Since March 13, 2020, federal student loan borrowers no longer have to worry much about student loan repayments. The U.S. Department of Education froze payments and set interest at 0%. Millions of borrowers had hoped that President Biden’s debt relief plan would come true.
The payments resumed again in October of 2023. But not for very long. In February 2024, the Biden Administration canceled another $1.2 billion for 153,000 borrowers enrolled in the Saving on a Valuable Education plan.
The Biden Administration approved a new round of student loan discharge in late March 2024 for more than 78,000 students under the Public Service Loan Forgiveness (PSLF) Program that affects teachers and nurses, firefighters, Social Workers, and other civil servants, including the military.
The total amount discharged is $5.8 Billion in student loans. Since October 2021, the total amount of debt relief available under PSLF has reached $62.5 billion. This includes 871,000 borrowers. Even after this victory, student loan forgiveness may not be a clean start. The taxes that you will pay on the forgiveness of student loans can be substantial if not properly prepared.
Am I required to pay income tax on my student loan forgiveness?
According to recent Federal Student Aid Data Center figures, 43.6 millions people have federal student loans outstanding. If you are having trouble managing your payments, the idea of loan forgiveness might seem like an amazing opportunity. Students who are unable to pay their student loans may be surprised by unexpected tax bills.
The IRS considers that canceled debts such as most types of student loan debt cancellation or discharge are taxable.
The American Rescue Plan Act (2021) exempted those who worked toward forgiveness of loans from paying taxes. This measure exempted forgiven federal student loans from income taxes. It only applies to those loans that have been discharged between Jan 1, 2021 and Dec 31, 2025.
The American Rescue Plan covers all student loan repayment programs, but it only applies to federal income taxes. Although some states adopted measures similar to those for state income taxes in the past, not everyone followed.
Read Also: who qualifies for student loan forgiveness
Indiana, North Carolina, Mississippi, and Wisconsin will all tax forgiven student loan balances as income in 2023. Arkansas and California taxpayers might face the same fate – the states are currently reviewing the tax laws but have not made a decision as of February 2024.
This article originally stated that Minnesota was one of several states to declare forgiven student debt balances would be taxed. Minnesota’s lawmakers approved a change to Minn. Stat. in the recent legislative session. SS 29,0.0132, subd. The American Rescue Plan Act will be permanently adopted for the discharged student loan exclusion…Effective from the taxable year beginning after December 31st 2022. “]
Tax consequences of forgiveness of student loans after 2025
On December 31, 2025, the provisions of the American Rescue Act that deal with student loan forgiveness taxes are set to expire. On January 1, 2020, the tax treatment of student loan discharge and forgiveness programs will be determined by each program. Public Service Loan Forgiveness Federal loan borrowers working for non-profit organizations, government departments, or public service groups may be eligible for PSLF. They must work full-time with a qualifying employer for at least 10 years and have made 120 qualifying monthly payments. Borrowers can request debt cancellation after reaching these milestones.
Once the application is approved, federal loans are forgiven by the government. PSLF has been excluded from federal taxes. Income-Driven Repayment (IDR) Discharge IDR Plans are designed for federal loan holders who find it difficult to afford their payments on the standard 10-year plan. IDR plans to lengthen the loan term and base monthly payments on the borrower’s discretionary earnings.
IDR plans are available to federal loan borrowers with difficulty affording the payments required under the 10-year repayment schedule. IDR plans are designed to extend loan terms by allowing the borrower to make monthly payments based on a certain percentage of their discretionary income. Four IDR plans exist: Income-Based Repayment Income-contingent repayment (ICR) Pay As You Earn Savings for a Valuable Education (SAVE).
Borrower Defense to Repayment Discharge
Borrower Defense to Repayment is a program designed to eliminate federal student loans for borrowers whose college misled or violated state law. IRS and the U.S. Department of Treasury have published notices to clarify that Borrower Defense to Repayment loans are not taxable income.
Taxes are calculated based on your eligibility for discharge
The federal income tax will be charged if the loan is discharged before January 1, 2018. Loans that are discharged before January 1, 2018, but after December 31, 20,25, will be exempt from federal taxes. Not clear is how TPDD’s taxation in 2026 will change. Spend less to do your taxes. Here are 7 ways to file taxes for free. Tax on forgiveness of student loans for private student lenders.
Borrowers of private student loans could qualify for other programs that forgive or discharge their debts. Some private lenders may forgive loans if borrowers become permanently and totally disabled. The American Rescue Plan stipulates that forgiven student loans will also be exempted from federal income tax through 2025. State income taxes may apply.
FAQs
How do I reduce my tax liability by paying down my balance?
You can reduce your tax bill by paying down your loan debt if your expected loan discharge is after 2025. These taxable programs are calculated based on your earnings, so you may be able to pay down your debt. If you do, however, your payments could increase in the future and reduce the effectiveness.
How much tax will I have to pay due to the student loan forgiveness I received?
Use the American Institute of CPAs’ margin tax rate calculator for a quick estimate of how much tax you will owe after loan forgiveness. If you’re expecting a large bill, you can prepare by setting money aside every month in high-yielding accounts or CDs.
How will borrowers be affected if Congress extends its Rescue Plan beyond 2020?
Suppose Congress decides to extend the American Rescue Plan. In that case, borrowers who are seeking loan forgiveness under IDR discharge or other private loan-forgiveness programs, such as TPDD, will not be subject to federal income taxes. PSLF does not qualify as income, and any extension won’t affect borrowers who want to use this program for loan forgiveness.
