Student loans can open the door to educational opportunities you otherwise might not be able to afford on your own. But once you have that hard-earned diploma in your hand (or perhaps displayed proudly on your wall), those same student loans often become a source of stress.
At tax time, there are a few ways to include your student loans while filing your taxes. And if you’re still in school, there are also a few tax credits that might help you.
Do student loans affect my tax returns?
The answer to the question of whether student loans affect your tax returns is: It depends. If you are still in school and receiving money from student loans, you should not consider that income, since you are obligated to pay it back.
If you have graduated and are making payments on your student loans, then your student loans may affect your tax returns. Depending on your income, type of loan and tax filing status, you may be able to deduct some of the student loan interest that you pay.
Are student loans tax deductible?
While the principal amount of your student loans is not tax deductible, the interest you pay on your student loans might be. Depending on your total income, you may be able to deduct up to $2,500 in student loan interest from your taxable income each year.
If you are still attending school or paying education expenses, you may also qualify for one of two different education tax credits: the American Opportunity Tax Credit and the Lifetime Learning Credit.
What is the student loan interest deduction?
Taxpayers who pay interest on federal or private student loans may be able to take advantage of the student loan interest deduction. If you qualify for the deduction, you can reduce your taxable income by up to $2,500 per year.
The deduction, however, is set up so that the more income you earn, the less student loan interest you may be able to write off. Once your income reaches the limit set by the IRS, the deduction goes away altogether.
The income limits for the student loan interest deduction change each year. For the 2020 tax year, they are as follows:
- Single, head of household and qualifying widow(er): The deduction starts to phase out when your modified adjusted gross income (MAGI) reaches $70,000. At $85,000, the deduction disappears completely.
- Married filing jointly: The deduction phaseout begins once your joint MAGI reaches $140,000. If your joint income surpasses $170,000, you can no longer claim the student loan interest deduction.
Note: You can’t claim the student loan interest deduction if your filing status is married filing separately.
How to get the student loan interest deduction
Unlike many other deductions, you don’t have to itemize your tax return to take advantage of the student loan interest deduction. Instead, you can claim the deduction as a straight adjustment to your income. As a result, you may be able to take advantage of this write-off even if you take the standard deduction on your tax return.
Keep in mind that only the interest you pay on qualified student loans can be deducted (up to a maximum of $2,500, depending on your income and filing status). The amount of money you pay toward your principal loan balance throughout the year is irrelevant to how much you are able to deduct.
When you pay at least $600 in qualified student loan interest, your lender should send you an IRS Form 1098-E (Student Loan Interest Statement). You can use this form to claim the student loan interest deduction when you file your taxes.
Not sure whether you qualify for the deduction? The IRS provides an online interview to help you figure out if you’re eligible.
Even if you think you might not qualify for the deduction, it’s worth the time to find out for sure. The student loan interest deduction could potentially save you hundreds of dollars on your tax obligation — lowering your tax bill or boosting your tax refund.
6 other things to know about student loans and taxes
Taxes can be daunting; if you’re dealing with student loans during tax season, keep the following things in mind.
1. Dependents cannot deduct interest
If your parent is claiming you as a dependent, you cannot deduct student loan interest from your overall tax bill. Your parent, however, might be eligible to claim the deduction if they are listed as a borrower on your student loan.
If someone is helping you pay your student loans and is not listing you as a dependent, you can still take advantage of the interest deduction.
2. Don’t fear the marriage penalty
The marriage penalty is an industry name for a total tax bill being affected by a married couple filing their taxes jointly. Often, joint filing can result in a higher total tax bill than if the couple filed separately.
There aren’t any situations where being married and filing separately would be beneficial while deducting student loan interest on taxes. In fact, married couples filing separately are not eligible for the student loan interest deduction.
3. Take advantage of relevant tax credits
While those still in school aren’t required to make payments toward their student loans, that doesn’t mean they can’t use their student status to their full advantage on their taxes.
There are two main tax credits for those who are still in school:
The American Opportunity Credit
The American Opportunity Credit is worth up to $2,500 per student per year but can only be claimed for four total tax years per student.
The American Opportunity Credit has strict qualifying requirements, including:
- The student must be attending school at least half time for at least one academic term.
- The student must not have finished the first four years of a postsecondary program prior to the end of the tax year.
- The student must be pursuing a program that will end with a degree or other recognized credential.
Keep in mind that the American Opportunity Credit is a tax credit, not a tax deduction. Although the two terms sound similar, the difference is significant. A $2,500 tax deduction simply reduces your overall income by $2,500. This might reduce your total tax bill by $200 to $800, depending on your tax bracket. A $2,500 tax credit is worth much more — it would reduce your tax bill by the entire $2,500 amount.
The Lifetime Learning Credit
The Lifetime Learning Credit, worth up to $2,000 per year per student, has less-strict requirements:
- There is no minimum on hours enrolled to qualify and no limit to how many years the credit can be claimed.
- Students do not need to be pursuing a degree or other recognized education credential; in other words, students can use this credit for courses meant for acquiring job skills.
Like the American Opportunity Credit, the Lifetime Learning Credit is a tax credit rather than a deduction.
4. Avoid default at all costs
Not only can defaulting on a student loan hurt your credit and cost you extra money, defaulting has other potential consequences. Your wages could be garnished and your tax refund withheld. Your tax refund is at risk if you default on your loans, but this won’t happen if you take steps to set up a repayment plan or forgiveness program.
If you are struggling with student loan payments, consider calling your servicer to create a plan that will help you better manage the cost. You might be eligible for a hardship program, an income-based repayment plan or a settlement.
5. Don’t use 529 funds to make student loan payments
According to the U.S. Securities and Exchange Commission (SEC), funds in 529 plans can be used on a 100 percent tax-free basis when put toward qualified educational expenses, such as tuition and fees or room and board.
However, you cannot use 529 funds to make student loan payments. If you do, you’ll be hit with a 10 percent penalty and will be taxed on that money as income.
6. Be prepared for extra payments for loan forgiveness
Student loans are not taxable as income. However, if you are granted loan forgiveness, then you will likely be taxed on the total amount forgiven. Public Service Loan Forgiveness has no tax consequences, but income-driven repayment plans like PAYE and REPAYE may tax the amount that was forgiven at the end of your repayment period.
Keep in mind that loan forgiveness is not the same as loan discharge. Any student loan debt that is discharged due to death or total and permanent disability (TPD) is no longer taxable. This law is in effect for eligible loans discharged from Jan. 1, 2018, to Dec. 31, 2025.
Resources for tax help with student loans
Navigating student loans on your taxes can be tricky. Thankfully, there are plenty of resources available to help guide you through the process.
Those who want direct help from the IRS can access the 970 worksheet, titled “Tax Benefits for Education,” through its website. This worksheet outlines tuition reductions, how to claim credits, how the interest deduction works and more.
Those who feel unsure filing their taxes themselves should reach out to a certified accountant for help.
Consider refinancing your student loans
Depending on your current student loan balance, your interest rate and your financial situation, you may want to consider refinancing your student loans in order to make your finances more manageable come tax season. While refinancing to a lower interest rate will mean that you have less interest to deduct on your taxes, it may help you get rid of your student loans faster.
However, keep in mind that you’ll lose out on some of the deferment and forbearance options that are offered by the federal government if you refinance your federal loans.