What Grant Allocations Are Excluded from California Income?

Most grants that federal law keeps out of your taxable income are also excluded from your California income, because Revenue and Taxation Code Section 17131 adopts the federal exclusion rules in Part III of Subchapter B of the Internal Revenue Code.¹ That covers qualified scholarships used for tuition, federally recognized disaster relief payments, and several pandemic-era student and business grants. California also adds a handful of its own exclusions, and it carves out a few areas where it refuses to follow federal treatment. Whether a specific grant is excluded depends on what it paid for, who received it, and whether any conditions were attached.

How California Decides What Counts

RTC 17131 incorporates the federal list of items excluded from gross income, so a grant that qualifies for a federal exclusion ordinarily qualifies in California too. The statute carries one important phrase: “except as otherwise provided.” California reserves the right to break from federal treatment, and in a few places it does. The state also conforms to the Internal Revenue Code as of a fixed date, currently January 1, 2025, so federal exclusions enacted after that date don’t automatically flow through until the legislature updates the conformity statute.²

Scholarships and Fellowship Grants

Under IRC Section 117, which California adopts, a scholarship or fellowship grant is excluded from income when the recipient is a candidate for a degree at a qualifying educational institution and uses the money for qualified tuition and related expenses.³ Qualified expenses are tuition, enrollment fees, and books, supplies, and equipment required for your courses.

Everything else is taxable. If part of your scholarship pays for a dorm, a meal plan, travel, or equipment that isn’t required for the course, that portion is income on both your federal and California returns.⁴ A scholarship that covers full cost of attendance almost always has a taxable slice.

A second condition matters: if the scholarship requires you to teach, do research, or perform other services to receive it, the amount tied to that work is taxable. The exceptions are narrow — certain military health professions scholarships, National Health Service Corps scholarships, and comprehensive student work-learning-service programs at work colleges.³

Emergency Student Aid

RTC Section 17131.22 excludes emergency financial aid grants paid to postsecondary students under the CARES Act, the Consolidated Appropriations Act of 2021, and the American Rescue Plan Act of 2021. The exclusion applies to tax years beginning on or after January 1, 2020, and before January 1, 2028, so it still covers 2027 returns.⁵ If you received one of these grants and haven’t filed for an affected year, you can still exclude it from your California return.

Disaster Relief Payments

Under IRC Section 139, qualified disaster relief payments are excluded from gross income. The exclusion reaches:

Reasonable personal, family, living, or funeral expenses incurred because of a qualified disaster;
Expenses to repair or rehabilitate a home, or replace its contents, when the damage is attributable to the disaster; and
Amounts paid by a federal, state, or local government in connection with the disaster to promote the general welfare.

The exclusion only reaches expenses not already covered by insurance or other compensation. If insurance pays to rebuild your garage and a grant covers the same repair, one of the two is taxable.⁶

A qualified disaster includes federally declared disasters, which covers most major California wildfires, mudslides, and earthquakes with FEMA designations, and also disasters that state or local authorities determine warrant government assistance even without a federal declaration.⁶ These payments are also exempt from employment taxes, which matters for the self-employed tracking net earnings.

Wildfire Mitigation Payments

California adds its own exclusion through RTC Section 17138.8. For tax years 2024 through 2028, payments received through the California Wildfire Mitigation Financial Assistance Program for work that reduces wildfire risk to a residential structure or its contents are excluded from California gross income. You must own the structure that received the mitigation work.⁷ There is no federal counterpart.

Forgiven PPP Loans and EIDL Grants

RTC Section 17131.8 excludes from California gross income both forgiven Paycheck Protection Program loan amounts and emergency EIDL grants and targeted EIDL advances, for tax years beginning on or after January 1, 2019.⁸ The programs have wound down, but if you filed a California return reporting those amounts as income before the exclusion was enacted, an amended return may recover the tax.

Grants That Are Taxable

A grant that doesn’t fit into one of the specific exclusion categories is income. The common taxable situations:

Research stipends paid to someone who isn’t a degree candidate. The IRC 117 exclusion only reaches degree candidates, so the full stipend is taxable.
Scholarship amounts spent on room, board, travel, or equipment that isn’t required for a course.
Business grants from state or local programs for operating expenses, expansion, or innovation, unless a specific statute excludes them.
Grants that require you to perform work, teach, or produce deliverables as a condition of receiving the funds. The IRS treats these as compensation.

The granting agency usually reports the payment to both the IRS and the Franchise Tax Board, so leaving a taxable grant off the return is the kind of mismatch that generates automated FTB correspondence.

Where California Won’t Follow Federal Rules

A few federal exclusions do not carry over, and this is where filers get surprised.

RTC Section 17131.4 states that the federal exclusion for employer contributions to health savings accounts under IRC Section 106(d) does not apply in California, and the same section blocks the federal exclusion for qualified small employer health reimbursement arrangements.⁹ HSA contributions that are tax-free federally can be taxable on your California return.

Under RTC Section 17140, California does not conform to the federal treatment of 529 plan distributions used for K–12 tuition. Up to $10,000 a year is tax-free federally for that purpose, but California treats those distributions as taxable income. Distributions used for qualified higher education expenses still follow the federal exclusion.¹⁰

Don’t assume a grant or benefit excluded on your federal return is automatically excluded in California. Check for a specific RTC provision that overrides the federal treatment.

Documenting the Exclusion

If you treat a grant as excluded, keep the paperwork that proves it qualifies. For educational grants, that means tuition invoices, bookstore receipts, and enrollment records. For disaster relief, keep contractor invoices, insurance correspondence, and any communication with FEMA or the granting agency.

California regulations require grant recipients to retain financial records for at least three years after notifying the granting authority that all required expenditure reports have been submitted. The Bureau of State Audits and the granting agency’s own staff can audit during that period to confirm funds were used consistently with the grant’s terms.¹¹ If the grant agreement lists allowable expenses, track your spending against those categories, and resolve any ambiguity before you spend rather than after.

1
California Legislative Information. California Revenue and Taxation Code 17131 – Items Specifically Excluded from Gross Income
2
Franchise Tax Board. California Conformity to Federal Law
3
Office of the Law Revision Counsel. 26 USC 117 – Qualified Scholarships
4
IRS. Topic No. 421, Scholarships, Fellowship Grants, and Other Grants
5
California Legislative Information. California Revenue and Taxation Code 17131.22
6
Office of the Law Revision Counsel. 26 USC 139 – Disaster Relief Payments
7
California Legislative Information. California Revenue and Taxation Code 17138.8
8
California Legislative Information. California Revenue and Taxation Code 17131.8
9
California Legislative Information. California Revenue and Taxation Code 17131.4
10
California Legislative Information. California Revenue and Taxation Code 17140
11
Legal Information Institute. California Code of Regulations Title 4 Section 7229 – Records Retention, Inspections and Audits