Why Student Loan Forgiveness Is a Step Closer

President Biden Delivers Remarks On American Rescue Plan From White House Rose Garden
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The American Rescue Plan approved by Congress last month doesn’t forgive any student loans, but it does make it easier for the president to cancel debt down the road, giving hope to progressive lawmakers who have been lobbying for him to take matters into his own hands.

Key Takeaways

  • A provision in the latest stimulus package ensures that any student loans canceled through 2025 won’t be taxed as income, removing a potential roadblock for the president to authorize forgiveness on his own.
  • Without the provision, canceling student debt would potentially saddle borrowers with thousands of dollars in tax bills.
  • Biden has resisted calls to use his executive authority to cancel federal student loans, but he’s reportedly now studying the issue.
  • Biden has proposed canceling $10,000 of student loans per borrower, but some Democrats want it to be $50,000, and Republicans are critical of the whole idea.

Within the relief package—a signature achievement of Democratic President Joe Biden—is a change to the federal government’s revenue code: Any student loan debt that is canceled after Dec. 31, 2020 and before Jan. 1, 2026 does not count as income, and therefore, can’t be taxed. Previously, all forms of discharged debt were considered income, making it much less palatable to be given such a break.

Of course, this tax-free status only matters if any debt is actually canceled, and right now there aren’t many ways to achieve that unless a borrower has been making payments for decades under a special program called income-driven repayment. A much more sweeping proposal from Biden—to automatically cancel $10,000 of debt per person because of the COVID-19 pandemic—hasn’t materialized, with some Democratic lawmakers wanting him to cancel $50,000 and Republicans calling it a “bailout” that burdens taxpayers.

So why make sure to pass a revenue code change if the impact is limited? Because it removes a major argument against Biden using his executive authority to cancel debt, a tactic he’s resisted (but may be warming to) amid mounting pressure from the most liberal wing of his party. Legally, waiving the taxes on this debt is almost certainly not something Biden could accomplish through an executive order even if the cancellation itself could be, according to Constantine Yannelis, an economics professor at University of Chicago who has studied the costs of so-called blanket student debt cancellation plans.

“I imagine that Democrats in the Senate pushed this through to clear the way for Biden to use executive action to cancel student debt,” said Beth Akers, resident scholar at the American Enterprise Institute, a right-leaning public policy think tank, in an email. “I won’t be surprised if Biden takes this step.”

Using Executive Authority

Indeed, Biden, who had previously signaled Congressional approval was his preferred course, asked the Department of Education to prepare a memo about the legality of the president canceling student debt, Politico reported earlier this month, citing an interview with Biden’s chief of staff, Ron Klain. Spokespeople for the Department of Education and the White House didn’t respond to requests for comment on Klain’s remarks.

Federal student loan borrowers don’t have to make any payments until at least Sept. 30, thanks to temporary pandemic relief from the government, but the burden of student loan debt is only getting heavier, with far-reaching implications for the economy that are set to last well after COVID-19 subsides. Outstanding debt owned or backed by the federal government—the most common type of student loan—more than doubled to $1.6 trillion in the last decade, spanning almost 43 million borrowers.

Regarding taxation on canceled debt, Biden hasn’t himself addressed it, but proponents of the provision approved in the American Rescue Plan said saddling people with surprise tax bills would erode the benefit of forgiveness, and counting forgiven debt as income could even bump people into higher tax brackets.

The average borrower who earns $50,000 in income would save approximately $2,200 in taxes for every $10,000 of forgiven student loans, according to Sen. Bob Menendez, a Democrat from New Jersey who pushed for the provision.

$10,000 vs. $50,000

“We now have a tremendous opportunity to relieve this paralyzing weight and that opportunity should not be jeopardized by an arbitrary tax bill on unrecognized income,” Menendez said in a statement last month. “I’m hopeful this will pave the way for President Biden to provide real debt relief so many student borrowers need, and give a boost to our economy that benefits everyone.”

Menendez sponsored similar tax legislation as its own bill in 2016 and again in March before it was included in the American Rescue Plan, the $1.9 trillion stimulus package enacted March 11. He and 12 other senators also submitted a resolution in September 2020 calling on Biden to use executive authority to cancel up to $50,000 in student loan debt for federal borrowers.

Biden in February said he would pursue $10,000 per borrower in student loan forgiveness, but would not go as far as $50,000. His press secretary, Jen Psaki, also indicated he would look to Congress to authorize a cancellation, rather than use his executive power. 

Leaving aside the method for authorizing it, there’s a large base of public support for this kind of debt relief, a recent survey showed: 60% of 1,141 people polled by Invisibly, a data analytics company, in February said they were in favor of the Biden administration providing blanket student loan forgiveness.

Among borrowers, this kind of forgiveness seemed almost inevitable to many: When asked about paying their loans this year, 66% of respondents who currently have student loan debt said they planned to wait for loan forgiveness to pass, compared to 24% who said they planned to pay off their loans regardless.

Income-Driven Repayment

For now, though, one of the only ways to get federal student loan forgiveness is to have an income-driven repayment (IDR) plan requiring 20 or 25 years of repayment first. And because the first IDR plans were offered 25 years ago, and only became more popular in the last 10 years, many are not yet eligible for forgiveness.

For those borrowers that are or will be eligible over the next five years, the revenue code change was overdue, according to Akers of the American Enterprise Institute.

“This is a huge windfall for borrowers who are on track for forgiveness through the current income-based repayment,” she said, even though that’s probably not the main reason why it was successfully approved by Congress.

Meanwhile, the National Consumer Law Center, citing a recent analysis of Education Department data, claimed that while more than 2 million borrowers with IDR plans should have already had loans forgiven, only 32 actually have. A spokesman for the Education Department declined to comment on the study, which blamed flawed program design and mismanagement.