6 states could potentially charge borrowers income tax on canceled student loan debt
Most borrowers eligible for President Joe Biden’s Student Loan Forgiveness Plan will receive the tax-free relief. But residents of a handful of states may be required to pay state income tax on canceled debt.
In the past, when federal student loan debt was canceled under certain established government programs, including income-based repayment plans, the amount canceled was counted as taxable income (student loan debt forgiven under public service loan forgiveness and certain other programs is not taxable). But the 2021 US bailout changed that temporarily: Student loan debt canceled between 2021 and 2025 will not count as federal taxable income.
Most states “will also exclude debt cancellation from their own income tax bases,” according to the Tax Foundation. But not at all.
Arkansas, Massachusetts, Minnesota, Mississippi, North Carolina and Wisconsin “appear to be on track to mandate student debt forgiveness,” according to the Tax Foundation, “after statements from officials of State”.
See this interactive chart on Fortune.com
This is for various reasons. Some states are called “compliant” states, which means they comply with federal tax laws. But they can “opt out” of federal law, which means student loan forgiveness would be taxed. Others are non-compliant states, and would require legislation to exclude debt relief from state income taxes.
So it is possible states could pass something – usually state law – to exclude paid student loan debt from income tax in the coming weeks or months, or specify that they will follow the lead of the IRS.
New York has recently taken steps to achieve this. While it initially appeared residents would be required to pay state income tax, the New York Department of Tax and Finance said Fortune that New York is a compliant state and will follow the IRS unless state law has been enacted to “depart” from federal law.
Therefore, unless the State Legislature or Governor Kathy Hochul “positively decides to impose it,” which is not intended, New Yorkers’ eligible student loans will be tax exempt.
Fortune contacted the tax departments of the other six states listed above for more information.
Scott Hardin, spokesman for the Arkansas Department of Finance and Administration, said the state is currently reviewing whether executive order debt forgiveness — which is how Biden institutes it — is subject to to income tax.
“As a state that does not automatically enact federal tax policy changes to our state income tax law, we need to consider whether existing state law would take into account this taxable income. “, says Hardin. “We anticipate a decision will be made in the coming days and shared with taxpayers and the media.
If the Arkansas Department of Finance determines that federal loan forgiveness is subject to state income tax, this could only be changed by legislative action. The next session of the state General Assembly is scheduled for early 2023, according to Hardin.
Similarly, the exclusion of debt forgiveness from taxation requires legislative change in Wisconsin, which requires legislative action.
“We will address this discrepancy with federal law in our upcoming biennial budget request to ensure that Wisconsin taxpayers do not face penalties and increased taxes for having their loans canceled,” said Patty Mayers, director of communications for the Wisconsin Department of Revenue.
In Minnesota, a provision to comply with the American Rescue Plan Act was not passed in the last legislature. “If the state fails to comply with this federal law, Minnesota taxpayers whose student debt is forgiven will be required to add back that amount for Minnesota income tax purposes,” a Department of Education spokesperson said. Income from Minnesota. Fortune.
The Mississippi Department of Revenue and the North Carolina Department of Revenue said the rebate would be considered income and would be taxed in those states. The North Carolina tax agency “is monitoring any new enactments by the General Assembly that may change the taxation of student loan forgiveness in North Carolina.”
And the Massachusetts Department of Revenue tells Fortune that he expects “the federal student loan waiver will not be taxable in Massachusetts, but the final decision will be made once full guidelines and details are available from the federal government.”
“This is an ever-evolving problem,” notes the Tax Foundation.
This story was originally featured on Fortune.com