What Happens If You Default On Student Loans?

Student loan debt is one of the biggest issues facing our country. College graduates are paying a heavy and ever-increasing price to walk the stage and receive a diploma.

worried student

Because so many young Americans finish either their undergraduate or graduate studies with so much owed, it can be challenging to keep up with these and other financial obligations.

Too often, young adults find themselves about to default on their student loans. Short of dropping everything and leaving the country, how can you effectively deal with your student loan default? We’ve got all the answers you need.

The Real Impact of Defaulting on Student Loans

Defaulting on your student loans is a serious matter that can significantly impact your financial future. It begins innocuously with a missed payment, but without swift action, it can spiral into a situation with long-lasting repercussions.

The Initial Stages: Delinquency and Default

The journey toward default starts the moment a payment is missed, marking the loan as delinquent. This status escalates to default after a continuous period of non-payment, typically 270 days. The transition from delinquency to default is not just a change in terms; it represents a critical shift in the borrower’s financial landscape.

Credit Impact: A Ripple Effect

One of the immediate consequences of defaulting on student loans is the negative impact on your credit score. When a payment is missed, lenders promptly report this to the credit bureaus, marking the beginning of a negative impact on your credit score.

As delinquency extends and the loan potentially enters into default, the account may be sent to a debt collection agency. Collection accounts have an even more detrimental effect on your credit score and remain on your credit report for seven years, making it challenging to recover financially.

This decline in creditworthiness can hinder your ability to secure loans, obtain favorable interest rates, and sometimes, pass employment background checks. The presence of late payments and collections signals to future lenders and creditors a heightened risk, which can lead to higher interest rates on approved loans or outright denial of credit. This affects various aspects of your financial stability and personal growth opportunities.

Beyond Credit: The Wider Implications of Default

The repercussions of default extend beyond credit scores. Borrowers may face wage garnishment, where a portion of their paycheck is automatically taken to repay the debt. There’s also the risk of tax refund garnishment and the potential for legal actions. These consequences not only affect current financial stability but also future financial planning and security.

The Long-term Consequences of Defaulting on Student Loans

Experiencing default on student loans can set off a cascade of consequences that extend well into the future, affecting financial stability and opportunities.

Credit Score and Borrowing Capacity

The most immediate and palpable impact is on the credit score. A default can drastically reduce your score. This can complicate efforts to borrow money for significant investments like a home or car. This reduction in creditworthiness makes obtaining any form of credit more challenging and expensive due to higher interest rates, should lenders be willing to extend credit at all.

Career and Housing Opportunities

Beyond borrowing, a tarnished credit history can influence career prospects, as some employers review credit reports as part of the hiring process. Similarly, leasing an apartment might become more difficult, with landlords hesitant to rent to individuals with a history of default.

Federal Benefits and Legal Repercussions

For federal student loan borrowers, defaulting means losing access to valuable benefits, such as repayment plans based on income, student loan forgiveness programs, and deferment or forbearance options. Moreover, the government can take action to recover the owed funds, such as garnishing wages, seizing tax refunds, and even taking a portion of Social Security benefits.

Proactive Measures to Avoid Student Loan Default

Taking proactive steps to manage student loans is essential to avoiding financial hardships associated with default. Here’s how to stay proactive and manage your loans effectively:

Understand Your Loan Details

It’s essential to understand the specifics of your loan agreement. This includes knowing your interest rates, the monthly payment amounts, and when payments are due. Being well-informed helps you plan your finances around these obligations.

Maintain up-to-date contact information for your lender or loan servicer. This ensures you can quickly get in touch if you have questions or need to discuss your loan.

Set Up a Manageable Payment Plan

Carefully look at your finances to determine what you can afford to pay toward your student loans each month. Creating a budget that accounts for your income and expenses can help you manage your student loan payments more effectively, ensuring you can keep up without falling behind.

Federal student loans offer various repayment plans, including plans that base your monthly payment on your income. These income-driven repayment plans can significantly reduce your monthly payments and help prevent default.

Stay in Touch with Your Loan Servicer

If you’re facing financial hardship or anticipate trouble making payments, contact your loan servicer as soon as possible. Early communication can open up options like adjusting your payment plan before you fall behind.

Ensure your loan servicer has your most current contact information. This helps keep you informed about any changes to your loan status or available assistance programs.

Utilize Tools and Resources

Enrolling in automatic payments can help you stay on track with your loan payments. Many lenders offer an interest rate reduction as an incentive for setting up auto-pay.

Leverage online calculators and budgeting tools to create a repayment strategy that fits your financial situation. These tools can help you visualize your repayment plan and understand how different options affect your overall payment schedule.

Recovery Paths: Overcoming Student Loan Default

If your loans have already entered default, don’t lose hope. There are several strategies available to help you regain financial stability.

Loan Rehabilitation

Loan rehabilitation involves making nine voluntary, affordable monthly payments within ten consecutive months. These payments are determined by your loan servicer and are meant to be reasonable based on your income.

Successfully completing a loan rehabilitation program will remove the default status from your credit history. However, it’s important to note that the record of late payments before the default will still remain on your credit report.

Loan Consolidation

Consolidating your defaulted loans into a new Direct Consolidation Loan allows you to agree to repay it under an income-driven repayment plan. This process can simplify your student loan payments and make them more manageable.

Loan consolidation can bring your loans out of default status immediately. While the default will still appear on your credit history, consolidation can be a significant step toward rebuilding your financial health.

Repayment in Full

Paying the total remaining balance of your defaulted loans is the most straightforward way to resolve default. This method clears the default status completely, but due to the large amount required, it may not be a viable option for everyone.

Student Loan Cancellation and Discharge

When facing the challenge of defaulted student loans, you might wonder if there’s a way to erase or significantly reduce your debt. While loan cancellation or discharge offers a potential solution, it’s available under specific circumstances that are important to understand.

Student Loan Forgiveness

Student loan forgiveness is the process through which your obligation to repay your loan is removed. This option is typically available to student loan borrowers who meet certain criteria related to their employment or volunteer service.

For example, teachers working in low-income schools or public service employees may qualify for loan forgiveness programs. The key is that these opportunities are designed to reward individuals who contribute to their communities in valuable ways.

Student Loan Discharge

Discharge refers to the removal of your obligation to repay your loan due to other circumstances beyond your control. Several situations might qualify you for a loan discharge, including:

  • Total and permanent disability: If you’re unable to work due to a disability, you may apply for a discharge.
  • School closure: If your school closes while you’re enrolled or soon after you withdraw, you could be eligible for discharge.
  • False certification or fraud: Situations where a school signed your name without permission or certified that you were eligible for aid when you were not are grounds for discharge.
  • Unpaid refund discharge: If you withdrew from school and the institution didn’t make the required return of loan funds to the lender, a portion of your debt might be discharged.

While the prospect of canceling or discharging your loan is appealing, it’s important to approach these options with a clear understanding of the eligibility requirements and the application process.

Documentation and proof of your circumstances are typically required, and the process can be lengthy. Additionally, you need to continue making payments on your loans until you’re officially notified that your discharge or cancellation has been approved to avoid further financial complications.

Finding Help for Student Loan Challenges

For additional support with managing your student loans, there are several resources available to provide information and assistance tailored to your specific needs.

Federal Student Loan Assistance

The U.S. Department of Education offers a dedicated customer service line for inquiries related to federal student loan repayment and the potential for loan discharge. By contacting 1-800-621-3115, you can access knowledgeable agents who are ready to answer your questions and guide you through your options.

Private Student Loan Inquiries

If you have private student loans, it’s advisable to reach out directly to your loan provider. Your lender can provide you with detailed information about the specific terms of your loan and discuss strategies to avoid default that are specific to your loan agreement.

Addressing Broader Financial Concerns

If you’re facing wider financial challenges, including considering bankruptcy, seeking professional advice is a practical step. Consulting with a local bankruptcy attorney can offer personalized guidance, helping you understand your legal options and the protections available to you in light of your financial situation.

These avenues offer valuable starting points for managing the complexities of student loan obligations and financial difficulties. Whether you’re looking to understand repayment options, explore eligibility for discharge, or seek advice on financial hardship, reaching out for professional guidance can significantly impact your approach to managing your financial future.

Frequently Asked Questions

Can I make payments on my student loans while in forbearance or deferment?

Yes, you can make payments on your student loans while they are in forbearance or deferment. Doing so can help reduce the amount of interest that accrues during these periods, lowering the overall cost of your loan.

Are there any forgiveness programs for private student loans?

Generally, private student loans do not offer the same forgiveness programs as federal student loans. However, some private lenders may offer relief or assistance programs for borrowers facing financial hardship. It’s important to contact your lender directly to inquire about any available options.

How does student loan default affect my ability to return to school?

Defaulting on your student loans can affect your eligibility for further federal student aid. You may not be able to receive additional federal loans or grants until your defaulted loans are resolved. However, once you have taken steps to get out of default, such as loan rehabilitation or consolidation, you may regain eligibility for federal student aid.

Can consolidating my student loans lower my monthly payments?

Consolidating your student loans can lower your monthly payments by extending the repayment period. However, while lower monthly payments can ease your immediate budget, extending the term of your loan may increase the total amount of interest you pay over the life of the loan.

What happens if I can prove that my school misled me or engaged in misconduct?

If you can prove that your school misled you or engaged in misconduct in violation of certain state laws, you may be eligible for borrower defense to repayment. This program can provide relief by discharging some or all of your student loan debt. You will need to submit an application and provide evidence to support your claim.

Is there a statute of limitations on federal student loans?

No, there is no statute of limitations for federal student loans. The government can take action to collect on defaulted federal student loans at any time, including wage garnishment and tax refund offset. This is not the case for private student loans, which do have a statute of limitations that varies by state.

Lauren Ward
Meet the author

Lauren is a personal finance writer who strives to equip readers with the knowledge to achieve their financial objectives. She has over a decade of experience and a Bachelor's degree in Japanese from Georgetown University.