Student loans can feel like an enormous financial burden -- one that makes you want to bury your head in the sand and forget it's there. But neglecting your student loans can lead to default, which can have serious consequences for your financial health.
Most student loan borrowers who fail to make payments on their federal student loans for 270 days past the due date will default. Defaulting on your loans could lead to severe consequences like wage garnishment, which is when the U.S. Department of Education withholds up to 15 percent of your disposable pay from your job -- and may even withhold tax refunds and Social Security benefits -- to pay back your loans.
Not only that, but being in default can also damage your credit score, which in turn can make things like getting new credit or renting an apartment more difficult. In addition, borrowers could face collection fees that add more to their balance.
If you're currently in student loan default, here are some steps you may be able to take to get out.
Consolidate your loans.
If you want to avoid some of the pitfalls of student loan default, one option to consider is consolidating your federal student loans. Through a Direct Consolidation Loan, you can pay off your outstanding balances and have a new loan with one monthly payment and a fixed interest rate.
In order to use this option, borrowers need to meet certain initial qualifying criteria and do one of two things with respect to their defaulted loans:
- Make arrangements with the Department of Education or your loan servicer, and make several voluntary payments first. Typically, borrowers need to make three consecutive payments before consolidating defaulted loans.
- Or, agree to repay the Direct Consolidation Loan under the Income-Based Repayment plan, Pay As You Earn Repayment plan or Income-Contingent Repayment plan, which cap your monthly payment as a percentage of your income depending on the plan and the date you took out the loan.
With a Direct Consolidation Loan, borrowers could get out of default and have up to 30 years to pay back their student loans. While this may make the repayment terms more favorable, loan extensions also mean paying more in interest over the life of the loan.
Federal student loan borrowers in default can apply for a Direct Consolidation Loan through StudentLoans.gov for free. Most federal student loans are eligible for consolidation, so this is a good way for borrowers in default to get in good standing.
Rehabilitate your loans.
Another option that may be available is to rehabilitate your loans, which involves discussing an affordable repayment plan with the Department of Education. Rehabilitation differs from consolidation in that you must rehabilitate each loan individually, instead of consolidating your loans into one new loan.
In addition, rehabilitation can be a longer process than consolidation, and if you are rehabilitating Federal Family Education (FFEL) loans, the loans are usually sold to another lender. Once you have a repayment plan in place, you must make on-time payments for a period of time.
Jay Fleischman, student loan expert at Consumer Help Central says, "For federal loans, you may be able to bring the account back into good standing by making nine monthly payments over a 10-month period through rehabilitation."
You may be asked for proof of income when coming up with a payment plan, and it's important to note that there may be collection costs added to your principal balance that can be significant, depending on the type of student loans you have. In addition, if your wages have been garnished, those payments don't count toward your required rehabilitation payments. Once you've worked out your rehabilitation program, it's key to go over instructions carefully and follow each step as directed.
There are several benefits to rehabilitating your loans. For example, once they're rehabilitated, your loans will no longer be in default. In addition, borrowers will be eligible for deferment, forbearance and various repayment plans, which typically aren't available for borrowers in default. However, even though the default status is removed from your credit report, late payments reported before the loan default can remain on your credit history.
The difference between federal and private student loan default
Consolidation and rehabilitation are available to federal student loan borrowers, but private student loans are a whole different ballgame. What happens when a borrower defaults on a private student loan varies depending on the lender.
"Private loans don't have a formal rehabilitation process, so any options for getting out of default are up to the lender and the collector," Fleischman says.
Private lenders may attempt to retrieve payment through collections calls and letters. In addition, private lenders who want to take further action such as wage garnishment may choose to file a lawsuit against you first.
If you're ready to get out of default, start by researching your options. "Find out what you need to do in order to get the loan out of default, and be sure to take notes so you can review the information later," Fleischman says.
Getting out of default is a process, but it is doable. The key is to make on-time payments and have a repayment plan you can afford. You only get one chance to consolidate or rehabilitate your defaulted loans, so it's important to be consistent and work toward getting out of debt.
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