The Impact of Canceling Student Debt

President Joe Biden’s plan to cancel between $10,000 and $20,000 of student debt for eligible borrowers may be welcomed relief for many. The impact of canceling student debt could be life-changing for many U.S. adults and families. Canceling this debt would be of particular benefit to households of color. But for those people who never went to college or who have paid off their loans already, the impact would be minimal, and the economic impact may not be as positive as some think.

What Is Biden’s Plan to Cancel Student Debt?

On Aug. 24, 2022, the Biden-Harris administration announced its long-term student debt relief plan, but it is on hold as of February 2023 as legal challenges work their way through the courts. The plan features three prongs:

1. Borrowers that earn less than $125,000 per year are eligible for $10,000 of federal student loan forgiveness. Married couples filing jointly or heads of household may make up to $250,000 and still be eligible. Those that received the income-based Pell grant while students are eligible for up to $20,000 in forgiveness.
2. The pause on federal student loan payments was extended to either 60 days after June 30, 2023, or 60 days after litigation blocking the White House's forgiveness program is resolved, whichever is earlier.
3. Income-driven repayment plans will now be capped at 5% of discretionary income rather than the current 10%.

The application process for student loan forbearance was briefly opened, but legal challenges prompted court orders that quickly blocked the program. The Department of Education has thus stopped accepting applications indefinitely and has paused processing applications that were already submitted. Payments made to borrowers under the program remain paused while the Biden administration tries to get the program back on track.

Note that while the American Rescue Plan makes student loan forgiveness granted between Jan. 1, 2021, and Dec. 31, 2025, tax-free at the federal level, some states may see it differently. Currently, forgiveness is expected to be taxed as income in Arkansas, California, Indiana, Minnesota, Mississippi, North Carolina, and Wisconsin.

Positive Impacts of Canceling Student Debt

Though plenty of borrowers owe more than $10,000, any sort of student loan forgiveness would benefit them financially. Some economists believe that loan forgiveness would also serve as a stimulus to the greater economy, as borrowers could then use that money for other purposes, such as buying a home.

For example, if you have $35,000 in student loan debt, and pay $300 per month on the loan which has a 4.66% interest rate, over the course of 13 years, you'll pay almost $12,000 in interest. By canceling $10,000 of that student debt, you could save about $6,000 and pay off the rest of your debt five years sooner.

Canceling student debt could be of particular benefit to lower-income borrowers, especially women and people of color. An academic paper in 2020 maintained that the "median wealth for Black households overall, not just borrowers, would instantly increase by 42% with $75,000 in student debt forgiveness and around 34% with $50,000 in forgiveness." Those are higher amounts than Biden has suggested but would be in keeping with his administration's initiatives to address racial equity.

Negative Impacts of Canceling Student Debt

Critics argue against canceling any amount of student loan debt, in part because it would unduly benefit a relatively privileged class of people—college students. While over 45 million Americans have at least some student loan debt, they represent only approximately 13.5% of the U.S. population.

In addition to concern regarding the fairness of the plan, it is also not without its costs. Fiscal experts estimate that the loan cancellation will cost $519 billion over the course of the 10-year budget window. Add another $16 billion in forbearance for 2022 and potentially another $450 billion for the new income-driven repayment program, and the total sticker price could be near $1 trillion.

That potential trillion dollars in forgiveness has to come from somewhere. Current estimates state that forgiveness will cost roughly $2,000 to $2,500 per taxpayer, whether they went to college or not.

While forgiving student loans may have an impact on current borrowers, an analysis by the Committee for a Responsible Federal Budget said that they would expect student loan debt to return to $1.6 trillion by 2028. Since the plan does nothing to dampen higher education costs, they have no impact on current and future students facing historically high education costs. Some institutions may also increase tuition rates with the assumption of future forgiveness, though that's merely speculation at this point.

Student loan debt cancellation may have another negative impact—higher inflation rates. The Committee for a Responsible Federal Budget estimates that the influx of $10,000 to $20,000 for millions of borrowers could push inflation rates even higher, with personal consumption expenditure (PCE) inflation increasing by 15–27 basis points.

The Bottom Line

Though there is a general consensus that higher education reform, particularly in regard to costs, is desirable, experts are divided as to whether canceling some or all student loan debt is the best way to go about it. While those receiving forgiveness will see a financial benefit, there may be longer-reaching ramifications that will be more costly for all taxpayers in the long run.