3 ways student loans can affect your taxes

1. You can deduct student loan interest payments.

You could deduct up to $2,500 in student loan interest payments on your income taxes each year. Say you have a $60,000 salary. You would pay taxes as if you made $57,500 after the deduction.

How much you can deduct depends on a few factors:

• How much you paid in interest. You must pay at least $600 in interest to qualify for this deduction. And you can’t deduct more than $2,500, even if you paid a higher amount in interest that year.
• Your income. For the 2019 tax year, you’re only eligible for the full deduction if you make less than $70,000 a year — or less than $140,000 if you’re married and filing taxes jointly. Earn more than $85,000 — or $170,000 if married and filing jointly? You aren’t eligible for a deduction at all. If you fall in between these salary ranges, you might qualify for a reduced deduction.

Your servicer should send you a form in January telling you how much interest you’ve paid during the previous tax year and how much you’re eligible to deduct.

How to calculate your student loan tax deduction

2. You might have to pay income taxes on forgiven student debt.

The IRS generally considers any canceled debt to be taxable income, including some types of student loan forgiveness. This mainly applies to:

• Forgiveness through an income-driven repayment plan
• Negotiating down your private student loan balance
• Private forgiveness programs, such as those offered through your employer

Depending on your income and the amount forgiven, this could send you into a higher tax bracket. This means you’ll also pay taxes on a higher percentage of your income.

Exceptions to paying taxes on forgiven student debt

The IRS generally doesn’t consider debt forgiveness in exchange for working a particular job or for a specific employer to be taxable income. Forgiveness through programs that require healthcare providers to work in a specific geographical area are also exempt.

Some popular forgiveness programs that aren’t taxed include:

• Public Service Loan Forgiveness (PSLF)
• Teacher Loan Forgiveness
• National Health Service Corps Loan Repayment Program

You also don’t have to pay taxes if you qualify for total and permanent disability discharge. And loans forgiven due to the death of the borrower aren’t taxable either.

3. You might not get your tax refund if you default.

The government can garnish your tax refund if you default on your student loans — meaning you won’t receive a tax refund for that year. Your federal loans go into default after 270 days of nonpayment. Private loans often go into default earlier, sometimes as soon as 60 to 90 days after you miss a repayment.

If the government is going to garnish your tax refund, you should receive a tax offset letter that explains how much it’s withholding and who to call if you have questions. You could get the tax offset canceled if you’re facing financial hardship or going through bankruptcy proceedings.

How to avoid a student loan tax offset

How taxes can affect student loan costs

The way you file your taxes can also affect how much you pay for federal student loans if you’re on an income-driven repayment plan. With some plans, filing jointly as a married couple means the Department of Education will consider both your and your spouse’s incomes when calculating your monthly repayments.

But before you decide to file separately, consider the drawbacks first. You won’t be eligible for the student loan interest tax deduction, you’ll likely pay a higher tax rate and you might not be eligible for as many claims or tax credits. Make sure the difference in income-driven repayments is worth it before you make a decision.

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Bottom line

The student loan interest tax deduction is the main way student loans affect taxes for most borrowers. But if you’re considering forgiveness or default on your loan, it could end up costing you more. Married couples should also pay attention to how their tax filing status affect their student loan repayments and ability to take deductions.

You can learn more about how it all works by checking out our guide to student loans.

Frequently asked questions

• How do federal subsidized loans affect my taxes?

  Since you don’t pay interest on subsidized loans while they’re in deferment, you might not pay as much interest in the years that you put your repayments on hold. This can affect how much interest you can deduct from your taxes. Otherwise, having subsidized loans shouldn’t affect your taxes.

• Does capitalized interest count toward the student loan interest tax deduction?

  Yes, all student loan interest you pay in a tax year counts toward the tax deduction— even the interest that got added to your loan balance after changing repayment plans or at the end of deferment or forbearance.

• Can missing a repayment affect my taxes?

  Generally, no — aside from one exception: Perkins Loans go into default as soon as you miss one repayment. This could lead to the federal government garnishing your tax refund. Otherwise, missing a repayment by a few days or even a few months with federal loans shouldn’t affect your taxes.