The college debt cancellation tax break in the COVID-19 relief program signed last week by President Joe Biden has lifted a potential hurdle to student loan debt cancellation: taxes.
The provision will not count any debt forgiveness from December 31, 2020 to January 1, 2026 as income. Under one of the existing remission programs (income-based repayment), the remitted amount is reported to the IRS as income and taxed according to the borrower’s current tax bracket.
Any debt forgiveness would not benefit borrowers if it resulted in an unaffordable tax bill, says Douglas Webber, associate professor of economics at Temple University.
“I see this as one more step towards eliminating what would not only be a big potential inconvenience, but a big public relations problem,” said Webber.
The tax measure was adapted from the Student Loan Tax Relief Act led by Sen. Bob Menendez, DN.J., and Elizabeth Warren, D-Mass. On March 6, Warren tweeted: “This paves the way for President Biden to #CancelStudentDebt without weighing down student borrowers with thousands of dollars in unexpected taxes.”
Experts say the tax relief measure could do just that.
“Given the context and all the talk about canceling loans, I think it’s likely that this will be a nod from Congress to open this door,” says Megan Coval, vice president of policy and federal relations at the National Association of Student Financial Aid Administrators.
Artem Gulish, senior policy strategist at Georgetown University Center on Education and the Workforce, said the relief program was just the start for student loan borrowers.
“It’s the first thing the Biden administration does; there is still a potential for forgiveness ”, Gulish said.
However, there is still no legislation or executive decree that answers the major questions of “if,” “How many,” Where “when” forgiveness could happen.
What your invoice might look like without tax relief
Imagine that no tax break was included in the stimulus package. Hopefully, let’s also look into a crystal ball and say you have $ 10,000 in student loan debt canceled this year. Your income is $ 68,000 (the approximate median in the United States), which means you are in the 22% tax bracket. Next year, when you pay 2021 income taxes, the canceled debt will be taxed at 22% and you owe $ 2,200 on it.
Without the tax break, the pardon could also have pushed you into a higher tax bracket. Suppose you earned $ 85,525 – the top of the 22% tax bracket – and received $ 10,000 in rebate, which took you to the next bracket. Since this is a progressive tax system, you would end up paying 22% on your income, but 24% on that amount which would spill over into the highest tax bracket ($ 2,400 in this example) .
There are additional sacrifices on the lower end of the income spectrum, says Erica Blom, senior research associate at the Urban Institute, a nonprofit research organization. Switching to another tax bracket could result in the loss of credits, such as the earned income tax credit or the child tax credit.
“It could have been as bad or worse than asking someone to cough up an extra $ 1,000 in taxes,” Blom said.
WHERE IS STUDENT LOAN FORGIVENESS
Democratic lawmakers, a group of 17 state attorneys general and consumer rights advocates have all called on Biden to cancel up to $ 50,000 in federal student loans by executive order.
The president said he was supporting a $ 10,000 general rebate for federal student loan borrowers through Congressional action. At a CNN town hall on February 16, he said he was not supporting a $ 50,000 pardon.
Biden and his team wondered if he had the power to call on the Education Department to cancel its debt through executive action. Lawyers argue that a president has this power under the Higher Education Act. However, the Education Ministry released a legal note in January stating that its secretary did not have the authority to grant a pardon.
The 42.9 million federal student loan borrowers who collectively owe the federal government $ 1.57 trillion are expected to receive a blanket remission. A $ 10,000 remission would wipe out the debt of 15 million student loan borrowers entirely, according to NerdWallet analysis of federal student loan data.
Neither of the two rebate proposals would likely benefit borrowers with private student loans or those with commercially-held federal family education loan debt, who were excluded from previous relief programs. However, the debt relief tax relief could benefit private student loan borrowers whose debts are settled through bankruptcy.
Meanwhile, federal student loan borrowers remain on an interest-free payment hiatus that began on March 13, 2020 and runs through the end of September.
EXISTING FORGIVENESS PLANS AND IMPTS
While there are debt cancellation programs, success rates and tax implications have varied. Public Service Loan Forgiveness offers tax-free debt cancellation for borrowers who are approved (only 2.2% of applicants have been approved so far, according to federal data). Loan amounts canceled as part of the borrower’s defense against repayment – used if you’ve been defrauded by your school – are not taxed. And the disability discount is not considered taxable income either.
Forgiveness is normally imposed for people on an income-based repayment plan, which fixes the payments at a portion of your income and cancels the debt after 20 or 25 years. So far, only 32 borrowers have received a discount through these repayment programs, according to March 2021 data obtained by the National Consumer Law Center.
But most borrowers currently enrolled in an income-based repayment plan will not be eligible for the discount until 2035 at the earliest – well past the January 1, 2026 expiration date of the waiver provision. tax in the new relief program. .
This article was provided to The Associated Press by the NerdWallet personal finance website. Anna Helhoski is a writer at NerdWallet. Email: [email protected] Twitter: @annahelhoski
This time the Stimulus package helps more college students http://bit.ly/nerdwallet-college-stimulus
2020-2021 tax brackets and federal income tax rate http://bit.ly/nerdwallet-tax-bracket
Joe Biden’s Student Loan Plan: What’s Happening Now http://bit.ly/nerdwallet-student-loan-plan
Biden Student Loan Forgiveness Could Wipe 15 Million Borrowers Debt http://bit.ly/nerdwallet-student-loan-forgiveness