Student Loan Forgiveness Tax Exemption: What You Need to Know
Understand how student loan forgiveness is taxed at the federal and state levels, which loans qualify for exemptions, and what reporting requirements apply.
Student loan forgiveness can provide financial relief, but many borrowers worry about potential tax consequences. Normally, forgiven debt is considered taxable income, but exemptions at both federal and state levels may prevent this.
Federal Exclusions
The federal government has ensured that certain types of student loan forgiveness are not treated as taxable income. Under the American Rescue Plan Act (ARPA) of 2021, most student loan forgiveness granted between 2021 and 2025 is excluded from federal taxable income. This applies to both federal and private student loans if the discharge meets qualifying criteria.
Some federal forgiveness programs have always been tax-exempt. Public Service Loan Forgiveness (PSLF), which forgives remaining federal student loan balances after 120 qualifying payments for government and nonprofit employees, is not considered taxable income. Similarly, loan discharges due to total and permanent disability (TPD) and death are excluded from federal taxation.
Income-driven repayment (IDR) plans, such as Revised Pay As You Earn (REPAYE) and Income-Based Repayment (IBR), provide loan forgiveness after 20 or 25 years of qualifying payments. Before ARPA, the forgiven balance under these plans was taxable. ARPA’s temporary exclusion means borrowers receiving IDR forgiveness before 2026 will not owe federal taxes on the discharged amount. If no further legislation extends this exemption, tax liability could return for future borrowers.
State-Level Exemptions
While federal law excludes many types of student loan forgiveness from taxable income, state tax treatment varies. Some states follow federal tax rules automatically, while others require legislative updates. If a state has not updated its tax code to reflect ARPA, borrowers may still owe state income tax on forgiven loans.
As of 2024, Indiana, Mississippi, and North Carolina tax forgiven student debt. In these states, borrowers must pay income tax on the discharged amount. For example, an Indiana borrower with $30,000 in forgiven loans in the state’s 3.15% tax bracket would owe $945 in state taxes.
Some states provide their own exemptions. California passed legislation ensuring that certain student loan forgiveness programs remain tax-exempt. Massachusetts and Pennsylvania have long excluded forgiven student debt from taxable income. Because state policies vary, borrowers should check local tax laws to understand potential liabilities.
Qualifying Loans
The types of loans eligible for tax-free forgiveness depend on the program providing the discharge. Federal Direct Loans—including Direct Subsidized and Unsubsidized Loans, Direct PLUS Loans, and Direct Consolidation Loans—are covered under most forgiveness programs. Borrowers with Federal Family Education Loan (FFEL) Program loans or Perkins Loans may need to consolidate them into a Direct Consolidation Loan to qualify for certain cancellation programs.
Private student loans, issued by banks or other lenders, generally do not qualify for federal forgiveness programs. However, some states and employers offer repayment assistance that may be tax-exempt.
Employer-based student loan repayment assistance has become more common. Under Section 127 of the Internal Revenue Code, employers can provide up to $5,250 per year in tax-free student loan repayment benefits. Some state governments also offer targeted forgiveness programs for professions such as teachers, healthcare workers, and public defenders, which may be exempt from state taxation.
Reporting Requirements
When student loan forgiveness is granted, borrowers may receive IRS Form 1099-C, Cancellation of Debt, which is typically used to report discharged debt as taxable income. However, if the forgiven amount qualifies for a federal or state tax exemption, the issuing entity is not required to provide this form. Some loan servicers still issue a 1099-C, which can cause confusion. Borrowers should review the form carefully and consult IRS guidelines or a tax professional to determine if the forgiven debt must be reported on their tax return.
For those who receive a 1099-C but believe their loan forgiveness is non-taxable, Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness, can be used when filing federal taxes. This form allows taxpayers to exclude forgiven student loan debt from their taxable income when it meets the qualifications outlined in the Internal Revenue Code. Properly completing this form helps prevent incorrect tax assessments.