Student loan forgiveness is now tax-free. Is cancellation coming?

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Student loan issuance is now tax-free thanks to a provision included in the $ 1.9 trillion coronavirus stimulus package that President Joe Biden put into law Thursday.

Previously, any student loan debt canceled by the government was considered taxable and charged at the borrower’s normal income tax rate.

Lawyers and borrowers hope the change will remove an obstacle to the president’s debt relief.

Biden says he supports $ 10,000 student loan forgiveness but is under increasing pressure from members of his own party, lawyers, and borrowers to go further and cancel $ 50,000 per borrower.

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Before the relief bill was passed, any forgiveness plan would have hit borrowers with a huge tax bill.

According to a rough estimate by college graduate Mark Kantrowitz, $ 10,000 cancellations would trigger $ 2,000 in additional taxes for the average borrower. If $ 50,000 per borrower were to be canceled, the average person would have to write a check to the IRS for $ 10,000.

The Covid Relief Act ends this policy, and student debts canceled will no longer affect a borrower’s tax liability. The provision will last until 2025 but could be extended or permanent.

“This will pave the way for President Biden to bring real relief to student borrowers without worrying about getting a huge tax bill they can’t afford,” said Ashley Harrington, director of federal prosecution at the Center for Responsible Lending, in an explanation.

What Borrowers Avail To Save

There are around 45 million student loan borrowers in the US

A third of these borrowers are enrolled in “income-based repayment plans”. These plans aim to make borrower payments more affordable by capping their monthly bills to a percentage of their discretionary income and reducing their remaining debt after 20 or 25 years. At that point, their issued loans were treated as income and the IRS sent the borrower a form called 1099-C.

“It’s like someone gave the borrower money to repay the debt,” said Kantrowitz.

The tax burden could be substantial: let’s say a borrower makes approximately $ 85,000 to $ 160,000 at a tax rate of 24%. If they had canceled $ 48,000 in student debt from the government, they might have had to write a check to the IRS for $ 11,520, as exemplified by Kantrowitz.

The borrowers are now off those bills.

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