Student Loan Tax Refund: Some things you should Definitely know

Get important information about student loan tax refunds. Avoid common mistakes. Understand what happens in refund seizure and how it can be avoided. Realize your options after refund seizure. Learn how to avoid seizure of tax refunds.

Updated by Vidish S on 20th January 2020

If you have taken student loans and are currently pursuing your education then you may wonder how repayments on your student loans may affect your tax refunds. It may seem difficult to comprehend but it is not all that complex, although there are some things that need to be understood if you want to get a clear and complete picture regarding how your student loans will impact your tax refunds.


Learn about the Best Student Loans to get the most out of your loan in terms of tax refunds.


Table of Contents

Before we proceed: Some important things to know

The interest on your student loans is deductible if your Modified Adjusted Gross Income, known as MAGI, has been lower than $70,000 for the previous tax year. The maximum amount allowed for deduction is $2,500. If your MAGI rests between $70,000 and $85,000, a reduced amount of interest can be deducted equalling the amount that you have paid.

Repayment of student loans means paying back the principal amount as well as the interest that has accrued on that principal over the duration since the deployment of the loan. Although you can deduct the interest being paid on the loan from your taxes, unfortunately, the entirety of the repayment amount on your loan is non-deductible.

Having a MAGI which is less than $85,000 makes you eligible for a deduction of the student loan interest provided you repaid a private or federal student loan in 2019. Loans have to be taken for qualified education expenses and include:

  • Loans for one’s own education. This deduction applies not only to graduates but also to students who are doing well enough to be able to start paying off their loans while they are still studying.

  • Loans for someone else’s education. You will still be eligible for a tax deduction on your student loans if you have taken them on behalf of someone else, such as Parent PLUS loans.

  • Loans you are forced to repay. In the event of your wages being garnished or you being in a position where you are legally obligated to pay off a loan, tax deduction based on your loan interest being repaid is still applicable.

Be informed that tax deduction cannot be claimed if your filing status is married and filed separately. Being listed as a dependant on someone else’s tax returns also makes you ineligible.


Avoid These Mistakes that many make

Loans should not be labeled under your income: Some people make the mistake of filing their student loans under their income. While it is being repaid using your income, the loan itself does not come under your income and should not be listed as such because doing so will lead you to pay even more taxes than you actually need to. Nevertheless, these loans can also not be subtracted from your income simultaneously. Meaning, if you earn $35000 every month and pay $20000 as your student loan repayment monthly, it does not mean that your income for the month is $15000. This could be considered a fraud and can land you in serious trouble, including being audited and getting into further problems in the future.

Deduction of Tuition and other Fees: The government is interested in having its students gain higher education, resulting in better jobs with a higher salary which eventually leads to better economic state, to provide help to this end, the government provides tuition and fees deductions which will help your income by up to $4,000, dependant on your yearly classes cost. This is dependant on the actual cost of your tuition which you must pay, rather than being dependant on the number of loans you take.

Many loanees forget to take advantage of this great benefit, make sure you aren’t one of them.

Taxes and Forgiveness on your Student Loans: Taxes can be levied on the amount of loan that has been forgiven for an individual in the previous year. Depending on the type of loan that was taken out, the forgiven amount may be considered taxable income which would require you to pay taxes for that amount. This may be very important for a lot of loanees. If you are interested, then learn more about Student Loan Forgiveness And Taxes.

The forgiven amount may equate up to thousands of dollars and can rake up quite a hefty tax addition. Talk to an accountant or a tax professional in case this does apply to you as it can be avoided in certain conditions. Explore all the available options.

Getting Your Tax Refund Garnished: Your tax refund can be garnished if you do not pay your student loans’ monthly payments on time. Known as a Tax-Offset, it can take control of all your tax refunds to pay off your credit balance if you have defaulted in your student loans

It is important to be aware of the fact that you can only enter tax-offset if you have defaulted on your federal loans. It will not apply to loans from private lenders.


Will my student loans lender take my tax refunds?

The deduction of money from your tax returns by your student loan lender does not happen automatically. The initial condition for this to happen is that you should be in default on your federal student loans. If you are a loanee of Direct Loan, then the equivalent here would be being in the past-due status for 270 days.

Receiving a notification from your lender, indicating that you are in default on your loans may be an indication that the lender will probably garnish your tax returns. A notice of a tax-offset will be sent to you before it happens.


What happens when they seize my refunds?

To garnish your Tax refunds, the lender must go through the Treasury Offset Program. Garnish is the procedure used to send part or all of your tax refunds for payment of your credit balances that are pending.TOP reviews the request sent by your credit lenders and then decides the amount to be deducted from your tax refunds to be sent to the lenders for repayment of dues.  They may send the whole tax refund amount as well. Your Credit Score suffers badly as well, reducing your chances to secure another loan or services later.


Can they take everything for a defaulted loan?

TOP can garnish all of your tax refunds if the amount owed is equal to or more than the repayment amount. Eg. If you owe $2,000 and your return is $1900, all of it can be garnished. If you only owe $700 and your return is $1,100, you will receive the remaining $400 after your debt is covered.


My Refund was seized. What now?

So, a tax-offset has occurred and your refund was seized, you still have a few options you can pursue.

  • In case of an error on behalf of the authorities, feel free to contact the Department of Education for clarification and to get the matter resolved. The tax returns can also be refunded after clarification of the errors.

  • If your tax returns have been claimed due to the defaulting of your spouse on their loans, you are eligible to apply for an injured spouse claim. 

  • Apply for a hardship refund if your financial conditions are causing you to default on your loan repayments but you still need the tax refund as a means to sustain yourself.  Unfortunately, some additional situations must also be present for you to qualify including:

    • Active bankruptcy including the student loan

    • The loan doesn’t belong to you

    • Permanent disability

    • Non-enforceable loan


Prevent tax returns from being claimed by your student loans 

The best course of action to prevent your tax refunds from being seized is to take action as soon as it is refunded. You will have time to take action as your lender will notify you before it can seize your refunds. Some steps that can be taken are:

  1. Have a copy of your loan file requested from your lender. This has to be done within 20 days of receiving the tax-offset notification. Request the same in writing and request them to send it via certified mail delivery for documentation purposes.
  2. You have the right to challenge the issued offset if you believe that it is incorrect. Reasons for the same can vary from the fact that you are actually not in default or that the school did not pay you the money that was owed due to which you could not repay on time. The challenge must be made in writing, 15 days after the request of the loan file or after 65 days of receiving the offset notice, whichever comes first.
  3. Turn to the provider of the loan or the department of education to set up a payment arrangement. One way of avoiding tax offset is to try and get out of loan defaulting or get current on your loan repayments before the tax filing season arrives. This way, you can avoid having your tax refunds seized.
  4. Adjusting your withholding on your W2s can also help. This will not change the past, but it can help in ensuring that you receive more in your paychecks going forward and have less money stuck up in tax refunds. This can help lessen the hit if remedying the loan default before the next tax refund is not an option.

Some Final Thoughts

Student loans can impact your taxes in a lot of ways. Ensure that you have a complete understanding of your debts and what it means for your tax refunds.

Consider hiring a CFA or turning to Tax Refund Offsets if you need further help in making a decision. We also recommend putting together a financial plan for your student loan debt.