The Downside of Student Loan Forgiveness: Tax Implications

Having most or all of your student loan debt forgiven may seem like a good thing, but what most people don’t know is that all or most of forgiven student loan debt will be considered taxable income by the IRA. Potential student loan borrowers should be aware that this enormous tax bill will eventually cost them 10 percent to 37 percent of the total amount of their forgiven student loan. However, there are a few exceptions to this rule.

Are there any exceptions for avoiding taxes on forgiven student loan debt?

When a student loan is forgiven, your lender will give you a 1099-C form reporting the amount of your student loan that was forgiven. You must then attach this form to your tax return and include it with all other taxable income you earned that year. While receiving a 1099-C form does mean the amount listed is to be considered taxable income, there are a few cases where you will not have to pay taxes on your forgiven student loan debt. For example, any loans you received from a program eligible for the Public Health Service Act or from a program intended to increase health care services in underserved areas lacking a large supply of health professionals may be eligible for an exception.

Another option is the Public Service Loan Forgiveness program (PSLF), which will exclude your forgiven amount from your taxable income without requiring it to be reported on your federal tax return. With the Public Service Loan Forgiveness program, the amount of your forgiven student loan debt will not be considered taxable income if you work for a non-profit organization and your loan was issued by:

• A federal, state or local government agency or subsidiary organization of one of those government agencies.
• A tax-exempt corporation operating for the public benefit of a state or local hospital.
• An educational institution designed for the purpose of encouraging students to work in underserved areas or for a tax-exempt non-profit organization. 

Any other options for student loan forgiveness tax exemptions?

If you don’t qualify for any of the programs listed above, then one of the only ways for you to avoid the tax implications of forgiven student loan debt is by applying for insolvency exclusion. Just keep in mind that if you do qualify for insolvency exclusion, it may not be for the full amount of taxable income generated from your forgiven