On April 19, 2022, the Department of Education announced a short-term opportunity for expanded loan forgiveness in an effort to address historical failures impacting borrowers on income-driven repayment plans. The changes are expected to bring millions of borrowers closer to student loan forgiveness. However, deciphering through the eligibility requirements can be very confusing for borrowers. Thus, below is a guide to understanding Income-Driven Repayment (IDR) plans, the IDR Waiver, the next steps for borrowers, and the tax implications.
Income-Driven Repayment (IDR) Plans
Income-Driven Repayment (IDR) Plans Defined
Income-Driven Repayment (IDR) plans are designed to make student loan debt more manageable, as it results in a lower required monthly payment.
How does an IDR plan work?
When borrowers take out a student loan, the federal government will automatically set them up on the Standard Repayment Plan, which consists of 10 years of fixed monthly payments. While this repayment plan is often the most efficient, it can also require a higher monthly payment than IDR plans.
IDR payments reduce the borrower’s payment because it is based on the borrower’s income and family size. Depending on those factors, a borrower’s monthly payment will be a percentage of their discretionary income, ranging from 10-20%, and their repayment terms are extended to 20 or 25 years. Qualifying IDR plans include:
- Income-Based Repayment Plan (IBR)
- Income-Contingent Repayment Plan (ICR)
- Pay as you Earn Repayment Plan (PAYE)
- Revised Pay as you Earn Repayment Plan (REPAYE)
Once the repayment term has ended, borrowers will be eligible for student loan forgiveness for the remaining balance, if any.
What is the Income-Driven Repayment Waiver?
As discussed above, the Department of Education implemented the IDR Waiver Program, which broadens or extends help to borrowers by granting credit for certain types of deferments, long-term forbearances, and any repayment plan.
What do borrowers need to know about the IDR Waiver?
Below are the changes that borrowers on an IDR plan need to be aware of:
- The Dept of Education will make a one-time adjustment to count certain long-term forbearances toward IDR (and Public Service Loan Forgiveness [PSLF]). Long-Term forbearances are defined as forbearance periods of 12 consecutive months or longer and forbearances of 36 cumulative months or longer (Note: Forbearance periods provided by the COVID-19 Emergency Relief do not count toward these months).
- The Department will also make a one-time revision of payments made on any loan toward IDR forgiveness, regardless of loan type or payment plan, including payments made prior to consolidation.
- Also, months spent in deferment prior to 2013 will count toward IDR forgiveness (with the exception of an in-school deferment).
- Additionally, borrowers that have accumulated time in repayment of 20 or 25 years will see automatic forgiveness, even if they are not on an IDR plan.
In short, borrowers who have already made significant progress on an IDR plan could see an automatic loan cancellation after the payment-count revision is completed.
IDR Waiver: Who does it impact and what do borrowers need to do next?
The IDR Waiver impacts borrowers with Direct Loans, those who have consolidated into the Direct Loan Program, and those who plan to consolidate into the Direct Loan Program.
Borrowers who plan to consolidate into the Direct Loan Program because they currently have a FFEL Program loan, Perkins loan, or other federal student loan, need to do so before January 1, 2023 to benefit from the waiver. They must also select an IDR plan.
Once enrolled in an IDR plan, borrowers won’t need to take any further action to qualify for the waiver. However, it’s important to keep in mind that borrowers who are impacted by the one-time revisions most likely won’t see the impact of these changes reflected in their accounts until fall 2022.
In the meantime, it is imperative that borrowers keep an eye out for any new information or account changes with their loan servicers.
What are the tax implications for IDR Forgiveness?
Any remaining balance that is forgiven under an IDR plan is considered taxable income. This means that the amount forgiven will be treated as if the borrower earned that sum of income during the previous tax year, which results in additional income tax. As one can imagine, this “tax bomb” can create quite a hefty tax bill for those with a large amount of debt forgiveness. Thus, it is important to discuss how to adequately prepare for the tax hit with a tax and/or financial professional.
However, there is one caveat – thanks to a provision in the American Rescue Plan Act, any amount forgiven under an IDR plan between December 31, 2020 and January 1, 2026 will not be subject to taxation.
Don’t delay! Borrowers who need to consolidate into the Direct Loan Program should give themselves plenty of time to do so. Remember, the consolidation and selection of an IDR plan must be done before January 1, 2023! It is important to keep in mind that the processing of a consolidation takes time – so, don’t wait until the last minute!
For more information, reach out to your loan servicer with any questions or concerns, review the Income-Driven Repayment and Public Service Loan Forgiveness Program Account Adjustment, and/or consider scheduling a complimentary consultation with me.