Consequences of Defaulting on Federal Student Loans
By Mark Kantrowitz
The consequences of defaulting on federal student loans are
severe. The federal government has very strong powers to compel
repayment, including:
- The federal government can garnish up to 15% of the borrower's disposable pay (total income minus amounts required by law to be withheld) without a court order. The borrower must be left with 30 times the federal minimum wage per week after the garnishment.
- The federal government can offset up to 15% of Social Security disability and retirement benefit payments. The first $750 of Social Security benefits cannot be offset.
- The federal government can intercept federal and state income tax refunds and lottery winnings to repay defaulted federal student loans.
- Collection charges of up to 20% may be deducted from every payment.
- The federal government can prevent renewal of professional licenses (e.g., doctors, dentists, nurses, pharmacists, veterinarians, therapists, counselors, psychologists, social workers, teachers, accountants and attorneys, among others). Three states (Montana, Iowa and Oklahoma) prevent renewal of driver's licenses.
- Borrowers who have defaulted on federal student loans are ineligible for FHA and VA mortgages.
- Borrowers who have defaulted on federal student loans cannot enlist in the U.S. Armed Forces.
- Borrowers who have defaulted on federal student loans lose deferment and forbearance options.
- Borrowers who have defaulted on federal student loans are ineligible for further federal student aid funding.
- Borrowers who have defaulted on federal student loans may be sued. The U.S. Department of Justice will sue borrowers who owe more than $45,000. Cases involving less than $45,000 are handled by private attorneys who work on a commission basis.
- The default is reported to credit bureaus, ruining the borrower's credit.
Rehabilitation of Defaulted Federal Student Loans
Borrowers who are in default on federal student loans have a one-time
opportunity to clear the default by rehabilitating the loans. The
borrower must make voluntary, on-time, reasonable and affordable
monthly payments. Reasonable and affordable is defined as the monthly
payments under the income-based repayment plan, but with a $5 minimum
monthly payment. After 3 months, the borrower regains eligibility for
federal consolidation loans. After 6 months, the borrower regains
eligibility for federal student aid. After 9 out of 10 consecutive
months, the default will be removed from the borrower's credit
history. Borrowers can also rehabilitate their loans by consolidating
them into the Direct Loan program and agreeing to repay the loans
under income-based repayment (with a $5 minimum monthly payment);
however, this does not remove the default from the borrower's credit
history.
Settling Defaulted Federal Student Loans
Borrowers who can afford to make a lump sum payment to settle their defaulted loans may be able to take advantage of one of three standard settlement offers:
- Waive collection charges. Normally, the collection charges will increase the payoff amount by 25%.
- Forgive half of the interest that has accrued since the loans entered into default.
- Discount the principal and interest balance of the loans by 10%.
Borrowers who are seeking a settlement of their debt should contact any of the following:
- The servicer of their loans
- The Default Resolution Group (1-800-621-3115, TDD/TTY 1-877-825-9923, drghelp@ed.gov)
- The FSA Ombudsman (1-877-557-2575, fsaombudsmanoffice@ed.gov)
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