How Forgiven Student Loans Affect Your Taxes

Many students face hefty student loan balances after they graduate. Many people have considered student loan forgiveness to avoid having to pay back their loans. However, most people who opt for this don’t know that student loan forgiveness can affect your taxes. It’s a good idea to understand how forgiven student loans impact your taxes so that you aren’t surprised by extra taxes you may have to pay.

You Might Have to Pay Taxes on Forgiven Student Debt

There are many repayment plan options for student loans. These payment plans can make paying back student loans easier on your finances. Student loan repayment plans work by capping your monthly payments at around 10% to 15% of your income. You usually pay for 10-25 years depending on which option you choose. Any leftover balance after your repayment period is up is forgiven.

There is an essential factor that you need to consider that’s hardly ever discussed when it comes to student loan forgiveness: Under the recent Internal Revenue Service (IRS) rules, many forgiven student loans under one of these repayment programs are considered taxable income.

This rule means that you could end up with a substantial tax bill if your student loans are considered taxable income. When this happens, the lender sends you and the IRS a 1099-C tax form. This tax form reports the amount of student loan debt forgiven and you’re taxed for it. So, while you may not have to pay the full amount in student loans, you still end up having to pay taxes on the remaining balance.

If you get a 1099-C tax form for forgiven student loans, then you may want to consult a qualified tax professional to help you understand how this impacts your taxes.

Other Important Tax Information

Here are a few things you should know about how student loans affect your taxes:

There are limited tax advantages for paying your student loans. You won’t get a huge tax break but you might be able to deduct some of your student loan interest from your taxable income.

If you’re struggling to pay off someone else’s student loan debt, you might still be able to claim the interest as a tax deduction because you’re the one making the payments.

Your federal income tax refund could be lost if you don’t repay your loans. If you default on your student loans, up to 100 percent of your federal refund could be used to offset your student loan debt. This means you won’t see your tax refund.Most borrowers try to pay off their student loan debt throughout the years, but some don’t. About 11% of borrowers default.

You might be able to claim an exemption or exclusion. Exemptions and exclusions for student loan forgiveness are very limited. However, you might be able to claim an exclusion if you become insolvent on your debt.

Insolvency can usually be claimed if you’re unable to pay the debt right before it gets canceled. If this happens, you might be able to exclude the debt amount from your taxable income.

Forgiveness due to death and disability is excludable. Due to recent tax reform, if a borrower dies or becomes permanently disabled before being able to pay off their student loans, those loans can be forgiven.

This tax reform is designed to prevent family members from being responsible for paying huge taxes on student loans.

No matter how much you have taken out in student loans, you should be aware of what your options are and how these can affect your taxes.  If your credit has been damaged because of student loans, consider the credit specialists at Lexington Law Firm for a free personalized credit consultation. For over a decade, we’ve worked to help over half a million clients remove millions of negative, inaccurate, and unverified items from their credit reports.

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