Legal Update: On November 22, 2022, the Biden Administration announced that the U.S. Department of Education will extend the suspension of most federal student loan payments while its student loan debt cancellation program is tied up in the courts. Payments will resume:
Collection actions, wage garnishments, and Treasury offsets for defaulted federal student loans are also paused.
In addition, under Biden's plan, borrowers who have defaulted on their federal student loans can have their loans returned to good standing, any delinquency cured, and again get access to several student aid benefits under the "Fresh Start" initiative. The Fresh Start program will continue for one year after the COVID-19 payment pause ends.
When you miss a payment on most debts, your account will go into default at that time or shortly afterward. For instance, when you fall behind on a credit card payment or mortgage loan, the lender typically lets you know soon after that you're in default.
But default usually doesn't happen immediately regarding federal student loans. You default on most federal student loans only after several missed payments.
While you won't go into default right away, defaulting on your federal student loans has serious consequences. The government has powerful tools to use against borrowers who don't make student loan payments.
When a Federal Family Education Loan (FFEL) or Direct Loan borrower misses a payment, the loan becomes delinquent. The servicer might contact you and tell you about different repayment options.
While the new servicer might sound a lot like a debt collector, it usually isn't one. If you don't get caught up, a debt collector will come into the picture later (see below).
When your loan is delinquent, you have many options to avoid default, like requesting a deferment, getting a forbearance, or consolidating your loans.
If your FFEL or Direct Loan payments are due monthly, default will occur after 270 days (about nine months) of missed payments. If your payments are due less frequently than monthly, default occurs after 330 days of missed payments (about 11 months).
But a Perkins loan is in default as soon as you miss a payment or violate any other term of the payment agreement.
While federal student loans are generally more lenient than most other loans regarding when default happens, the repercussions of defaulting on federal student loans are much more severe than for most other debts.
Intercepting tax refunds is the method the government most frequently uses to collect outstanding student loan dollars. Each year the federal government pockets hundreds of millions of dollars by grabbing tax refunds (without having to get a judgment first) from defaulted student loan borrowers.
And if you legitimately owe the money, stopping a tax refund intercept is very difficult.
Notification and defenses. Before the government takes your money, you'll get notice, an opportunity to review the loan records, and a chance to challenge this decision. A few of the possible defenses that might stop a tax refund intercept are:
Avoiding a tax refund intercept. If your tax refund is small, you will have less to lose from an intercept. To ensure your tax refund is minimal, you can increase the money you receive with your paycheck during the year. For example, suppose you got a $1,440 tax refund last year. This year, you might want to ask your employer to take out $120 less each month. Use the IRS withholding calculator to help you figure out how much to ask your employer to withhold.
The Debt Collection Improvement Act of 1996 (31 U.S.C. § 3716(c)(3)(A)(i)) allows federal government agencies to offset Social Security benefits to collect debts like student loans. However, the government must let you keep a certain amount. Specifically, the Act exempts benefit payments totaling $9,000 over a 12-month period ($750 on a monthly basis), and the government can't take more than 15% of your benefit.
Unlike almost every other kind of debt, no statute of limitations applies to the collection of federal student loans. So, even 20 or 30 years after you went to school, the government can continue to try to collect your loans.
If you're totally and permanently disabled, though, you could be eligible for cancellation of your federal student loans. Many people aren't aware of this option and continue to have their Social Security garnished.
The government can take ("garnish") a limited portion of the wages of a student-loan debtor who's in default. It can take up to 15% of your disposable income without taking you to court.
But no matter what, you're allowed to keep an amount that's equal to 30 times the federal minimum wage per week. As with the tax refund offset, you can object to wage garnishment.
If you default on a federal student loan, the Department of Education may transfer your account to a debt collector. Debt collectors are paid fees and commissions from the payments you send to the collector.
A percentage of every payment that you make on your student loan goes towards the collection fees. For example, if a collection agency charges 25%, and you pay $1, only $.75 will be applied to your loan balance. The rest ($.25) will go towards the collection fees.
If your payment doesn't cover the fee and full interest accruing on the loan, your loan balance can rise quickly.
The government might sue you. Again, unlike other debts, the law doesn't provide a time limit (a statute of limitations) for a lawsuit to collect federal student loans.
If you're merely delinquent, you're still eligible for deferment and different types of repayment plans. But you'll lose this eligibility once the loan goes into default.
A delinquent loan is eligible for forbearance, and federal law says that a servicer has discretionary power to allow forbearance on a defaulted loan. (34 C.F.R. § 682.211(a)(1), 34 C.F.R. § 685.205(a)(8)). Unfortunately, the Department of Education doesn't agree with this interpretation and says forbearance isn't available after default.
If you default on your federal student loans, you could lose your professional or another type of license. Approximately 20 states allow the government to suspend a state-issued professional license, like a nursing, teaching, or law license, or another kind of license, like a driver's or even a fishing license, after a borrower goes into default.
For federal student loans, the servicer usually won't report your loan as late to the credit reporting agencies until the payment is more than 90 days late. (If you have private student loans, though, the servicer will probably report it as late after 30 days.) This reporting will lower your credit scores.
A default normally remains on your credit reports for seven years. But if you rehabilitate your loans, the credit reporting agencies will remove any mention of the default from your credit files. However, your late payment history before you entered default status will stay on your credit reports.
One way to get out of default on a federal student loan is to rehabilitate it by making good faith payments. Combining your student loans into a Direct Consolidation Loan is a another way to get out of default on federal student loans. Getting out of default is important if you want to qualify for certain federal repayment plans, borrow new loans to go back to school, or improve your credit rating.
With loan rehabilitation, you make nine voluntary, reasonable, and affordable loan payments within 20 days of the due date over a period of ten consecutive months. The payments must be reasonable and affordable based on your total financial circumstances. A "reasonable and affordable" payment is equal to 15% of your annual discretionary income, divided by 12. Discretionary income is the amount of your adjusted gross income—taken from your most recent federal income tax return—that is more than 150% of the poverty guideline amount for your state and family size. You'll have to provide documentation about your income.
If you can't afford this amount, ask for an alternative monthly payment. The payment will be based on the amount of your monthly income that remains after reasonable amounts for your monthly expenses have been subtracted. To rehabilitate your loan, you have to select one of the two payment amounts, which could be as low as $5, depending on your income.
Also, rehabilitation payments must be voluntary—that is, they can't be payments towards your loan that come from a garnishment or tax refund offset. If your payments are currently made through garnishment, you'll have to contact your loan servicer and attempt to set up a voluntary payment plan.
You can rehabilitate defaulted loans only once. If you rehabilitate a loan and then default again, you can't rehabilitate it another time. And be aware that curing a default through rehabilitation will increase your loan's principal balance.
Again, if you rehabilitate a loan, credit reporting agencies will remove any mention of the default from your credit reports. But any history of late payments before you entered default status will remain on your reports.
Under the federal Direct Consolidation Loan program, you may consolidate (combine) one or more of your federal student loans into a new loan. The new loan will have a fixed interest rate based on the average interest rates on consolidated loans.
Almost all federal student loans are eligible for consolidation.
If you've missed a few payments on a federal student loan, don't panic. You probably have time to avoid going into default. You can request a number of deferments, you might have forbearance options, or you might be able to consolidate your defaulted student loans. And, in limited circumstances, federal student loan borrowers can qualify for loan forgiveness.
Contact your loan servicer or a consumer protection attorney who deals with student loans to find out more about what options are available in your situation.
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