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When you’re a student, filing your federal income taxes can get confusing. You’re likely using multiple ways to pay for school, like loans, financial aid, scholarships, grants, work-study, etc.
But when it comes to filling out your tax return, what needs to be included in taxable income? Borrowers need to pay taxes on anything included in your taxable income, so it’s important to know what’s included so you don’t end up with a surprise tax bill at the end of the year.
Here’s a guide to help you understand what’s counted as income and what isn’t, so you can see how student loans will affect your taxes.
Do Student Loans Count as Taxable Income?
If you need to take out federal or private student loans to pay for your school, rest assured that this is not considered taxable income. You won’t need to pay income taxes on it in the United States. So if you take out a $10,000 loan for your education expenses, those loan proceeds can be used to pay for school and related expenses — none of it will go to the federal government.
Private and Federal student loans aren’t considered income because student loan debt needs to be repaid with interest to the lender. Other loans with monthly payments and interest (like credit card debt, personal loans, or mortgage loans) also aren’t considered income because of the key feature that they need to be repaid.
While you don’t pay taxes on student loans, it’s important to remember that you can receive a tax deduction for them, lowering your income tax bill. You can deduct up to $2,500 in interest payments made on qualified student loans during the year.
Is Loan Forgiveness Considered Taxable Income?
If loans aren’t considered income because you have to pay them back, what happens if you qualify for student loan forgiveness and don’t need to repay the loan. Is the forgiven amount considered taxable income? The answer depends on the type of forgiveness you qualify for.
Generally, any loan that is forgiven or discharged is considered income in the eyes of the IRS. But there are eligibility exceptions specifically related to student loans.
Loans forgiven under the Department of Education’s public service loan forgiveness program aren’t considered taxable income. If your loans are forgiven thanks to your participation in this program, you won’t need to pay tax on the forgiven amount.
But, qualifying for forgiveness for another reason may leave you with a tax bill. For example, forgiven student loans under an income-driven repayment plan, you will likely need to pay taxes on the forgiven amount.
Are Other Forms of Education Assistance Tax Benefits?
Student loans aren’t the only way college students can receive help in paying for your educational institution. But are other forms of assistance considered income that you’ll need to pay tax on? There are other tax situations or tax credits that you should know about.
Scholarships and grants
Outside of utilizing your college savings, you may have the opportunity to offset some of the costs with student aid. Unlike loans, these don’t need to be repaid. So will you get stuck paying taxes on that money?
The IRS has two conditions that you must meet to exclude grants and scholarships from taxable income:
- You’re a candidate for a degree and the school maintains a regular faculty, curriculum, and regularly enrolls students.
- The money needs to be used for tuition and fees, books, supplies, and equipment.
This covers a lot of situations, but not all. You will need to include in taxable income any money that is used to pay for room and board or travel. So if you receive a scholarship that covers tuition, room and board, or a stipend for living expenses for the tax year, you’ll need to pay taxes on the portion of the scholarship that is used for anything other than tuition, books, and supplies.
And you’ll also need to include in your taxable income any scholarship or grant money that you receive in exchange for teaching, research, or other services.
Make sure to file your FAFSA annually to apply for financial aid through your school.
Employer tuition assistance or loan repayment
Some employers offer tuition assistance benefits to their employees from eligible institutions. With this benefit, employers will pay up to a certain amount to help offset the cost of education. If you are working and your employer offers tuition assistance, you can exclude up to $5,250 of that benefit from your taxable income each year as long as it was used for eligible expenses, like tuition and fees or books.
If your employer pays more than $5,250 for your higher education in a year, you’ll have to include the remaining balance in taxable income.
In addition to helping pay for school, more employers are now offering assistance programs to employees with their student loan payments. Some employers will pay a certain amount monthly towards their employee’s student loan amounts, helping to pay them off faster.
While this is a helpful benefit, it usually comes with a tax bill attached. In most years, any payments your employers make towards your student loans are considered taxable income to you. But thanks to the CARES Act, employer loan payments made through the rest of 2020 (up to $5,250) are tax-free.
Student Loan Interest Deduction
There is one other way that student loans will affect your taxable income: the student loan interest deduction.
With the student loan interest deduction, you can deduct up to $2,500 in interest payments that you pay during the year on a qualified student loan. There are some additional requirements that you need to meet, one of which is that your income needs to fall under a certain amount ($85,000 in 2020 for single filers) to qualify for the deduction.
There is a phase-out of the deduction based on your income, so depending on how much you earn, you may only be able to take a partial deduction or no deduction at all. The phase-out for 2019 for people who file as a single taxpayer begins at $70,000 modified adjusted gross income.
When it comes to student loans and paying for college, taxes can be a little tricky, and it is important to talk to a tax professional to learn more. But knowing what counts as income and what doesn’t, can help save you from a big tax bill at the end of the year.