Student Loan Forgiveness - What You Need To Know
Everything You Need to Know About Biden's $10,000 Student Loan Forgiveness and Extended Payment Pause
On Wednesday, August 24, the Biden-Harris administration released a plan to provide federal borrowers with some debt relief, extend the payment pause once more, and establish a new form of income-based repayment plan. Here’s what you need to know.
What is the Biden-Harris administration's new proposal to relieve student debt?
1. Federal student loan forgiveness of up to $10,000 for those earning $125,000 or less annually ($250,000 or less annually for married filing jointly and head of household filers). Individuals who were Pell Grant recipients at any point during their undergraduate years are eligible for up to $20,000 in loan forgiveness. (Your total forgiveness is limited to the amount you owe; if you only owe $8,000, you will only receive $8,000 in forgiveness.)
2. A "final" extension of the current moratorium of payments and interest. The expiration date has been extended until December 31, 2022.
3. A new type of income-based repayment plan has been proposed. This is designed to significantly reduce payments for borrowers. It would cap payments on undergraduate loans at 5% of discretionary income instead of the previous 10% to 15%, expand the definition of "non-discretionary" income (further reducing payments), forgive balances under $12,000 after ten years instead of twenty, and cover unpaid interest to prevent the loans from ballooning out of control.
Will debt forgiveness be considered taxable income?
Thanks to the American Rescue Plan, this debt relief will not be regarded as taxable income for federal income tax purposes, according to the Biden administration.
However, the forgiveness may be taxable in 13 states.
13 states could treat Biden's student loan forgiveness proposal as taxable income for borrowers, according to the Tax Foundation. States included are Arkansas, Hawaii, Idaho, Kentucky, Massachusetts, Minnesota, Mississippi, New York, Pennsylvania, South Carolina, Virginia, West Virginia, and Wisconsin. According to the Tax Foundation, borrowers who receive $10,000 in student loan forgiveness through the Biden plan may have to pay anywhere from $300 to over $1,000 in state taxes, depending on the state. For Pell Grant recipients who are qualified to receive up to $20,000 in student loan forgiveness, these numbers might increase by twofold.
What do I need to do if I'm eligible to get the loan forgiven?
Honestly, not much. If the U.S. Department of Education already has your income information (which is the case for almost 8 million people), you will automatically qualify for the relief, according to the department. If they do not have your information or you are uncertain, you can still apply. This application will soon be available, and you can sign up here to be notified when it is. When the application is released, it will be best to apply as soon as possible to see forgiveness before the end of 2022 and payments resume.
You're not alone if you still have questions about how this will work. The administration has promised to provide further information "in the coming weeks." Hopefully, that will include details such as whether the $10,000 in debt forgiveness will be applied directly to principal balances or will also cover outstanding interest, whether borrowers can choose which individual debts to apply it to (ideally, you'd be able to choose those with the highest interest rates), etc.
What are the odds that the repayment pause will be extended once more?
The administration calls this extension the "last" extension. Obviously, this has occurred previously, so we cannot be certain, but with actual forgiveness in place and the moratorium scheduled to expire after the midterm elections, this could very well be the final time. We would not, for all intents and purposes, count on another extension. In addition, it is best to be prepared for everything, notably the return of payments.
What you should know before the student loan moratorium expires:
When will I be expected to start making payments on my student loans?
The official end of the grace period for federal student loans is December 31, 2022. As we approach January 1, your loan servicer will begin contacting you again, most likely in the form of a reminder that your next payment is approaching.
Has the date of my last payment been pushed back? If so, until when?
Yes, your final payoff date has been pushed back by the exact length of the forbearance period, however long that will last. Regarding your student loan debt, it is as if these two and a half years never existed, no matter which repayment plan you’re on.
Will I still have to pay the same amount?
Maybe, maybe not.. The government has said that your minimums may be subject to revision. There could be a few reasons for that:
- Often, minimum monthly payments are divided between the "principal amount" (typically the amount you borrowed) and the accrued interest on that total. However, the moratorium included a deferral of interest, so any payments received since the commencement of the forbearance period will have been applied to the principle. Additionally, there is this $10,000 forgiveness. As a result, once the moratorium expires, your monthly minimum payment should be lower.
- If you're on an income-based repayment plan, such as Pay As You Earn (PAYE), Revised Pay As You Earn (REPAYE), Income-Contingent Repayment (ICR), or Income-Driven Repayment (IDR), your payments may change as a result of (a) the new income-driven repayment plan rules, (b) this forgiveness and any payments you made during the moratorium reducing the amount you owe, and / or (c) any changes to your income that (aka officially notified your loan servicer of the change).
But anything is possible. In other words, we encourage you to double-check your monthly payment amount before the moratorium expires (especially if you have auto-pay set up).
I am currently enrolled in the Public Service Loan Forgiveness Program. Did the government count those months as part of my service?
Great news for PSLF applicants! Even though you were not obligated to make payments during the moratorium, those months were nonetheless counted toward your 120 qualifying monthly payments. (Note, however, that you must have been employed by a qualified employer during the whole moratorium period and when you submitted your application; any months in which you were not employed do not count.)
If you began working for an eligible employer during the moratorium, you are qualified for the program. All the months between when you were hired and October 31, 2022, will count.
I'm not ready to start making payments again! Any advice on how I can prepare for this?
Don't worry! If you took your student loan minimums out of your budget, now is the time to put them back in. Don't wait until January. If the initial financial impact is too great, begin with a smaller amount and gradually increase it over the next few months. Make a plan for specific monthly amounts if you're concerned about sticking to your budget.
You can also apply for an income-driven repayment plan to reduce your monthly payments, if you qualify based on income and family size. More on this below.
So, what should you do with the money you've set aside in your budget between now and January 1?
Should I resume my loan payments?
Short answer? Not yet. At Vincere Wealth, we prefer to prescribe a series of steps we call the financial basics, which must be completed in a precise order - dealing with debt is only one aspect of the equation. As a result, we advocate using the remainder of this moratorium to improve other aspects of your financial health wherever possible.
First, confirm what your January monthly payment amount will look like. From there on...
If you do not have an emergency fund of at least one month's salary...
We recommend beginning there. While your federal student loans are on hold, put the money you would have paid toward them each month into a savings account to develop an emergency fund.
It is time to address your high-interest debt. This would likely include your credit cards and possibly even private student loans — essentially anything with an interest rate greater than 10%. Take the amount you would have paid toward your federal student loans and apply it instead to the debt with the higher interest rate.
No outstanding high-interest debt, and a solid emergency fund?
First of all, congratulations! You now have a few options. You can also:
1. Go back and finish building your emergency fund. We recommend aiming for three to six months' worth of take-home pay in total.
2. Prioritize the repayment of any (non-federal loan) debt with an interest rate between 5 and 10%.
3. Save money to pay off any federal loans with interest rates higher than 5%. (or will, once the no-interest period ends). Between now and January, save each month the sum of your future loan payments in a savings account. Then, shortly before January 1, apply all of that money (plus any interest it has earned) to your federal loans. Thus, you will continue to pay down your principal without accruing interest.
Now, once your monthly payments resume, you will have regained the habit of making payments. In addition, depending on the path you chose, your total payment amount may be smaller, and you may ultimately pay less in interest.
What if I am unable to make my student loan payments in January?
Options are available to you.
If your income has decreased (or disappeared), you can submit a request to transfer to an Income-Driven Repayment (IDR) plan. This reduces your monthly minimum payments based on your current income (see the Federal Student Aid website). There are various sorts of IDR plans. Depending on your credit, you might wish to refinance or consolidate private student loans, which were not covered by the government moratorium. (Generally, we do not recommend refinancing federal loans.)
The objective here is to avoid debt default in every way possible. If even an IDR plan will be too burdensome, you can submit an application for an additional delay or forbearance. Nevertheless, remember that a postponement is not entirely payment-free: Normally (i.e., not during a pandemic), interest will continue to accrue on your outstanding debt, therefore it can be advantageous to pay at least the accruing interest, if possible. Otherwise, the interest will be added to the principal balance, and you will be charged interest on the interest after the deferment period ends.
The steps to take now would be:
- Ensure that your loan servicer has your updated contact information so that you may get the application and any relevant updates in the months following the balance change.
- Check your credit report to make sure that forgiveness is being accurately reported. Because there are going to be millions of people involved in the situation there are likely to be some glitches throughout the process and you want to make sure you've covered all your bases and nothing slips through the cracks.
- Keep an eye out for updates on this plan if you still have a remaining loan balance after the forgiveness takes place.
If you have any questions or would like to speak with Jen about your student loan debt repayment, click here.
Jen Swindler, CFP®, AFC®, MFPA is a Senior Wealth Manager and a Student Loan Analyst at Vincere Wealth. She works with clients to help them take financial control and make a plan to reach their money goals.
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