Special Report

8 States That Might Tax Student Debt Forgiveness

President Joe Biden’s executive order to wipe out some student loan debt raised immediate questions about how states would treat this relief for tax purposes.

The plan forgives up to $10,000 in outstanding federal student loan debt and up to $20,000 for students from low-income families who qualified for a Pell Grant. The White House estimates that 27 million people qualify for $20,000 in relief. Individuals earning more than $125,000 per year are not qualified for debt discharge under this new relief plan.

Some of these fortunate debtors, however, could wind up on the hook for hundreds of dollars in income taxes on the forgiven debt. For example, unless Arkansas implements a legislative fix, anyone there who benefits from this debt forgiveness could pay up to $550 in state income tax and more if they qualify for the additional relief, according to KFSM news.

Discharged student loan debt is typically considered a form of income subject to federal income tax, but the American Rescue Plan Act of March 2021 included a moratorium on taxing student loan debt forgiveness through 2025. This means that student loans discharged under Biden’s plan announced in August will not be taxed at the federal level.

The situation is murkier at the state level. Most states are following the federal government’s lead by not taxing this discharged debt. But Indiana and North Carolina plan to tax this forgiven debt, as does Mississippi, where nearly 11% of federal student loan borrowers are at least 90 days past due on their last payment, the highest percentage in the nation. About 2.7 million federal student loan borrowers live in these states.

The situation remains unclear in five states, including California, where 4 million federal student loan borrowers reside. Legislative leaders in the Golden State have insisted they will act to avoid taxing this forgiven debt, but the situation is not yet settled. About 2.3 million borrowers live in states with situations similar to California’s, waiting in limbo to see what, if anything, they will have to pay in taxes next year. (These are cities where college students are most burdened by debt.)

24/7 Wall St. reviewed the eight states where the student debt forgiveness could be taxed, with information gathered as of Sept. 10. States on this list are ordered by the share of student loan borrowers who are 90+ days past due. (Here are the states with the most past due student debt.)

Data on the number of student loan borrowers by state in 2021; average student loan debt balances by state in 2021; and percentage of student loans borrowers who are 90+ days past due on their loans come from the Federal Reserve Bank of New York. Data on income tax collection and state revenue per capita for 2020 come from the Tax Foundation, a Washington D.C.-based nonprofit tax research organization.

Here is where federal student loan debt forgiveness may be taxed.

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