The American Rescue Plan Act of 2021 made federal student loan forgiveness tax-free at the federal level for borrowers in income-driven repayment (IDR) plans. This temporary provision applied to loan balances forgiven between 2021 and the end of 2025, offering significant relief to borrowers whose loans were canceled during that time.
However, because the provision was not extended, beginning in 2026, this type of federal student loan forgiveness may once again be treated as taxable income for federal tax purposes. For borrowers affected, this change could result in a higher federal tax bill, sometimes by thousands of dollars.
Income-Driven Repayment (IDR)
Under IDR, monthly payments are calculated based on income and family size, and any remaining loan balance is forgiven after 20 or 25 years of qualifying payments, depending on the plan. Borrowers may now owe taxes on that forgiven amount in the year the forgiveness occurs.
What Borrowers Can Expect at Tax Time
If your lender forgives $600 or more of student loan debt, you should receive an IRS Form 1099-C (Cancellation of Debt). This form reports the amount of debt canceled and is sent to both you and the IRS. Even if you do not receive the form, the forgiven amount may still need to be reported on your federal tax return.
The forgiven balance is generally added to your existing income for that year, which may push you into a higher tax bracket. As a result, borrowers with larger forgiveness amounts or higher incomes may face a higher effective tax rate on that additional income.
How Much Could the Tax Bill Be?
The exact tax liability depends on several factors, including:
- Your total income in the year of forgiveness
- Your tax filing status
- Available deductions or credits
- The tax brackets in effect at the time
Because forgiven loan balances can be substantial, the resulting tax bill may be significant. Some borrowers choose to set aside a portion of their income over time to prepare for this potential liability.
Plan Ahead and Seek Guidance
If you expect to receive student loan forgiveness in the coming years, especially through an income-driven repayment plan, it’s important to plan ahead. Understanding how forgiveness may affect your taxes can help you avoid surprises and make informed financial decisions. Because tax situations vary, borrowers with questions about how student loan forgiveness may impact their federal tax return should consult a qualified tax advisor for guidance.
