Student Loan Forgiveness Insights

TRICKS OF THE TRADE

Understanding Student Loan Forgiveness

Prepared by: Nick DeVito, CFP® & Michael Menninger, CFP®

By this point, most people have heard about the student loan forgiveness package set forth by the Biden administration. While most people have seen the headline, “Biden forgives up to $20,000 in Student Loans per Borrower”, that was only part 1 of a 3-part plan that includes other lesser-known components. This article will help explain the intricacies as well as answer some of the frequently asked questions surrounding the relief package.

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Break Down of The Student Loan Forgiveness Package

The loan package will provide up to $10,000 in relief (loan forgiveness) for all borrowers making under $125,000 filing single ($250,000 married filing jointly) and up to $20,000 for borrowers that received a Pell Grant. It is important to note that to qualify for the additional forgiveness due to the Pell Grant, the borrower only had to receive a Pell Grant one time, not the entirety of college. If a student receives a Pell Grant and the parent took out a Parent PLUS loan for that child, the parent does not qualify for the additional $10,000 in forgiveness. 

While that is all good and well, it left many people asking Who exactly qualifies for these loans and Which loans qualify? 

What You Need To Know About Student Loan Forgiveness 

Who Qualifies for Loan Forgiveness?

• Current and former students
• Parents with Parent PLUS Loans

Which Loans Qualify

• Loans originated prior to July 2022
• Government-issued or backed loans
• Undergraduate and Graduate Direct Loans (Subsidized & Unsubsidized)
• Parent PLUS and Grad PLUS Loans
• Federal Family Education Loan (FFEL) Program Loans held by Education Department
• Perkins Loans held by Education Department
• Defaulted Loans (from the list above)
• Consolidation Loans (from the list above)

  It is important to note that private loans do not qualify.

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Changes to Income-Driven Repayment Plans

There were a few changes to the income-driven repayment plan to make loan payments more manageable. Monthly payments will now be capped at 5% of a borrower’s discretionary income, where it was previously 10%. Loans of $12,000 or less will be forgiven after 10 years of payments on the income-driven repayment plan, where it was previously 20 years. As long as a borrower on an income-driven repayment plan is making their payments, interest will not accrue. This means that balances will not grow as long as payments are being made.

Holding Colleges Accountable

The third and final component of the debt relief plan was to protect future borrowers from the rapidly increasing cost of college by holding colleges accountable. President Biden began this process by increasing the maximum Pell Grant through the American Rescue Plan. The Biden Administration has also reestablished an enforcement unit in the Office of Federal Student Aid in an effort to hold accreditors accountable. The administration also looks to publish an annual report containing a watch list of programs with the worst debt levels in the country. 

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FAQs: Student Loan Forgiveness

What are the tax implications of this loan forgiveness?

Under normal circumstances, loan forgiveness would result in taxable income in the amount of the forgiveness. However, the American Rescue Plan signed by President Biden in 2021 made all loan forgiveness tax-free at a federal level through 2025. With that in mind, some states do not conform to federal tax laws, which could cause loan forgiveness to be taxable at the state level. As of late October 2022, the seven states in which forgiveness could be taxable are Arkansas, California, Indiana, Minnesota, Mississippi, North Carolina, and Wisconsin. Keep in mind there were originally 13 states in which student loan forgiveness would be taxable. This illustrates that taxation at the state level is not final and could very well change before the forgiveness is applied.

Do I get to choose how my loan forgiveness is applied if I have multiple loans?

The short answer is no, you do not get to choose how to apply the forgiveness. According to the Federal Student Aid website, the loans will be applied in this order:

• Borrowers With Multiple Loans

1. Defaulted Education Department-held loans
2. Defaulted Federal Family Education Loan (FFEL) Program Loans
3. Non-defaulted Direct Loan Program loans and FFEL Program loans held by Education Department
4. Perkins Loans held by Education Department

• Borrowers with Multiple Loans within a Program type (i.e. Direct Loans)

1. Apply relief to loans with the highest statutory interest rate
2. If the same interest rate, apply to unsubsidized loans before subsidized
3. If all the same, the most recent loan
4. If all the same, the lowest combined principal and interest 

What happens if I made payments on loans that would have qualified for forgiveness during the COVID-19 loan payment pause?

If you made payments during the COVID-19 pause beginning in March 2020, you qualify for forgiveness, and the payments you made brought you below the amount of debt relief, you can contact your loan servicer to get your payments refunded.

What happens if my loan is less than $10,000?

If you qualify for forgiveness and you have a balance of $10,000 or less, your remaining balance will be forgiven. You will not receive any additional funds if your loan balance is less than $10,000, except as noted in the previous question regarding payments made during the COVID-19 payment pause. 

What if I have a loan balance after the relief?

If you still have a loan balance after the debt relief, your payments will be recalculated and begin again in January 2023.

What if I have multiple children and have Parent PLUS loans for each child?

The forgiveness is on a per-borrower basis, not a per-loan basis. This means that someone with multiple Parent PLUS loans would only receive $10,000 in total forgiveness.

What does the application process look like?

In October 2022, the Education Department released the official application and stated that it will be a short, simple form available at https://studentaid.gov/debt-relief/application. Borrowers will not need to use a login, use their Federal Student Aid (FSA) ID, or provide any documents to apply. Federal Student Aid will reach out directly when an application is submitted and notify borrowers if they need to provide any additional information. Borrowers will also be notified when relief has been applied to their accounts.

If you have any additional questions, please feel free to contact us at (610) 422-3773.

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