Student loan forgiveness: Advice from a CPA financial planner

Any way you slice it, recently announced student loan relief measures will positively impact the lives — and the wallets — of Americans struggling to pay for their education long after graduation.

Details are slowly emerging about exactly how the initiative will wipe out up to $10,000 of student debt per borrower, but CPA financial planner Brianne C. Smith is encouraging her clients to act fast in response to lesser-known but no-less-important aspects of the initiative.

“General information is one thing,” said Smith, CPA/ABV/PFS, Ph.D., who owns a CPA firm in Alabama and currently serves on the AICPA Personal Financial Planning Executive Committee.

“But,” Smith continued, “it’s really about thinking about being forgiven a $10,000 debt and being really mindful about what you do about that, about that gift.

“And there are future forgivenesses to strategize around.”

The measures will forgive up to $10,000 in federally owned student debt (and up to $20,000 for those with a Pell Grant). However, as the official announcement of the relief program pointed out, the U.S. Department of Education estimates that college students who graduate today with loans owe nearly $25,000 on average.

That means, according to Smith, financial planners need to be prepared to help clients who still owe money in three ways:

• By coming up with a game plan for making loan payments beginning in January;
• By making sure clients are cashing in on significant improvements to income-based repayment plans that could reduce that next payment; and
• By taking advantage of generous changes made to the Public Service Loan Forgiveness program before the Oct. 31 deadline.

“There are now more advantageous rules,” Smith said. “Now there’s a sense of urgency.”

Adding an extra budget line

The good news of debt forgiveness comes with a potentially strong dose of reality.

“People who have been in forbearance for more than two years have grown accustomed to not paying their student loans,” Smith said. “Well, they are going to have to make that first payment in January, so preparing for that over the next few months is important.”

The pause on debt payments that began at the onset of the COVID-19 pandemic in March 2020 has once again been extended, but with a warning: Payments are scheduled to resume in 2023.

“I think a lot of people have been in denial, thinking it’s never going to happen, but it’s pretty clear this is the last time payments will be paused,” Smith said. “You need to set your mindset to be prepared to pay for this in January, which is a really hard time on the calendar to add an extra budget line, coming off Christmas.”

Smith said that given the length of time that has passed since payments were last required, some clients have gotten used to using that money to support different parts of their budget.

She has some simple advice for those facing the prospect of payments come 2023.

“For the last four months of the year, I’d really be thinking about pretending like you have to pay it now in order to make sure you have enough saved,” Smith said.

Paring down payments

Tucked beneath the headlines about debt forgiveness, there’s this: The Department of Education is proposing changes to income-driven repayment plans that would lower monthly payments and slash in half how long those payments must be made.

In addition to a favorable new formula for calculating payment amounts, the proposal would forgive the entirety of a federal loan balance of $12,000 or less after 10 years of payments on the plan — down from 20 years.

The new formula would base the monthly payment on 5% of discretionary income (it’s currently 10%); would further reduce what’s calculated as discretionary income by increasing what qualifies as nondiscretionary income; and would cover any unpaid monthly interest that could be incurred by the resulting lower payments.

The White House briefing on debt forgiveness estimated that public school teachers making $44,000 a year would see their monthly payments reduced from $197 to $56.

“It’s not a new program, but what is new about it is the way that your income that is available to pay student loans is considered — and it’s now more advantageous to the borrower,” Smith said. “You should let the IRS know where you stand on your income and apply for this program to reduce your payment.”

A thank you for your service

Smith also said it’s critical that people in certain careers who will still carry student debt look into the Public Service Loan Forgiveness (PSLF) program before it’s too late.

“It really surprises me how many people don’t know about the program,” Smith said. “And there’s a deadline in less than two months.”

Smith has been helping a client who works for the military, which qualifies her for PSLF alongside people who work full time for any branch of government as well as some not-for-profits. People who register for the program will have the remainder of their debt forgiven after 120 monthly payments.

Before the 2007 program was revamped last October, the Department of Education estimated that about 16,000 borrowers had received forgiveness under PSLF to date. The White House briefing last month updated that number to 170,000, speaking to the newfound effectiveness of the program.

Oct. 31 is the deadline for taking full advantage of the program’s new offerings. If someone applies and has a Direct Loan, or applies to consolidate student debt into a Direct Loan before the deadline, then some if not all of the monthly payments made before the person had a Direct Loan should count toward the threshold of 120 monthly payments. In addition, each month during the pandemic pause will count as well.

“People who previously were struggling to pay their student loan, even if they still have a lot more to pay, should also consider the other aspects of the program,” Smith said. “Make sure you apply if you’re eligible.”

— To comment on this article or to suggest an idea for another article, contact Bryan Strickland at Bryan.Strickland@aicpa-cima.com.

Related Resources

Tax Section Resource: State Guidance for Taxability of Exclusion of Student Loan Forgiveness