These states are waiving state taxes for federal student loan forgiveness, while others have yet to decide

It's been just over a week since President Joe Biden made the announcement that up to $10,000 worth of federal student loans per borrower — and up to $20,000 for Pell Grant recipients — would be forgiven, effectively freeing more than 20 million student borrowers from their student loan debt.

While this has been good news for many, there are still more details and next steps for borrowers to consider, including contacting your loan servicer to receive a refund for any pandemic-era payments and actually applying for federal student loan forgiveness.

After some confusion regarding whether or not states would count the money saved by student loan forgiveness as taxable income, student loan borrowers in a few more states can also relish in the fact that they'll no longer have this hanging over their heads. With the exception of three states — Mississippi, North Carolina and Indiana — that have decided to levy state taxes on federal student loan forgiveness, and several others that have yet to announce their final decision, in most states, additional state taxes will not be required for those whose federal student loans have been forgiven.

Below, Select breaks down how the states in question are handling state taxes and federal student loan forgiveness, and a few things you can do to reduce your taxable income before the year's end.

Typically, when you have debt discharged, the IRS treats it as taxable income. Since you didn't pay the debt you owed but kept the money that would normally have been sent to a debtor, it is seen as income, which makes it taxable.

With student loan forgiveness, taxes work differently. In March 2021, President Joe Biden signed the American Rescue Plan into law, which included a clause regarding student loan forgiveness saying that any federal student loans that were discharged between 2021 and 2025 would not be considered taxable income — in terms of federal taxes.

That said, as Eric Bronnenkant, certified financial planner, certified public accountant and head of tax at Betterment, tells Select, residents of several states may still be on the hook for state taxes if their state determines the money saved from student loan forgiveness to be taxable income.

It all comes down to the concept of conformity — whether or not a state chooses to conform to federal tax regulations or go its own way thanks to statutes that are already in place — and whether or not non-conforming states have time to update those statutes to conform with the new legislation.

"[37 states] choose to have conformity with the federal tax system, have conformity with specific federal legislation or create their own specific exceptions and exclusions," Bronnenkant said. "There are 13 states where the debt forgiveness may be considered taxable income."

According to Bronnenkant, these states can adjust this for their respective residents through "legislative changes or administrative decisions by state tax authorities."

Changes will be taking place and more information will be released over the coming weeks and months, so in the meantime, keep an eye on your state's tax board's website. Noting that this is an ongoing situation and the following information was accurate as of Sep. 6, 2022, here's where the states which do not have conformity with the federal tax code stand on levying state income on student loan forgiveness:

• Arkansas: Undecided
• Hawaii: Will not levy income tax
• Idaho: Will not levy income tax
• Indiana: Will levy income tax
• Kentucky: Will not levy income tax
• Massachusetts: Will not levy income tax
• Minnesota: Undecided
• Mississippi: Will levy income tax
• New York: Will not levy income tax
• North Carolina: Will levy income tax
• Pennsylvania: Will not levy income tax
• Virginia: Will not levy income tax
• West Virginia: Undecided
• Wisconsin: Undecided

All states not listed above have conformity with the federal tax code, so residents will not be levied state income taxes on student loan forgiveness. According to the Tax Foundation, Arkansas, Minnesota and Wisconsin appear to be "on track" to make student loan forgiveness taxable income.

If you're still unsure if you will owe state taxes on the student loan forgiveness you've received, contact your preferred certified public accountant or a trusted tax service.

Regardless of whether or not your student loan forgiveness ends up being deemed as taxable income, there are still plenty of ways to reduce your taxable income level before the end of the year, all while helping you invest for the future.

If you currently have private student loans, which are not eligible for forgiveness or payment pause, you can still deduct up to $2,500 in interest paid from your taxable income. Additionally, to save some more money in interest payments consider refinancing your private student loans with a lender like SoFi Student Loan Refinancing or Earnest Student Loan Refinancing.

You can also contribute more to your 401(k) retirement plan or traditional IRA, which will reduce your annual taxable income and allow your money to grow over time. A few of our favorite IRA brokerages are:

Next, you could contribute more money to a Health Savings Account, which would allow you to save pre-tax money for qualified medical expenses, or invest the funds in a brokerage account within that Health Savings Account, which would help lower your taxable income for the year. Note, however, that you'll need to have a high deductible health plan in order to enroll in an Health Savings Account.

Lastly, if you have purchased stocks that aren't performing well, you could consider selling them and writing off the loss. This is known as tax-loss harvesting, which essentially means you'd only have to pay taxes on the net profit you made from your investments.

While there are still plenty of details we don't yet know about student loan forgiveness, your best bet in the meantime is to sit tight and start creating your post-forgiveness financial plan, which can include building up your emergency fund, paying off any high-interest debt or opening an IRA to help you invest for retirement. Either way, it's a good idea to have a plan in place so you can avoid spending the windfall of money elsewhere.

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