taxpayers, so a couple can reach $3,400 when each spouse makes and designates a gift. For a donor with enough federal tax liability, a $1,700 gift is fully offset by the credit. Families receive the scholarships tax-free under IRC §139K.

That incentive comes with a defined set of rules. An SGO must:

• Be a 501(c)(3) organization that is not a private foundation, so a family foundation can’t be one.
• Appear on the SGO list of a state that has opted in. Lists for 2027 are due to the IRS by February 15, 2027, and each state sets its own earlier application deadline (how to apply, state by state).
• Spend at least 90% of its income on scholarships, by the end of the year after it comes in (the 90/10 rule).
• Award scholarships to at least 10 students who don’t all attend the same school.
• Serve students from households at or below 300% of area median gross income who are eligible to enroll in a public school and who live in the state that lists it.
• Never earmark a scholarship for a particular student, and give no scholarships to disqualified persons: substantial contributors, officers and directors, selection committee members and their families.
• Keep a segregated §25F account, register in the IRS SGO portal, send donors acknowledgments by January 31 and get an annual financial and programmatic audit.

If you are starting a fund for K-12 students and want donors other than yourself, this is the route built for it. To be on a 2027 list, a new nonprofit has to be formed by January 1, 2027 (listing while your 501(c)(3) is pending). An organization that already holds a 501(c)(3) letter may be able to become an SGO without forming a new entity. And if you only want to give, you can give to an existing SGO in the SGO directory.

Rules every scholarship fund follows

• No deduction for earmarked gifts. IRS Publication 526 is direct: “You can’t deduct contributions to specific individuals,” even when the gift goes through a qualified organization “for the benefit of a specific person.” A fund can name its criteria; it can’t name its winner in advance.
• Write the criteria down before you choose. Eligibility (school, grade, field, need), how to apply, how recipients are ranked and who decides. Every route above expects selection on objective criteria.
• Keep insiders out of the winners’ list. The specific rule depends on the route: a community-foundation committee you can’t control, the private-foundation self-dealing rules, or §25F’s disqualified-person rule.
• Know how the student is taxed. Under IRS Publication 970, a scholarship is tax-free to a degree candidate (which includes a student attending a primary or secondary school) to the extent it pays tuition and required fees, books, supplies and equipment. Room and board, travel and other personal costs are taxable. §25F scholarships for qualified K-12 expenses have their own exclusion under §139K.

What it costs

Step by step

Setting up a named fund at a community foundation or school:

1. Write down who the scholarship is for, how much each award is, and how many awards a year.
2. Decide between an endowed fund (awards from earnings) and a non-endowed fund (awards from the gifts).
3. Call your community foundation or the school’s development office and ask for their minimum and fees.
4. Sign the fund agreement with your name for the fund and your criteria.
5. Make the opening gift and invite family and friends to add to it.
6. Join the selection committee if the foundation invites you, knowing it decides.

Starting your own organization takes longer: incorporate, get an EIN, adopt bylaws and policies, file Form 1023, open a bank account, register with your state’s charity regulator if required and, for a private foundation, get advance IRS approval before making the first award. For a K-12 SGO, add the state list application and the §25F operating rules, which the SGO Builder walks through.

Frequently asked questions