At least 13 states are not bound by law to fully uphold the federal tax exemption when it comes to state tax, according to the Tax Foundation.
The organization projects three more states Arkansas, Minnesota, and Wisconsin may tax student loan forgiveness.
Arkansas tax law does not conform to the Internal Revenue Code in any significant way, Watson said. “Arkansas’s tax code is silent on the treatment of student loan debt forgiveness, and the ordinary rule—that a discharge of indebtedness constitutes taxable income—should prevail absent state action.”
Minnesota currently lacks any other provision to exclude student loan debt cancellation from income, he added.
Wisconsin has no carveout for loan forgiveness and currently in line to tax student loan debt forgiveness, Watson said.
But in some states, including New York and Hawaii, “tax officials have indicated that there will be no tax on student loan debt discharge despite ambiguity in state law,” Watson said.
California, for instance, does not conform to a post-ARPA version of the IRC but has a provision in existing law exempting student loans canceled pursuant to income-based repayment programs, according to the Tax Foundation.
“Legislation expressly conforming to the new federal law failed, but state revenue officials seem to be taking the position that the forgiveness announced by the Biden administration will be covered by the existing law,” Watson said.
Pennsylvania officials have already announced that the Biden administration’s cancellation of student loan debt is not taxable, “though the rationale for this determination is unclear. Pennsylvania has eight classes of taxable income, and historically, debt forgiveness—including student loan debt forgiveness—has been understood as fitting within existing classes,” Watson said.
Late last year, the Commonwealth issued a bulletin stipulating that while cancellation of student loan debt can ordinarily be taxable income, it would not be taxed if it was forgiven as part of several specific federal programs for individuals serving as teachers, firefighters, or nurses.
But “Pennsylvania is now indicating that it will not tax this new broader class of debt forgiveness, and thus it has come off our list, though the authority for this change is not immediately clear,” Watson added.