Consumer Law: What Can I Do About a Defaulted School Loan?
- What does it mean to default on a student loan?
- How can I escape default?
- When can I cancel or discharge a student loan?
- Can I discharge a student loan in bankruptcy?
- How do I apply to cancel or discharge my loan?
- Who qualifies for discharge due to school closure?
- Who qualifies for discharge due to false certification?
- Once I have defaulted, is there any way to reinstate the loan?
- If I cannot discharge my loan but cannot afford the payments, what can I do?
- What is a FFEL and what shosld I know about it?
- Are there disadvantages to getting a consolidation loan?
- Is there anyway to temporarily stop making loan payments?
- What are the criteria for obtaining a deferment?
- How can I obtain a forbearance on my loan?
- Consumer links related to student loans
What does it mean to default on a student loan?
For federally guaranteed student loans under Title IV of the Higher Education, a default occurs when you fail to make payments on your loan for (a) 180 days if you repay in monthly installments or (b) 240 days if the payments are due less frequently. During the time that you are behind in your payments, your lender must exercise "due diligence" (make repeated efforts to find you and contact you about repayment) in attempting to collect the loan from you. If the lender is unsuccessful, it will usually place the loan in "default" and turn it over to the "guaranty agency" in your state. Lenders may "accelerate" a defaulted loan, which means that the entire balance becomes due in a single payment.Once your loan is assigned to a guaranty agency or the U.S. Department of Education for collection, several steps, including the following, may be taken to recover what you owe:
- credit bureaus may be notified [under 20 U.S.C.1080 or 20 U.S.C. 1087cc (c)] and your credit rating may suffer,
- the IRS (under 34 CFR 30.20-30.33) may withhold your tax returns,
- you may be subject to an Administrative Wage Garnishment where the Department of Education ( under 20 U.S.C. 1095a), will require your employer to forward 10-15% of your disposable pay for repayment , or
- the Department may take legal action to force you to repay.
Once a loan is declared in default, you are no longer entitled to any "deferments" or "forebearances" (explained below). In addition, you may not receive any additional Title IV federal student aid if you are in default on any Title IV student loan.
[Return to top] How can I escape default?
There are generally three things to do to avoid or escape defaulting on a student loan when you are unable to pay. They are:
- cancel or discharge (end your obligation to repay) the loan,
- renew or consolidate the loan into a new loan, or
- temporarily stop making payments.
[Return to top] When can I cancel or discharge a student loan?All student loans authorized by Title IV of the Higher Education Act can be canceled if you die or become permanently and totally disabled [but you cannot be considered disabled on the basis of a condition that existed when you applied for the loan unless it has substantially deteriorated, 34 CFR 682.402 (e)]. Stafford, PLUS, and SLS loans disbursed ( given to you) after January 1,1986, can be canceled under two additional circumstances:
- the school you attended improperly certified your ability to benefit from the training given, or
- the school you attended closed while you were in attendance or within 90 days after you withdrew from the school.
In addition to the above four reasons, a National Defense Student Loan can be canceled if you enter into full-time teaching or military service. A National Direct Student Loan and a Perkins Loan can be at least partially canceled under two more additional circumstances: becoming a Head Start Program Staff Member or a Peace Corps Volunteer.
A Perkins Loan can be at least partially canceled under 5 different additional circumstances:
- As a Peace Corps or VISTA Volunteer,
- As a full-time law-enforcement or corrections officer for loans received after 11-29-90
- Entering a full-time teaching position
- Becoming a full-time nurse or medical technician for loans disbursed after 7-23-92, or
- As a full-time employee of a public or private nonprofit child or family services agency if your loan was disbursed after 7-23-92.
[Return to top] Can I discharge a student loan in bankruptcy?
Under certain circumstances you can discharge your obligation to repay a student loan in bankruptcy. The criteria is set out at 11 U.S.C. 523 (a) (8). Currently your loan may be discharged only if the first payment became due on the debt at least seven years before the bankruptcy was filed.Any grace periods, forebearances, or deferments must be subtracted from the time elapsed between when the first payment became due and the filing date. Loans outstanding for less than the required seven-year period can be discharged only if the bankruptcy court makes an express finding that repayment would place an "undue hardship" on you.
If your obligation to repay a student loan is discharged in bankruptcy, any co-signers or endorsers of your debt are not discharged. For example, if your parents co-signed your student loan, they are still liable for repayment
[Return to top] How do I apply to cancel or discharge my loan?
First find out who is currently holding your loan. Check the collection notices that you have been receiving. Additionally you may call the Federal Student Aid Information Center at 1-800-433-3243 (1-800-04-FED-AID). If the guarantor agency has the loan you should deal with it. If the Department of Education is holding the loan, deal directly with the Department. If the Department has referred your loan to a collection agency, inform the agency in writing that you are contesting the debt by filing for a discharge of the Department of Education. If you defaulted on a Perkins Loan, it may still be held by your college and you should contact it for more information.To apply for discharge or cancellation you must submit a written request with a statement made under penalty of perjury indicating:
- that you received at least part of your loan after 1-1-86, and
- whether you have made a claim relating to the loan to the a state tuition coverage program or surety for the school, and so, the amount of any recovery, and
- that you agree to cooperate with the Department in any action to recover money related to the loan from third parties (like school-owners or their affiliates), and
- you agreed to provide other reasonably available documentation, if requested.
You will also have to attest to other matters specific to the reason you are seeking the discharge. For example, you will have to give information regarding school closing or false certification if you are seeking cancellation on either of those grounds.
[Return to top] Who qualifies for discharge due to school closure?
If your school (or the branch which you attended):
- closed while you are still either
- enrolled or
- on an approved leave of absence, or
- you withdrew from the school within 90 days of its closure,
you may qualify for discharge. 34 CFR 682.402 (d). After the school closed, you must not have completed the program of studies through a "teach out" at other school or by transferring academic credits or hours earned at this closed school to another school.
A school's closure date is the date when it ceased offering all programs, not when it stops offering the particular program in which you were enrolled. The Department of Education determines the closure date, which you can find out from Department's Cumulative List of Closed Schools. The Department's list is not always accurate so you may have to prove an earlier closing date by newspaper accounts, correspondence with the school, etc.
If your loan is discharged, you will owe no more payments, You will get a refund of past payments. Moreover, the servicing agency will tell credit reporting agencies that the loan was discharged. Any bad credit history should be deleted. You can now apply for more federal student financial aid. The full criteria for a closed school discharge may be found at 34 CFR 682.402 (d).
[Return to top] Who qualifies for discharge due to false certification?
If you were admitted to a school in without a high school degree after 7-1-87, you are generally able to get a false certification discharge. The Department will find the school falsified your ability to benefit in the program unless you did one of the following:
- passed an "ability to benefit" test approved by the Department (or prior to1991 by an accrediting agency) that was administered properly,
- successfully completed a program of developmental or remedial education provided by the school, or
- enrolled before 7-1-91 and received at GED before completing your program of instruction.
If your loan is discharged, you will owe no more payments, You will get a refund of past payments. Moreover, the servicing agency will tell credit reporting agencies that the loan was discharged. Any negative credit history should be deleted. You can now apply for more federal student financial aid. The full criteria by which borrowers may qualify for a false certification discharge may be found at 34 CFR 682.402 (e).
[Return to top] Once I have defaulted, is there any way to reinstate the loan?
Yes. The Department of Education offers "Loan Rehabilitation" program. If you make 12 consecutive monthly payments, which are both reasonable and affordable, the Department will agreed to reinstate the loan. You would then be eligible to have the loan purchased by a bank or other lending institution . Once a loan is rehabilitated, it will be taken out of default and the credit bureau reports made by the servicing agency will be deleted. You will be able to repay the loan over a nine year period. You will again be eligible for additional Title IV student financial aid funds.[Return to top] If I cannot discharge my loan but cannot afford the payments, what can I do?
The federal government offers two types of consolidation loans to allow students for students to combine different types of federal loans to reduce and simplify payment. The two programs are a Federal Family Education Loan (FFEL) and the Federal Direct Consolidation Loan (hereafter, Direct Loan). Generally, the Direct Loan offers more generous terms for the borrower.The Direct Loan is designed for those who can afford to repay their existing student loans. Borrowers make monthly payments based on yearly family incomes. Borrows with family annual incomes of less than $900 above the poverty level need not make any payment on the loan.
Once you get the loan, the old loans disappear. You are eligible for new loans, grants, and deferments. You will no longer be listed as in default on credit records, and will not be subjected to tax intercepts, garnishments, or other collection efforts. The Direct loan has several advantages over the FFEL. Included are:
- it is easier to qualify because it is unnecessary to make three regular payments before qualifying as is required to obtain a FFEL,
- the Direct Loan offers lower payments than a FFEL,
- borrowers with Direct Loans may be in a better position than those with FFELs in seeking deferments
- Direct Loans offer somewhat lower interest rates over the life of the loan that those offered by a FFEL
Some Direct Loan borrowers, due to their low incomes, may be making no or very low payments. These low payments may not cover accrued interest. The amount of the loan is increased to include the unpaid interest. After interest is charged on the accrued interest, the loan balance can increase significantly. There are some positive features of the Direct Loan program, however, than offset some of these negative facts. They are:
- borrowers may seek loan deferments during which period, the government pays the accrued interest,
- a cap is placed on interest to keep it under control,
- after 25 years of payments (even if payments were zero over the entire time period) the loan is forgiven. However, periods of deferment or forbearance, during which the borrower is excused from making payments, are not counted. Note: when the loan is forgiven, the amount of the loan has to be counted as income on your tax return.
[Return to top] What is a FFEL and what should I know about it?
Like the Direct Consolidation loan, the FFEL if helps borrowers consolidate several loans with various repayment schedules in one loan. You make only one monthly payment. Under the program, the new loan will be made by a commercial lender. Credit bureaus will be notified that your account has a zero balance. You will sign a new promissory note with a new interest rate and repayment schedule.
To qualify you must first be in "repayment" status on your defaulted loan (that is, you must make three voluntary, on time, regular monthly payments). You become eligible for other federal loans. As with the Direct Consolidation Loan you must give your consent to the IRS to disclose to the Department of Education certain income tax information. This information is necessary in order to calculate a monthly repayment plan based on your income which you must agreed to accept.
The monthly payments on a FFEL must, at a minimum, equal all interest as it accrues, while Direct Loan monthly payments may go as low as zero. An order to receive a Direct Loan you must certify that you the there could not obtained and FFEL or get one with a repayment plan satisfactory to you.
[Return to top] Are there disadvantages to getting a consolidation loan?
There are some disadvantages to getting either type of federal consolidation loan. As noted above, you may be able to bankrupt your student loan seven years after the first payment became due. A loan consolidation may start the seven-year time period running again. Moreover, if you are considering challenging the loan, a consolidation loan may waive some defenses if you later contest the loan in court. If you believe you may be going to court to fight against a loan, or are considering bankruptcy, you should consult a lawyer before applying for consolidation.Another disadvantage of consolidation is that while you cure the default by consolidating a loan, your credit continues to show that at one point you were in default. . If you "rehabilitate" a loan instead (see above), any reference to the default is removed. Also after consolidation collection fees become part of the loan principle.
Finally, borrowers may have more opportunity to compromise the amount owed on old loans than on a consolidation loan. To compromise the amount owed means you negotiate repayment of lower amount than the total owed. However, this usually requires a lump sum payment of a major portion of the loan. Most lower income people cannot afford the lump sum payment.
[Return to top] Is there anyway to temporarily stop making loan payments?
There are two ways to temporarily stop making payments and/or to avoid a default. You may request the Department of Education to grant you a "deferment" which allows you to stop payments (and stop interest from accruing as well). You must meet specific criteria in order to qualify for a deferment. You may request the guaranty agency for a forbearance of payments for short period when poor health or personal problems which affect your ability to pay. Interest continues to accrue during forbearance.[Return to top] What are the criteria for obtaining a deferment?
There are two sets of standards for obtaining deferments. The old standards applied to loans disbursed before 7-1-93. The new standards which are somewhat more generous applied to loans disbursed after 7-1-93.Some of the more important grounds for deferral of loans disbursed prior to 7-1-93 are:
- unemployment (maximum of two year deferment),
- full-time student at participating school,
- active duty status in the U.S. Armed Forces,
- receiving, or being scheduled to receive service, under a program designed to rehabilitate disabled individuals,
- temporary total disability,
- providing nursing or similar services to a spouse who is temporarily totally disabled,
- parental leave, and
- being a mother of preschool children starting work at no more than $1.00 above the minimum wage
The standards for loans disbursed after 7-1-93 are somewhat more generous. The maximum unemployment deferment period is increased from two to three years. The old three-year deferments for specified types of financial hardship ( temporary total disability, taking care of a disabled dependent, parental leave, and mother with preschool children making slightly more than wage, etc.) are placed by a new three-year deferment category called "economic hardship". If you receive public assistance, you automatically qualify. If you do not, the Department will apply a complicated formula to decide if you qualify.
[Return to top] How can I obtain a forbearance on my loan?
The Department encourages lenders to grant forbearance if you are in poor health or other personal problems affect your ability to make scheduled payments. Forbearance is not as helpful as a deferral because interest continues to build while the loan payments are reduced or postponed. The size of the outstanding debt could actually increased during a forbearance period. However, forbearance is available even the loan is in default. Seeking forbearance would allow you to avoid default during the time in which you cannot afford to make payments.Lenders must grant forbearance when your debt exceeds 20% of your gross income and you submit a written request. Under those circumstances a lender must grant forbearance for one year and shall renew it for a second and third year under certain conditions. Moreover, the fact that you are granted a forbearance cannot be the cause of a negative credit report and no fees can be charged. Unfortunately this right is limited to loans held by lenders. It does not apply if the loan has been taken over by guaranty agency or the Department.
[Return to top] Consumer links related to Garnishment and Attachment
For additional information which may be of assistance regarding student loans check the following Web sites:U.S. Department of Education Debt Collection Service: Guide to Defaulted Student Loans
http://www.ed.gov/offices/OSFAP/DCS/William D. Ford Federal Direct Loan Program Home Page
http://www.ed.gov/offices/OSFAP/DirectLoan/National Consumer Law Center
http://www.consumerlaw.org/U.S. Department of Education Debt Collection Service: Guide to Defaulted Student Loans is http://www.ed.gov/offices/OSFAP/DCS/the william d. ford direct loan program has been simply renamed direct loans. http://www.ed.gov/offices/OSFAP/DirectLoan/
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