Tax rules for student loans’ forgiven debt, interest paid

Q: Do borrowers have to pay taxes on student loan debt that’s forgiven? A:

Most student loan debt forgiven in 2021 through 2025 is tax-free for federal income tax purposes. This relief, enacted in the March 2021 stimulus law, is an exception to the general rule that cancellation of indebtedness is taxable.

The IRS has instructed lenders and loan servicers to not issue Form 1099-C to borrowers whose student loans are forgiven during this time period, and the discharged debt is excluded from income. Some states have different tax rules, which can be confusing.

Q: Is the interest you pay each year on student loans tax-deductible? A:

Yes, and taxpayers needn’t itemize on Schedule A of the Form 1040 to take this write-off. Up to $2,500 of student loan interest paid each year can be claimed as a deduction on Schedule 1 of the Form 1040.

For 2023 tax returns due in April 2024, the break begins to phase out for single filers with modified adjusted gross incomes above $75,000 and joint filers with modified AGIs over $155,000. It ends for taxpayers with modified AGIs over $90,000 and $185,000, respectively. The phase outs for 2024 returns range between $80,000 and $95,000 for single filers and $165,000 and $195,000 for joint filers.

Parents who help a child repay student loans generally can’t take the write-off unless they are also legally liable on the loans.

But, even if a parent paid the loan and can’t take the write-off, a child who meets the modified AGI limits can still take the interest deduction, provided he or she isn’t eligible to be claimed as a dependent on the parent’s return.

The IRS treats this as if the parent gifted money to the child, who then paid the debt.

Q: I’ve heard employers can make 401(k) contributions on behalf of workers repaying student loans. How does this work? A:

A new law allows employer 401(k) matches conditioned on student loan repayments made by employees starting in 2024. The IRS blessed such a program in a 2018 private letter ruling. In that situation, the firm contributed to its 401(k) plan on behalf of employees paying down their college debt.

The employer matches took place regardless of whether employees also paid in.

Participation was voluntary, and employees had to elect to enroll in the program.

Employers have lobbied Congress for years to enact a statute to allow them to do this without seeking a private ruling from the IRS, and lawmakers obliged them last year in the SECURE 2.0 law.