With President Biden’s announcement of forgiving student loans, there are some obvious questions:
- Will this be taxed by the IRS?
- Will this be taxed by the states with income taxes?
- Will this be upheld by the courts?
- When will there be guidance on this?
- When should impacted taxpayers file?
We have answers to some of these questions, but definitely not all. First, this will not be taxed federally. This is quite clear based on the American Rescue Plan Act. Indeed, issuers are not supposed to send Form 1099-C’s to those with forgiven loans. However, some states do not conform to the Internal Revenue Code of today. Thus, on the state level this will be taxable income in some (but not all) states. Jared Walczak of the Tax Foundation noted that this could be taxed in Arkansas, Connecticut, Hawaii, Idaho, Illinois, Iowa, Kentucky, Massachusetts, Minnesota, Mississippi, New Jersey, Pennsylvania, South Carolina, Virginia, West Virginia, and Wisconsin. (I haven’t done the research for every state, but it sure looks like a taxable event for Pennsylvania and New York.)
But the big question is one I cannot answer: Will this be upheld by the courts? I’m not an attorney, but it’s a certainty this will be litigated. I have my doubts as to this being upheld (the “major questions doctrine” from West Virginia v EPA is a–sorry for the pun–major issue here), and no one will know until the cases are resolved. I absolutely could see one Court of Appeals ruling in favor of allowing it while another imposes a national injunction. I expect the Supreme Court to be the arbiter of this, and probably not for several weeks.
As to when there will be guidance: soon. I would expect it within ten days, but this is just an educated guess on my part. I actually expect it sooner than ten days, but you never know about Washington.
Finally, the question. “Russ, I have student loans. I’m on extension. Should I file?” That’s an it depends question. If your return is set, and there are no tax planning opportunities for the return (you’re single and/or you cannot contribute to retirement plans for 2021), the tax you owe and the income you have will not change; whether you qualify or not is set. Thus, you can file–whether or not you’re above the income threshold.
The individuals who should wait for guidance are those who still have tax planning opportunities for 2021 (and who are impacted by this). Generally, those are the self-employed (who can still contribute to retirement accounts such as SEP IRAs) and married couples (who can choose between filing separate and joint). Of course, if your income is far above the threshold no matter how you file and/or contribute to retirement plans, filing now or after the guidance is released won’t change your eligibility for forgiveness. It’s only those who might qualify by doing something that should wait.
UPDATE: I originally listed New Jersey as a state that I thought where forgiveness would be taxed; however, the Tax Foundation released a new list without New Jersey. They’re spending a lot more time on the research on this than I am. Do note that until official guidelines come out, all any of us are doing is speculating. The official state pronouncements (and those are in the future) will govern.
