How Can I Get My Student Loans Out of Default?
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With U.S. student loan debt reaching upwards of $1.6 trillion and many people juggling multiple student loans alongside other debt, it is becoming increasingly common for borrowers to default on their loans. According to data from the Brookings Institute, current trends indicate that almost 40 percent of borrowers may default on their student loans by 2023— a truly staggering number.
What does it mean for a loan to be in default?
A default occurs after an extended period of not making payments on your student loans. When you miss a payment, the loan becomes delinquent until you pay back the missed amount. If you fail to pay for more than 90 days, your loan servicer will generally report the delinquency to the three nationwide credit bureaus and your credit scores may drop. If the loan remains delinquent, that's when you risk going into default.
Exactly how long it takes for a loan to default depends on your lender and the type of loan. For federal direct loans or loans provided through the Federal Family Education Loan (FEEL) Program, your debt goes into default after about nine months of nonpayment. For Perkins loans, the lender is your school and may declare the debt in default after any missed payment. Many private loans will default after about three months, but this can vary from lender to lender. Be sure to review your loan's delinquency and default policies if you think you may miss a payment.
It's also important to know that defaulting on your loan will negatively impact your credit scores, and the default will generally remain on your credit reports for seven years. Having a loan in default may make it much more difficult to secure additional lines of credit, such as credit cards, auto and personal loans or even a mortgage.
So what do you do if you find yourself in default? There are several strategies you can follow to get the student loans out of default and keep yourself from defaulting again.
Strategy one: loan rehabilitation
Loan rehabilitation is a common way to get your federal student loans out of default. For many borrowers, it's also the best way to keep the default from having a lasting impact on your credit scores. To rehabilitate a loan, you must agree in writing to make nine affordable monthly payments. Your loan holder will determine what constitutes a reasonable payment amount by taking 15 percent of your annual discretionary income and dividing that by 12. That means your payment could be as low as $5 per month, depending on your income. Once you make all nine payments (over a period of 10 months), the default will be removed from your credit history, although the history will still show any late payments that were reported before the default.
Loan rehabilitation is a great option, but it's important to note that you can only rehabilitate student loans once. If you think you may not be able to continue making your monthly payments after the loan comes out of default, consider changing your payment plan to one that is more manageable. You can review all available federal repayment plans on the U.S. Department of Education website.
Strategy two: loan consolidation
Loan consolidation allows you to roll one or more federal loans into a new consolidation loan. Once combined, the individual loans are considered paid off and the borrower is then responsible only for the new consolidation loan. Any outstanding interest you owed on each loan will become a part of the new loan's principal and will begin accruing interest in turn.
In order to consolidate a loan in default, you have two payment options: agree to repay the new loan under an income-driven repayment plan or make three consecutive, on-time monthly payments on the defaulted loan before consolidating. Consolidation generally offers borrowers the benefit of having a longer period of time to pay off the new loan, meaning monthly payments will be potentially more affordable. However, it also means that borrowers will pay more in interest over the life of the loan.
Consolidation is generally a faster method than loan rehabilitation, so it can be a good option if you need to resolve the default quickly or if you are going back to school and need access to financial aid again. Additionally, once the loan has been consolidated, your new direct loan will be eligible for deferment, forbearance and loan forgiveness, as is the case with loan rehabilitation. However, loan consolidation will not remove the original default from your credit history.
Strategy three: repayment in full
The third option for getting your student loan out of default is simply repaying the debt in full. While effective, this method is unfortunately not possible for most borrowers, which makes rehabilitation and consolidation more accessible and effective repayment methods.
What about private loans?
For private loans, there are no standard methods for getting out of default. One option is loan refinancing, which is similar though not identical to consolidation. This process involves taking out a new loan, usually with a lower interest rate, and using it to pay off the balance of your existing loans. This will allow you to pay off your default in full. However you will still be responsible for the new, potentially larger amount you owe on your new loan.
If you default on a private loan, talk to your lender about possible solutions. They may have a recovery option similar to the federal programs, or you may be able to negotiate your own plan for repaying the loan and getting it out of default. If this proves difficult, consider hiring a lawyer who specializes in student loan debt to help you devise a plan with your lender.
How can I avoid defaulting again?
Once you are out of default, you definitely don't want to go back. One of the best ways to stay out of default is enrolling in an income-driven repayment plan, as these are adjusted based on your income and are often easier to pay. Keep a close eye on your account to ensure that you are not missing any payments, and if you think you might not be able to pay, consider looking into deferment or forbearance. Even though defaulted loans initially hurt your credit history, making consistent monthly payments on your student loans can help undo the damage and build your credit scores back up over time.