A Financial Planner’s Guide to Biden’s Student Loan Forgiveness Announcement

President Biden’s much-anticipated loan forgiveness announcement finally dropped on Wednesday, bringing welcome news to anxious student loan borrowers. Having two topline forgiveness numbers of $20,000 and $10,000 is confusing in and of itself, and like most student loan forgiveness programs, the devil is in the details.

Here are some of the specifics:

• Borrowers will be eligible for forgiveness if their income is under $125,000 for those who file taxes as single and $250,000 for those who file taxes jointly or as head of household. It is still unclear how eligibility will be calculated for those who are married but file taxes separately.
• If you received at least one Pell grant while in college, you are eligible for up to $20,000 in forgiveness. All others who meet the income requirements can receive up to $10,000 in forgiveness. These amounts will result in complete loan forgiveness for 20 million Americans.
• All federal student loans issued prior to this academic year will be eligible for forgiveness, including loans taken out for trade school, community college, bachelor’s degrees, graduate school, and parent PLUS loans. The cutoff date is for forgiveness June 30th.
• Any amount forgiven will not be taxable at the federal level. However, many states have their own rules about what counts as income, so there is some uncertainty about how this will be treated for state tax purposes.

There are a lot more details that will become clear in the weeks to come, including how the application process will work, if some borrowers will be eligible for cancellation automatically, and how potential lawsuits challenging Biden’s executive order may impact the forgiveness timeline. In the meantime, payments on federal student loans will remain paused until December 31, 2022, at which point loan payments will resume. The President has said that this is the last extension of the pause that originally started in March 2020.

In addition to forgiveness, yesterday’s announcement includes proposed regulatory changes to help borrowers to manage their monthly payments moving forward. This includes a new income-driven repayment (IDR) plan for undergraduate loans that would restrict monthly payments to 5% of a borrower’s discretionary income and, importantly, prevent unpaid interest from accruing on the principal of the loans. Currently, income-driven plans are calculated based on 10%-20% of discretionary income, and unpaid interest continues to accrue, leaving many borrowers with balances higher than they originally took out — even after years of making payments. The Department of Education announced that the administration is also taking steps to cement some of the changes to Public Service Loan Forgiveness that were part of the temporary waiver program, which is set to end on October 31, 2022.

As a financial planner and the owner of Planning for Progress, I regularly work with clients who have varying amounts of student loans in order to create strategic repayment plans.

Here are three sample scenarios for borrowers in these situations to think about the forgiveness news.

Of course, these examples are for general educational purposes only. For advice that is specific to your individual situation, please speak with a financial or tax advisor.

Talia makes $60,000 / year as a social media manager and has $25,000 in federal loans remaining from her undergraduate education.

Yesterday’s news is music to Talia’s ears. She received Pell grants to help with the cost of her undergraduate tuition, meaning Talia will be able to have $20,000 forgiven from her federal loans, leaving only $5000 remaining. Because she has been able to save a lot more than she otherwise would have been able to thanks to the payment pause, she is thinking about paying off her remaining balance before payments resume in January. But even if she decides that is not the right decision, she would be eligible to enroll in the new IDR plan that will limit her payments to 5% of her monthly discretionary income while preventing interest from accruing on her remaining debt.

Taylor makes $75,000 / year as a freelance graphic designer and has $5,000 in loans remaining from undergrad.

After many years of payments, Taylor has only a little bit left on their college loans. They took advantage of the 0% interest period during the payment pause and made payments of $100 / month since August 2020 when their regular client workload recovered. Taylor should contact their loan servicer ASAP to request a refund of the $2400 in payments they had voluntarily made during the payment pause since they are eligible for up to $10,000 in forgiveness after yesterday’s announcement.

Tamara makes $85,000 / year as a public health specialist working for a state government agency and has $95,000 in loans remaining from undergrad and grad school. 

Tamara did not receive Pell grants for undergrad, but she is still eligible for $10,000 in forgiveness against her loans. And while she should apply, the forgiveness program is unlikely to change her loan repayment strategy. She is on an IDR plan and is pursuing Public Service Loan Forgiveness, which means her monthly payment is calculated based on her income, not her overall loan balance, and Tamara’s monthly payments are unlikely to change as a result of owing $10,000 less. The proposed new IDR plan may make a difference and could reduce the amount she has to pay when payments resume in January. In addition, Tamara shouldn’t overlook the fact that throughout the payment pause, she has been able to build credit towards PSLF every month, bringing her much closer to the 120 payments required for complete loan forgiveness.

Tom makes $215,000 as a lawyer at a large firm and has $150,000 in loans remaining from law school.

Because Tom makes over the income threshold for the forgiveness plan, he will not receive any immediate benefit as a result of the announcement. And since he works at a private law firm, he is not eligible for Public Service Loan Forgiveness. Depending on the interest rates on his loans, his goals for the future, and what rates he could get from a private lender, he should consider refinancing some or all of his loans to get a lower interest rate and start paying down his loans as aggressively as he can afford to when the payment pause ends in the new year. He should also consider making a lump-sum payment to reduce the amount he would refinance.

About Ethan Miller CFP®, owner of Planning for Progress

Ethan Miller is a CERTIFIED FINANCIAL PLANNER™ professional and the owner of Planning for Progress, a virtual, fee-only financial planning firm serving individuals and families who share his passion for public service and social justice. Ethan brings his financial expertise and background as a labor organizer together to help clients align their financial lives with their personal goals and plan for a sustainable financial future.