Despite the Supreme Court’s recent decision to block President Joe Biden’s sweeping student loan forgiveness plan, hope is not entirely lost for millions of borrowers. Through various other measures, the Biden administration has managed to forgive federal loans for a significant number of individuals. However, the relief situation can get a little complicated, especially for borrowers residing in specific states.
Under most circumstances, federal student loan debt forgiven under programs, such as income-driven repayment (IDR) plans, is considered taxable income. This often results in borrowers facing a larger tax bill. However, this has temporarily changed due to the American Rescue Plan implemented during the COVID era. This law stipulates that any federal student loan debt canceled between 2021 and the end of 2025 will not be counted towards federal taxable income.
The Silver Lining of Student Loan Forgiveness
Considering the median U.S. household income of approximately $75,000, if a borrower had $20,000 in loans forgiven, their new taxable income would typically be around $95,000. This would result in a tax bill of $4,400 assuming the full $20,000 falls in the 22% tax bracket. However, thanks to the American Rescue Plan, this “tax bomb” has been effectively defused.
But as always, the devil is in the details. While most states are following the federal government’s lead, five states—Arkansas, Indiana, Mississippi, North Carolina, and Wisconsin—have chosen to impose tax on the forgiven debt. So, if you’re a resident of these states and have had your student loan forgiven last year, it will count as taxable income when you file your 2023 return.
The Current Landscape of Student Loan Forgiveness
Since taking office, Biden’s Education Department has forgiven an astounding $138 billion in student loans for 3.9 million borrowers. This has been achieved through a mix of established forgiveness programs, like IDR and Public Service Loan Forgiveness (PSLF), as well as discharging debt for those with disabilities and those who were defrauded by their higher learning institutions.
Biden’s administration also introduced a new IDR plan—SAVE, which already has 7.5 million enrollees, with 4.3 million paying $0 per month towards their loans. Yet, the quest for relief isn’t over. Although the Supreme Court blocked his initial plan, Biden’s administration is currently drafting proposed regulations to make more borrowers eligible for forgiveness.
Given these complexities, it’s advisable to consult with a tax professional if you’re a beneficiary of loan forgiveness. Tax laws have been quite fluid, undergoing significant changes over the past few years and likely to continue evolving. Borrowers who receive forgiveness typically get a 1099-C tax form to report to the IRS.
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While the fate of widespread student loan forgiveness remains uncertain, borrowers can take solace in the fact that there are still avenues for relief. The landscape of student loan forgiveness is complex and ever-changing, but with the right information and resources, borrowers can navigate these waters more confidently.
