President Joe Biden’s decision to forgive up to $10,000 on millions of student loans has been praised by some and criticized by others—not a surprise to anyone who pays attention to politics. But there is a possible surprise no one thought about or expected during all the political wrangling.
Usually, when a debt is discharged, it is considered to be taxable income to the borrower and you pay taxes to the IRS on the amount forgiven. But the American Rescue Plan Act of 2021 specifically set that aside, legislating that student loan debt forgiven through 2025 will not count as income for federal taxation.
Here’s the surprise. While the IRS is waiving the taxability of all the student loan forgiveness, there are some states that may not. According to the Tax Foundation, there are 13 states with laws that allow them to tax forgiven student debt. Here are those states and the maximum likely tax liability in each — meaning the maximum realistic amount of state income taxes a resident with forgiven student loans could owe unless the state makes an exception:
- Arkansas: $550
- Hawaii: $1,100
- Idaho: $600
- Kentucky: $500
- Massachusetts: $500
- Minnesota: $985
- Mississippi: $500
- New York: $685
- Pennsylvania: $307
- South Carolina: $700
- Virginia: $575
- West Virginia: $650
- Wisconsin: $530
For the most part, the rates above are based on the top marginal tax rate in each state.
It’s not certain whether these states will actually invoke their right to tax the forgiven debt even though they have the legal, legislated right to do so. There are lobbying efforts underway to get these states to follow the federal lead and exclude the forgiven debt from 2021 tax liability. Sharpen your pencil, and let’s keep score.