Defaulting on any form of student loan, whether private or federal, is a nightmare. But when it happens with federal loans, Uncle Sam is merciless. Currently, there are 36 million Americans with federal student loans, and a growing number of these borrowers are struggling or unable to pay their monthly balances. Not surprisingly, the Department of Education reported that default rates have risen at an alarming pace in the past few years.
Many borrowers are finding it difficult to keep up with payments for the following reasons:
Consequences of Defaulting on Your Student Loans
When someone defaults on their federal loans, life quickly becomes quite difficult, and more barriers to achieve financial stability are imposed. Just how quickly can a person default? Most federal loans go from being delinquent to default status after nine months of no payments.
1. Your Wages Can Be Garnished Without a Court Order
The federal government can garnish your wages without a court order, and the amount they can take is hefty, especially for most Americans who are already struggling to make ends meet. According to the National Consumer Law Center’s Student Loan Borrower Assistance website, the government or a guaranty agency can take a total of 15% of disposable pay.
Although this can be done without a court order, the borrower does have the ability to challenge the garnishment. If they plan on garnishing your wages, you will be notified prior to their taking action. If you take the proper steps in time, garnishment can be stopped – though they can’t be stopped in necessarily all stages. However, a borrower does have one chance to rehabilitate their loans. These payments must be voluntary, and paid on-time for 9 out of 10 consecutive months.
It is important to request a hearing before the garnishment period begins. If, however, that is not possible, you can still challenge them after the process has begun.
2. Your Social Security, Disability Checks, and Tax Refunds Are Fair Game
Just as they can garnish your wages, the government can also deduct money from your Social Security benefits and disability checks. They can also take money from your income tax refund.
3. Penalties Added to the Original Amount of the Loan Can Be Astronomical
Once you have defaulted on your federal loan, the entire amount is due in full. In addition, large penalties are added to the original amount of the loan, sometimes as much as $50,000.
John Koch, a law graduate of Touro University, originally borrowed $69,000, but estimates that he will owe $1.5 million when he retires in 23 years. Currently, he owes $300,000. The student loans have been deferred, and are accruing $2,000 in interest every month. In addition, his interest is accruing interest.
4. Uncle Sam Can Sue You
Obviously, the federal government takes defaulted loans quite seriously, and has the ability to sue you in court. There is no statute of limitations, which means they can take you to court at any time – even decades after you’ve defaulted.
How to Avoid Defaulting on Your Federal Loans
If you are struggling, there are ways to avoid this situation. When you begin to receive letters notifying that you are delinquent, do not ignore them. Get in touch with your loan service, and ask about your options.
When speaking with your lender, be sure to take meticulous notes – create a file and note the date, time, and name of the representative whom you spoke with. After your telephone conversation, send a follow-up letter by certified mail. Note all the important details from the conversation in your letter, and keep a copy of this letter for your records.
If you’re not sure who services your student loans, the Department of Education has a list.
Income-Based Repayment Program
You also might be eligible for the Income-Based Repayment Program (IBR). If you qualify for IBR, your monthly payments are capped according to your income. The payment plan is also extended to 25 years, and the size of your family is weighed when determining how much you will pay each month.
Who’s Eligible for IBR?
IBR is not available to borrowers with private loans. The federal loans that IBR covers are:
- Direct Stafford Loans (from the William D. Ford Federal Direct Loan Program)
- Grad PLUS Loans
- Consolidation loans (Federal Family Education Loans, otherwise known as FFEL, combined with direct loans)
While FFEL loans were eliminated by the Obama Administration with the passage of the Health Care and Education Reconciliation Act, a whopping $400 billion worth of FFEL loans are still on the lenders’ books.
It is important to note that you must re-apply for IBR every year. Make sure to note this on your calendar, and prepare the paperwork ahead of time. Borrowers who have enrolled in the program have made complaints about the complexity of forms, so plan ahead. If you make payments on time, after 25 years the remaining balance will be forgiven. IBR is offered for borrowers who have trouble repaying on a typical 10-year repayment plan.
Monthly payments for the IBR are at least $50, and often higher. The amounts are based on how much you earn. Loan payments are capped at 15% of your income, which means if you make $50,000 a year, regardless of what you owe, your annual payment won’t be higher than $7,500.
If you think you are at risk of default on your federal loans, it is important to take every possible measure to prevent this from happening. Reach out to the Department of Education to learn about alternative repayment options, such as IBR. If you are not eligible for any programs, do your best to work with the department in order to avoid this ordeal.
It is also important to keep in mind that a college degree does not mean that you will immediately find a job upon graduating. It is sobering fact that many young people with college degrees are unemployed or underemployed. This age group has been hit the hardest since the economic downturn that began in 2008. That is why it is critical to think of ways to keep the cost of college down. That is no easy task, especially since tuition has increased 498% since 1985.
To make matters worse, the Social Security Wage Index in 2010 reported that 50% of American households made $26,000 or less. When taking all of these things into consideration, weighing the overall cost of your education – if you are not in school already – is crucial.
What other tips do you have to pay for college without relying on student loans?