Beneficiaries of President Joe Biden’s plan to forgive student debt in some states could be surprised by big tax bills.
Last month, the administration moved forward with canceling up to $20,000 of student loan debt for borrowers who earn less than the $125,000 annual income threshold, but residents in seven states will be on the hook for shelling out taxes on the amount forgiven because it will be considered a form of income.
Borrowers in Arkansas, California, Indiana, Minnesota, Mississippi, North Carolina, and Wisconsin are all on track to owe state taxes under the plan, although the situation is still evolving given the differing administrative authority some states might have to exclude student loan discharge, according to the Tax Foundation.
Generally speaking, debt forgiveness constitutes income and is taxable both at the state and federal level, Jared Walczak, vice president of state projects at the Tax Foundation, told the Washington Examiner.
Debt canceled by Biden’s executive action won’t be taxable federally, though, thanks to a provision slipped into the American Rescue Plan Act by Democrats. While most states simply conform to the Internal Revenue Code, some do not, and thus the provision does not protect all taxpayers from facing a tax burden.
“What results is a patchwork where some states are bringing in the new exclusion because they’re behind on conformity, some don’t bring it in because they’ve never conformed, and a couple of states don’t bring in the exclusion because they’ve decoupled from this provision,” Walczak said.
The provision was placed in the coronavirus relief legislation (which received no Republican votes) as a way to lay the groundwork for Congress or Biden to forgive student loan debt. Biden promised on the campaign trail to forgive some student debt.
Two of the seven states — Indiana and North Carolina — essentially preempted student loan debt forgiveness by updating their conformity statutes to exclude the provision in the act that states student loan debt forgiveness isn’t taxable under federal law.
Some borrowers are upset about the uneven taxation state to state. Cathy Newman, a Louisiana State University graduate, told the Associated Press that because she now lives and works in Mississippi, she could end up owing the government money on the forgiveness, something that wouldn’t be the case had she stayed in Louisiana.
“It’s not a huge burden for me, but it could be for a lot of other people, which is what I’m worried about, especially if it’s unexpected, and I think a lot of people don’t realize that,” Newman said.
While most with student loans will be, on balance, better off financially because of the forgiveness, some won’t benefit as much as they thought, and it’s even possible that some would end up owing more in the short term.
The amount that people will have to pay in taxes varies from state to state. California appears poised to end up taxing student loan debt forgiveness, and single filers who earn in excess of $61,214 there would pay a 9.3% rate, resulting in a tax bill of $930 for $10,000 in loan forgiveness.
The Biden plan also extends the pause on student loan repayments until the end of the year. That comes after more than two years of such pauses. The Committee for a Responsible Federal Budget projected this week that, including the new plan, policymakers will have spent between $700 billion and $900 billion on student debt cancellation and relief since the start of the pandemic.
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“An entire generation is now saddled with unsustainable debt in exchange for an attempt, at least, at a college degree,” said Biden announcing the move. “The burden is so heavy that even if you graduate, you may not have access to the middle-class life that the college degree once provided.”
Biden’s sweeping plan is estimated to cost roughly $240 billion over the next 10 years and could provide relief for up to 43 million borrowers and wipe out total debt loads for almost 20 million borrowers, according to the White House.
