Tax Debt and Student Loan Forgiveness

If you are currently dealing with student loan debt and have enrolled in an income-based repayment (IBR) plan, you may have found that the monthly payment you owe is much more manageable. However, for debtors in Oak Park and throughout the country, the promise of a manageable student loan payment can end up leaving you with a completely unmanageable tax bill at a later date. As a recent report from CNBC explains, there are only two types of student loan forgiveness: public service loan forgiveness, and forgiveness based upon decades of timely repayment under an IBR plan. While the former forgiveness plan does not come with a tax burden, the latter does.
What do you need to know about tax debt following student loan forgiveness? And is a tax bill linked to student loan forgiveness dischargeable if you file for personal bankruptcy?
Understanding Tax Bills When Student Loan Debt is Forgiven
As we mentioned above, there are two ways for consumers with student loans to have their debt forgiven. First, we should make clear that these options apply only to federal loans. In other words, if you have private student loan debt, the forgiveness possibilities we are discussing here are not applicable. Now, if you do have federal student loan debt, it is important to understand the different ways in which remaining debt can be forgiven.
If you work in a public service job and are eligible for public service loan forgiveness, your debt can be forgiven if you make timely, consecutive payments for ten years and then apply to have the remaining debt canceled. If your debt is forgiven through public service loan forgiveness, you will not have to pay taxes on the forgiven debt. However, the same is not true for forgiveness under IBR. How do consumers with student loan debt end up with enormous tax liabilities?
For example, if you owe $50,000 in federal student loans and you apply for IBR, your monthly payment will be what the government describes as an “affordable” percentage of your income. If you make only $20,000 per year your first year out of college, your student loan payment may indeed be manageable under IBR. However, let us assume, for example, that after two decades of timely, consecutive payments under an IBR plan, you still owe $25,000. Now, if that $25,000 is forgiven, you will be responsible for the tax on that full amount.
Tax Liabilities Putting Student Borrowers in Substantial Debt
About 20% of student borrowers are currently making payments under an income-based repayment plan. That number has grown substantially over the last four years. In 2012, only about 5% of borrowers were enrolled in income-based repayment plans. For a majority of those borrowers now enrolled in IBR plans, a tax burden years down the road could be crippling.
In addition to tax liabilities for student loan forgiveness under an income-based repayment plan, student loan discharges due to death and permanent disabilities are taxed in a similar manner. As the article explains, unless something is done to change the way in which forgiven student loan debt is taxed, “the number of people affected by tax liabilities from income-based repayment plans will dwarf taxes owed for loan discharges from death, permanent disability and school closures.”
Contact an Oak Park Bankruptcy Lawyer
In some circumstances, you may be able to have tax debts discharged through Chapter 7 bankruptcy. An experienced Oak Park bankruptcy lawyer can discuss your options with you. Contact the Emerson Law Firm today.
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