Did you know that student loans affect your tax refund? Both for the positive and potentially for the negative.
Are you currently attending classes and are taking out student loans to cover the tuition costs? If so, you may have also wondered how this impacts your tax refund. The answer is not all that complex, but you need to understand a few things in order to get a complete picture of the impact that these student loans truly have.
Student loans offer a variety of tax breaks that could apply in certain circumstances, so see if you qualify. However, they can also cause problems for you if you don't pay your debt. Here are the most common ways that student loans affect your tax refund.
Student Loans Are NOT Income
While it may feel like an income source sometimes, your student loans should most definitely not be labeled as income on your tax returns. If you do this, then you will actually pay more taxes than you are required, and no one ever wants to do that! However, at the same time, these loans cannot be subtracted from your total income either. So, if you’re taking out $20,000 in student loans this year and your income is $30,000, you cannot simply say that your total earnings are $10,000. This would likely earn you an audit and require you to not only pay extra in the future, but cause many headaches as well.
Due to the nature of these student loans, there is absolutely no impact to your taxable income. There is still some good news though.
Student Loan Interest Deduction
Many people know that a house can sometimes be a great investment opportunity, partially because of the tax break on the interest payments. When you buy a house and get a loan at 4% interest, you will actually get some of this money back at the end of the year because the government wants to encourage people to buy houses (which again is good for the economy). The same is true for college loans.
Because the government wants to see people attending college, they offer a similar credit to those that are taking out student loans to fund their college education. If you are starting to pay money on those student loans, then you want to be sure to tell your accountant about it because you will be reimbursed for a portion of those interest payments that you made on your loans.
The maximum benefit for the student loan interest deduction is $2,500, and you have to make less than $85,000 per year as an individual, or $175,000 if you're married.
It's really easy to report your student loan interest - your lender will mail you a statement right before tax season showing how much interest you paid last year on your student loan debt.
Student Loan Forgiveness And Taxes
If you had some or all of your student loans forgiven last year, you could owe taxes on the amount forgiven. Depending on your student loan repayment plan (mostly income-driven repayment plans like IBR or PAYE), the amount of your student loan debt that was forgiven is considered ordinary income - and you're going to have to pay taxes on that amount. Here's a full article describing wha you need to know: Student Loan Forgiveness And Taxes.
Depending on how much student loan debt you had forgiven, this could be thousands of dollars. Be sure to talk to an accountant or tax professional if this applies to you because, under certain circumstances, you may be able to avoid this. Make sure you look at all of your options.
Note: All student loan forgiveness is tax-free through 2025.
Getting Your Tax Refund Garnished
If you don't pay your student loans, you can actually get your tax refund garnished. This is called a tax offset - and it can take all of your tax refund if your student loan is in default.
It's important to note that you can only get your tax refund offset if your student loans are Federal loans and you're currently in default (meaning you haven't paid your loans in a long time). Just having a student loan won't cause this to happen. Here are some common IRS facts that explain this a little better.
If you're tired of having your tax refund garnished, you need to get your student loans out of default. There are a few ways to do this, but student loan rehabilitation is typically the best option.
Note: Collection activity, including tax offsets, resume in 2023.
Final Thoughts On How Student Loans Affect Your Tax Refund
There are a lot of ways that student loans can impact your taxes. Make sure you fully understand what your debt means to you and how student loans affect your tax refund.
If you're not quite sure where to start or what to do, consider hiring a CFA to help you with your student loans. We recommend The Student Loan Planner to help you put together a solid financial plan for your student loan debt. Check out The Student Loan Planner here.
Are you expecting a tax refund this year?
Editor: Clint Proctor Reviewed by: Chris Muller
Robert Farrington is the founder of The College Investor and is widely recognized as one of the nation’s leading voices on student loan debt and saving for college. He holds an MBA from UC San Diego Rady School of Management and has spent over 15 years researching, writing, and advising on student loans, 529 plans, financial aid programs, and saving and investing for young professionals.
Robert has been featured in the The New York Times, The Wall Street Journal, The Washington Post, NBC News, and Forbes, where he has been a regular personal finance contributor for over a decade. His work combines both professional expertise and personal experience – he successfully navigated his own student loan repayment journey and has helped thousands of readers do the same.
He is committed to making the intersection of personal finance and education transparent and accessible. You can learn more about Robert on the About Page or on his personal site RobertFarrington.com.