Student loans 101: How do you get out of default?

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"How do I get out of default?" is one of the most frequent questions we get from borrowers. Being in this situation can be overwhelming, but you have options.

A federal student loan is considered to be in default if payments haven’t been made for 270 days. If you’re in default, it’s important to have a plan in place, as defaulting can have serious negative consequences. It can lead to the garnishment of wages and tax returns, a lower credit score, and losing one’s eligibility for federal student loan benefits. We’ll take a look at the three main options available if you’re in default:

1. Loan Rehabilitation
2. Loan Consolidation
3. Pay off the loans in full

Loan Rehabilitation

Loan rehabilitation involves making nine on-time monthly payments of a predetermined amount to your servicer.

How to Get Started:

1. Let your servicer know that you want to start the loan rehabilitation process. To find your servicer, log in to the Federal Student Aid website or call the Default Resolution Group if your defaulted loans have been transferred to a collection agency.
2. Present documentation of income. Your servicer will ask for a document like a tax return or a pay stub.
3. Pay a new monthly payment based on 15% of your discretionary income. The payments can be as low as $5 per month. If you can’t afford the payment amount your servicer gives you, you can let them know and they’ll recalculate it to include your monthly expenses. For this, you may need to give them documentation for your monthly expenses, like bank statements.
4. Make nine on-time monthly payments over ten months of the new amount to “rehabilitate” your loan. Once your loan has been rehabilitated, you can enroll in an income-driven repayment plan for monthly payments that are based on your income.

Things to Consider:

• The default will be removed from your credit history once the process is complete, (although late payments will remain), and you can enroll in an income-driven repayment plan for more affordable monthly payments.
• Collection fees can be waived or lowered. A defaulted loan may have additional fees to be paid but rehabilitation can remove them.
• Loan rehabilitation can only be completed once, so it’s important to avoid defaulting again.

Loan Consolidation

You can also consolidate your defaulted loans into a new Direct Consolidation loan. Consolidation combines one or more of your federal loans in one new loan to pay off.

How to Get Started:

1. You can fill out an application form either electronically or on paper on the Student Aid’s website.
2. Choose between two options for consolidation: Consolidate the loan under an income-driven repayment (IDR) plan and start making payments, OR under the defaulted loan, make three consecutive, on-time, monthly payments before consolidation.
3. If you are enrolling in an IDR plan, present documentation of income like a tax return or a pay stub.

Things to Consider:

• The default will not be removed from your credit history, as it would with loan rehabilitation. But the process is shorter, so your loan can be in good standing sooner.
• You will lose any progress made toward federal forgiveness programs. Consolidating your loans into a new loan will also mean that any qualifying payments you’ve made toward income-driven repayment or Public Service Loan Forgiveness will be reset.

Pay off the loans in full

This often is not the most realistic option for borrowers in this situation, but paying off the full amount you owe will get you out of default, as you will no longer be in debt.

We’d recommend exploring loan rehabilitation as a first step, because there are benefits to removing the default from your credit history and the ability to keep your progress toward federal forgiveness programs. However, everyone’s financial situation is unique, so it is important to determine which path is best for you.

We understand that this is a difficult situation to be in, but by taking the time to understand your options, you’re already on your way out of default.

COVID-19 Update: Until September 30, 2020, student loan payments will be halted. Defaulted federal loans will have no collection fees and a 0% interest rate. If you’re already in the process of loan rehabilitation, these months of paused payments will also count toward your nine payments. Read more about your student loans during COVID-19 here.