Student Loan Payment Plan Promises Forgiveness But Rarely Delivers

The information in this article is based on an analysis of 2021 financial data in relation to the Revised Pay as You Go or REPAYE income-driven repayment plan. As of summer 2023, REPAYE has been replaced by the more favorable Saving on a Valuable Education or SAVE plan.

Student loan forgiveness through income-driven repayment sounds like the best of all worlds: a monthly payment sized to match your paycheck that disappears — along with any remaining balance — after a set number of years.

But a NerdWallet analysis finds most borrowers are unlikely to ever see that debt forgiven, despite the baked-in promise to do just that.

The projections show that even when federal loan borrowers make these income-driven payments each month, most will pay off their loans before they hit their forgiveness date, and those who do get their debt discharged will still accrue thousands in interest and face a high tax burden.

While income-driven plans remain the best choice for borrowers who need to shrink their monthly payments due to unemployment or want to shrink them as a safety net, they are not a long-term strategy to clear debt — especially for borrowers who earn more than $30,000 a year.

Federal student loan payments restarted October 2023 after more than two years of pandemic forbearance. As millions of borrowers consider their best options to tackle their debt, here’s how IDR might fit into their plans.

How is income-driven repayment forgiveness supposed to work?

As of the end of 2021, 33% of all federal student loan borrowers are enrolled in one of the four income-driven repayment plans, according to federal data.

The IDR plan you’re most likely to access is called Revised Pay As You Earn, or REPAYE. It caps payments at 10% of your discretionary income and sets your new repayment term at 20 years for undergraduate debt or 25 years for those with any graduate debt. If you haven’t paid off your debt by the end of your term, the remainder is forgiven.

IDR often lowers your monthly payment, but whether you’ll ever see forgiveness depends on your loan principal, interest rate and income over time.

The National Consumer Law Center and the Student Borrower Protection Center reported in September 2021 that only 32 borrowers had ever attained discharge through IDR since the program’s inception in 1995. The majority of borrowers currently enrolled in IDR are in the REPAYE plan, which launched in December 2015, and aren’t scheduled for discharge until 2035, at the earliest.

Forgiveness isn’t achievable for most borrowers

NerdWallet’s projections, for consistency, do not factor in several circumstances that could derail or delay repayment such as payment pauses, loss of income, wage stagnation or the addition of a spouse’s income to a borrower’s monthly payment calculation.

The analysis:

• Considers two debt loads, based on federal direct loan maximums: $27,000 for undergraduates and $129,500 for those with graduate and undergraduate debt.

• Factors in nine potential starting salaries ranging from $20,000 to $100,000 and assumes annual wages will rise 3% year over year.

• Includes consolidated interest rates that reflect the last few years of rates that a borrower plausibly could have.

• Measures the effect on federally taxed income for those who attain loan forgiveness, using 2021 tax calculations.

The analysis shows only two groups of borrowers — those with starting salaries of $20,000 and $30,000 — can expect to see their loans forgiven on $27,000 of debt. In addition, the borrower with a $20,000 starting salary would accrue $19,128 in interest and still pay $6,280 in income tax on the total forgiven debt of $31,027. The borrower with a $30,000 starting salary would accrue $15,164 in interest over time and only see $193 forgiven.

A borrower with a starting salary of $40,000 would pay off their loans in 149 months (roughly 12.4 years) while borrowers at a much higher starting salary of $100,000 would pay off their debt in 42 months — just three and a half years.

Borrowers with lower incomes are the most likely to benefit from IDR forgiveness. However, there’s strong evidence that this group of borrowers are not the ones enrolling. A July 2020 study from Third Way, a nonpartisan think tank, found that those with very low earnings ($12,500 or less) are less likely to enroll even though they stand to benefit the most. The research also found borrowers with more than $50,000 in student debt are the most likely to enroll in IDR.

Reaching forgiveness is expensive

Even if you do see your loans forgiven, you’ll accrue a ton of interest on the way.

At the lower-earning end, a borrower with a $20,000 starting salary and $129,500 in student loans would see $237,338 forgiven in principal and interest but would have accrued $132,457 in interest alone during their 25-year repayment period.

For a borrower with a $50,000 starting salary and the same amount of debt, the amount of principal and interest forgiven would be $162,708, but the borrower would have accrued $167,205 in interest alone over time.

For those with starting salaries of $80,000, the borrower would only see $26,727 of their principal and interest forgiven, but will have accrued $140,601 in interest over time.

Borrowers could face a high tax burden

For now, any amount forgiven through income-driven repayment is not considered taxable income by the federal government through the end of 2025. But if you do reach forgiveness after that point, you may face an expensive downside: a high tax bill.

The amount forgiven is added to your total taxable income, which would increase the amount you owe the government. And it might push you into a higher tax bracket.

A borrower with a starting salary of $40,000 and high debt, for example, would be pushed from the 22% tax bracket to the 32% tax bracket at the time of forgiveness, assuming today’s tax bracket distributions. Without the forgiven amount, this borrower would pay $13,637 (in current dollars) on their income; with forgiveness, they’d pay an additional $21,237 in income tax.

The Department of Education is implementing income-driven repayment fixes

The income-driven repayment account adjustment has led to many long-time borrowers benefiting from one-time fixes that count past payments toward the 240 or 300 needed for income driven repayment forgiveness. In 2023, federal student aid will also start displaying income-driven repayment payment counts on studentaid.gov when borrowers log into their accounts. And the federal student aid office plans to allow more loan statuses, such as deferments and forbearances, to count toward income-driven repayment forgiveness moving forward.

The Education Department said it will notify waves of loan forgiveness recipients about every two months. Here is the timeline.

In July 2023, 804,000 longtime federal student loan borrowers received word that a total of $39 billion in loan forgiveness would be given under the account adjustment.

In October 2023, it was announced that 51,000 borrowers would get around $3 billion in loan forgiveness.

In December 2023, $2.2 billion was announced for nearly 46,000 borrowers through IDR account adjustments and $2.6 billion for more than 34,000 borrowers through PSLF.

Debt relief continues into 2024. All told, the IDR account adjustment has forgiven roughly $45.7 billion in loans among 930,500 borrowers, as of Jan. 19, 2024.

Account adjustments are expected to continue through June 2024.

You should still use income-driven repayment if you need it

Plug your loan information into Federal Student Aid’s Loan Simulator to get an idea of what your monthly bills and costs could look like under an IDR plan. You can enroll in an IDR plan at any time. You must recertify your income each year.

IDR may not provide forgiveness effectively, but it is a safety net you should use when you:

• Have a low income or you’re unemployed (you may see a $0 payment).

• Can’t afford payments on a standard 10-year plan.

• Don’t want to pause payments and accrue interest.

• Have a high salary and want to pay off your debt fast.

• Are pursuing Public Service Loan Forgiveness.

You shouldn’t use income-driven repayment when you:

• Can afford your monthly payments on a standard 10-year plan.

• Want to avoid paying more over time.

You should recertify if you:

• Want to stick with income-driven repayment.

• See a decrease in your income, at any time.

• Want to continue pursuing forgiveness through PSLF or IDR.

You’ll have to submit an application on studentaid.gov or use a paper form. The application as well as a demo of the process are available on the Federal Student Aid website.

Borrowers can self-report their income without submitting tax documentation when applying for income-driven repayment up to six months after the repayment restart, roughly March 2024. Your servicer will notify you when your application is complete and inform you of your new monthly amount.