CSLP 300 Course Update

The CSLP 300 course Tax Consideration part 1 has been updated to include information relevant to the CSLP and their clients regarding the taxation of student debt under Section 108(f) of the Internal Revenue Code.

Tax-Free Student Loan Debt Discharge

With the passage of the Securing America Act, all student debt forgiven by a lender operating under 104(a)(7) of the Truth in Lending Act is exempt from being included in income. This exclusion from income for discharged student debt includes federal and private loans made by states, schools, non-profit organizations, and private companies. This exclusion does not cover private student loans made by an individual or family member. The provision in the Securing America Act extending the tax provisions of 108(f) are not permanent and are set to sunset at the end of 2025.  Unless further extended by Congress, student loan borrowers who have debt forgiven after 2025 may owe taxes on their discharged debt.

Impact on Student Loan Borrowers in IDR Plans

The affordability of Income-Driven Repayment (IDR) plans and the allure of future loan forgiveness has led to two out of three dollars in federal student loan debt being repaid under an IDR plan. These plans allow repayment amounts determined by income. After making payments for 20 to 25 years, any remaining balance is discharged. While on its surface, the change in tax treatment seems beneficial for student loan borrowers in these plans, the actual benefit may be limited.

Brief History of Income Driven Repayment

In 1994 the Income-Contingent Repayment (ICR) Plan was create. ICR was not widely used due to unfavorable terms such as payments based on 20% of a borrower’s income and a now-eliminated marriage penalty. Since 1994, only 32 borrowers have achieved forgiveness in this plan! In 2009 the College Cost Reduction Act of 2007 include the creation of the Income-Based Repayment (IBR) plan. Subsequent derivatives have become available  including PAYE, REPAYE, and IBR for new borrowers with shorter maximum repayment lengths of 20 years.

Taxation for Relief

It is widely reported that the change in taxation of discharged student debt provides relief to borrowers in Income-Driven Repayment Plans (IDR). Unfortunately, most borrowers paying under IDR plans will not reach their maximum repayment period until 2031 at the earliest. Unless the sunset provision is extended or the new tax treatment is made permanent, the temporary change in taxation will be of little use to the vast majority of borrowers currently enrolled in an IDR plan.

The student loan borrowers most likely to benefit from the tax provisions excluding forgiven student debt from income are borrowers of private student debt that have their loans written off before 2026. These are likely the neediest of student loan borrowers as private lenders are often not inclined to cancel student debt before they have unsuccessfully exhausted all means of collection.

Many student loan borrowers in IDR plans are working toward Public Service Loan Forgiveness (PSLF). The expansion of  IRS Section 108(f) will have no impact on the expected tax treatment of discharged debt for public service employment as that form of cancelation has been ruled to be exempt from income under a permanent part of the code.