These 13 states collect taxes on forgiven student loans. We explain how to know if it will affect you

President Joe Biden's student loan forgiveness plan will soon cancel the debt of millions of Americans, and the relief is tax-free on federal returns.

However, experts say that cancellation can lead to a state tax bill.

Most borrowers earning less than $125,000 a year or $250,000 for married filing jointly will be eligible for a $10,000 discharge, with up to $20,000 write-off for Pell Grant recipients. 

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However, some states may count canceled debt as income, explained Jared Walczak, vice president for state projects at the Tax Foundation.

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This may affect borrowers in more than a dozen states, adding a maximum state liability of about $300 to $1,100, according to Walczak, based on preliminary analysis by the organization.

These states include Arkansas, Hawaii, Idaho, Kentucky, Massachusetts, Minnesota, Mississippi, New York, Pennsylvania, South Carolina, Virginia, West Virginia and Wisconsin, according to the analysis. 

A “patchwork of approaches” to state taxes

The 2021 American Bailout Plan made student loan forgiveness tax-free at the federal level until 2025, and the law covers Biden forgiveness as well, according to the White House.

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“In general, states use the federal tax code as a baseline to define taxation,” Walczak said, explaining how some use what is known as “compliance” to follow certain federal legislation. 

Some states have "rolling compliance," updating state tax laws as federal laws change, and others may only become compliant as of a certain date, which may require updates to conform to current law, he said.

In some cases, states can "opt out" of certain federal provisions to make the state tax code their own, Walczak said.  

Since canceled debt is often taxable, "there's a patchwork of approaches, most of which weren't really about student loan debt," he said. 

State tax treatment of forgiveness may change

Although preliminary analysis shows that some states may tax student loan forgiveness, there is still time to change policies, according to Walczak.

"States could come back very soon in the next legislative session, update their statute accordingly and make it effective immediately," he said. 

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And although in some states it is “clear”, in others it may depend on administrative guidance or a regulatory rule.

If you're not sure, it's best to talk to a local tax professional and listen to your state's guidance, he suggested.  

"This is not a niche issue that only affects a few people," Walczak said.

“It affects a large number of people and it is hoped that clarity will be provided on this,” he added.