Student loan interest deduction is on the chopping block

The House Republicans Tax Cuts and Employment Act calls for the removal of a number of what lawmakers have called “special interest deductions” – including those for medical expenses, l adoption and interest on student loans. This puts the student loan interest deduction on the chopping block.

In 2015, more than 12 million borrowers included an interest deduction on student loans on their Form 1040, according to IRS Records. These taxpayers represent nearly 3 in 10 of the estimated 44 million Americans with student loan debt.

Under current rules, borrowers can deduct up to $ 2,500 in interest paid on eligible federal and private student loans. (See the infographic below for some of the ins and outs.) This is an “above the line” deduction on your Form 1040, which means it directly reduces your taxable income – and you don’t need to itemize to claim it.

The deduction of interest on student loans, however, is subject to income limits. It is starting to gradually disappear for singles with a modified adjusted gross income (MAGI) of $ 65,000 and married couples jointly reporting earning $ 130,000. Singles with a MAGI of $ 80,000 or more, and married couples filing jointly with one of $ 160,000 or more, cannot claim the deduction, period.

“You get these forms from your lender, and then you find out that you can’t deduct the interest,” Gavin Morrissey, managing partner of Financial Strategy Associates in Needham, Massachusetts, told CNBC earlier this year. “It happens with a lot of people.”

Your repayment schedule also limits the value of the deduction. Graduates typically have a six-month grace period before the student loan repayment begins, so the value of this loan interest deduction will not be material until the tax year after obtaining. of the diploma. But then the value declines over the following years as you pay off the loan and more of your payment goes to principal rather than interest.

For many borrowers who can claim it, the interest deduction on student loans is not much. Looking at these 2015 IRS records, the average amount of interest is around $ 1,100, saving a person in the 25% tax bracket around $ 275, said Mark Kantrowitz , vice president of strategy for the university and scholarship research site Cappex.com.

“If you were to claim the full $ 2,500, that would be a tax cut of $ 625,” he said.

But losing the deduction would always be an unwelcome blow. Losing that break could have a ripple effect on other parts of your tax situation as your taxable income is now that much higher, he said.

“You don’t look at people with six-figure salaries.… You look at people with average salaries,” Kantrowitz said.

Borrowers most likely to feel the full loss of the deduction would include recent graduate or undergraduate graduates with “significantly above average” student loan debt and incomes below the phase-out threshold, said Kantrowitz. (According to his estimates, a borrower would need approximately $ 54,000 in undergraduate debt at current rates, compared to an average of $ 37,000, to reach that maximum interest of $ 2,500.)