Illinois Student Loan Forgiveness Now Taxable in 2026

Starting January 1, 2026, many types of federal student loan forgiveness previously excluded from taxable income under pandemic-era tax law are once again treated as taxable income by the IRS. For borrowers in Illinois and other states that conform to federal tax rules, this means the forgiven debt may be taxable at both the federal and state levels, a situation often referred to as a student loan tax bomb.

This change has major implications for borrowers planning their finances and filing their 2026 tax returns. It also creates new planning and compliance challenges for CPAs, enrolled agents, and tax attorneys advising clients with long-term student loan strategies. Understanding how this shift affects taxable income, estimated payments, and state conformity is critical heading into the 2026 filing season.

Key Takeaways

• Most student loan forgiveness becomes taxable again at the federal level starting January 1, 2026.

• The tax-free treatment under pandemic-era relief expired on December 31, 2025 and was not extended.

• Illinois generally conforms to federal tax rules, meaning forgiven student loan balances may also be taxable at the state level.

• Public Service Loan Forgiveness and certain discharge programs typically remain tax-free under current law.

• Forgiveness under income-driven repayment plans can create a significant one-time tax liability.

• Tax professionals should identify affected clients early and model the tax impact before forgiveness occurs.

Why Student Loan Forgiveness Is Taxable Again in 2026

Under the American Rescue Plan Act, student loan forgiveness was temporarily excluded from taxable income for loans discharged between 2021 and 2025. That relief applied broadly, covering most federal student loan forgiveness programs, including income-driven repayment plans such as IBR, PAYE, and ICR.

However, that exclusion expired on December 31, 2025 and was not extended by Congress. As a result, beginning in 2026:

• Most forgiven student loan balances are included in gross income for federal tax purposes

• The IRS treats forgiven debt as cancellation of debt income unless a specific statutory exclusion applies

• Loan servicers may issue Form 1099-C, triggering income reporting for borrowers

This represents a return to the pre-pandemic tax treatment of student loan forgiveness and significantly changes the financial outcome for borrowers nearing discharge.

Which Student Loan Forgiveness Programs Are Tax-Free vs. Taxable

Not all forgiveness is treated the same, and this distinction is critical for accurate tax planning.

Generally Tax-Free

• Public Service Loan Forgiveness

• Teacher Loan Forgiveness

• Certain disability discharges and closed-school discharges

These programs are excluded from taxable income under current federal law and typically remain non-taxable.

Generally Taxable Starting in 2026

• Forgiveness under income-driven repayment plans after 20 or 25 years

• Other federal or private loan cancellations not specifically exempted

For borrowers on long-term repayment plans, the taxable amount can be substantial, often tens of thousands of dollars added to adjusted gross income in a single year.

Why This Matters Specifically for Illinois Borrowers

Illinois generally conforms to federal definitions of taxable income. When student loan forgiveness is taxable at the federal level, it is often taxable at the state level as well.

This creates a compounding tax issue. A borrower may owe federal income tax on the forgiven amount and Illinois income tax on the same income. The result can be a significant unexpected liability, especially for borrowers who did not plan for additional tax due.

For tax professionals, this raises several issues:

• Clients may underwithhold or fail to make estimated payments

• Forgiveness may push taxpayers into higher marginal brackets

• State conformity rules must be reviewed annually

Planning Considerations for Tax Professionals

Tax professionals should proactively address student loan forgiveness with affected clients well before discharge occurs.

Key considerations include:

• Confirming the expected year of forgiveness and program eligibility

• Modeling tax liability on projected forgiven balances

• Reviewing estimated tax payment requirements

• Evaluating insolvency exclusions where applicable

• Coordinating state and federal treatment

Borrowers who qualify for forgiveness in late 2025 but receive formal discharge in 2026 may still qualify for tax-free treatment depending on IRS guidance, making timing documentation especially important.

Conclusion

The return of taxable student loan forgiveness in 2026 marks a significant shift from the relief provided during the pandemic years. For Illinois borrowers, the impact may be even greater due to state conformity with federal tax law. Without proper planning, forgiven debt can translate into a large and unexpected tax bill. For tax professionals, this change presents both risk and opportunity to provide proactive, high-value guidance.

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Frequently Asked Questions

Is student loan forgiveness taxable in Illinois in 2026?

In many cases, yes. If forgiveness is taxable at the federal level, Illinois often follows that treatment for state income tax purposes.

Which student loan forgiveness programs remain tax-free?

Public Service Loan Forgiveness, Teacher Loan Forgiveness, and certain discharge programs generally remain excluded from taxable income.

What tax form reports forgiven student loan debt?

Forgiven debt that is taxable is typically reported on Form 1099-C, which must be included in gross income.

Can borrowers reduce the tax impact of forgiveness?

Possibly. Planning strategies may include estimated payments, insolvency exclusions, or timing considerations, depending on the borrower’s financial situation.

When should tax professionals discuss this with clients?

Ideally several years before expected forgiveness. Early planning can prevent surprise liabilities and improve client outcomes.