The federal government will forgive student loans for borrowers who become totally and permanently disabled and cannot work. But there’s a catch: borrowers who have their loans discharged must pay income taxes associated with the amount forgiven, unless they are “insolvent,” meaning they have negative wealth (net worth).

Based on our estimates, the majority of potentially eligible borrowers are insolvent and would be able to avoid the tax bill, but people may not know about the program or the income tax waiver. Even if they do, the burden is on the disabled borrowers to read the 16-page Internal Revenue Service instructions, complete the worksheet to calculate their “total liabilities…and fair market value of assets owned immediately before the cancellation” of student loans, and apply.  

Members of Congress are trying to simplify this process. They have proposed legislation that would exempt eligible borrowers from this tax burden and the paperwork.

How many people would be affected? We turned to recently released US Census Bureau data to provide estimates. We looked for potentially eligible borrowers, which we define as low-earning (or low-income) people, ages 18 to 64, who receive disability benefits (Supplemental Security Income or Social Security Disability Insurance) and have educational debt.

The vast majority of potentially eligible borrowers (84 percent) had zero or negative wealth, and their median wealth was -$14,000 (table below). That is, when you add up what they own (including their homes) and subtract what they owe (including mortgage and student loans), they are $14,000 in debt.  

For most potentially eligible borrowers, educational debt is substantial. The typical borrower owes $16,000. When excluding educational debt from wealth, median wealth is $2,450, and less than a third have zero or negative wealth.

Some potential borrowers are living in or driving any wealth they have. The median disability benefit recipient with low earnings and educational debt has zero wealth after subtracting educational debt and equity in their primary residence and vehicles. For some of these borrowers, paying income taxes associated with loan forgiveness could entail selling a home or automobile.

Using earnings to define potentially eligible borrowers brings us close to the regulation’s requirements, but gives us a small sample size. If we use unearned income in addition to earnings (that is, counting things like asset income and taxable and nontaxable benefits) to increase our sample size, the results remain consistent: 82 percent of potentially eligible borrowers had zero or negative wealth, with median wealth nearing -$10,000 (table below).

The Census data we use for this analysis do not capture whether a work-related disability is “total and permanent,” so we narrow borrowers to those with “poor” or “fair” health as those most likely to be eligible for forgiveness. Although the pattern is similar, these borrowers have lower wealth than the broader population of low-income potential borrowers (table below).

For some borrowers, the tax bill on discharged student loans could be a few thousand dollars, which can be a significant burden on borrowers who become disabled and cannot work.