Ibrahim Gardner
Student loans can be a heavy burden, and sometimes, despite our best efforts, we may find ourselves unable to keep up with the payments. While it is important to prioritize repayment, there are circumstances that can make this challenging. In such cases, it is crucial to understand the potential consequences of non-payment and explore available options for relief. Non-payment of student loans can lead to serious financial repercussions, including wage garnishment, a damaged credit score, and difficulties in accessing future loans or employment opportunities. However, there are alternatives to consider, such as loan deferment or forbearance, which can provide temporary relief by postponing or reducing payments, although interest may continue to accrue. Understanding these options and seeking open communication with loan servicers is vital to navigating student loan challenges effectively.
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What You'll Learn
Wage garnishment
The Consumer Credit Protection Act (CCPA) provides protections for employees facing wage garnishment. The CCPA limits the amount that can be garnished from an individual's earnings and protects employees from being fired due to wage garnishment for a single debt. The Wage and Hour Division of the U.S. Department of Labor is responsible for enforcing these limits and protections.
The amount that can be garnished is based on an employee's "disposable earnings," which is the amount of earnings left after mandatory deductions such as taxes and Social Security. For ordinary garnishments, the weekly amount garnished cannot exceed the lesser of two figures: 25% of disposable earnings or the amount by which disposable earnings are greater than 30 times the federal minimum wage ($7.25 per hour). If disposable earnings are $217.50 ($7.25 x 30) or less, there can be no garnishment. If disposable earnings are between $217.50 and $290 ($7.25 x 40), only the amount above $217.50 can be garnished. If disposable earnings are $290 or more, a maximum of 25% can be garnished.
It is important to note that wage garnishment is not the only consequence of defaulting on student loans. Defaulting can also result in negative credit reporting, which can impact an individual's ability to take out future loans or obtain certain types of employment. Additionally, any federal refunds or benefits, such as tax refunds or social security payments, can be withheld by the government until the debt is paid.
To avoid wage garnishment and other consequences of default, it is crucial for borrowers to stay current on their student loan payments and explore alternative repayment options if they are struggling to make payments. The U.S. Department of Education and the Federal Student Aid (FSA) office provide resources and support to assist borrowers in selecting the best repayment plan for their situation.
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Tax refund garnishment
If you have a student loan debt with a state or federal government program, they can take your tax refund and apply it to your delinquent student loan balance. Usually, only the state and federal governments are able to take your tax refund. If your student loan debt is not with a government program, you will probably get your tax refund.
If your tax refund is subject to garnishment, you will receive a letter from your loan holder stating that your account has been referred to the Treasury Offset Program (TOP). This is the part of the US Treasury Department tasked with taking federal payments to cover delinquent debts owed to government agencies, including defaulted student loans. You will receive a tax offset notice before your refund is seized. This notice typically arrives months before you file your tax return, so you have time to take action. However, you might only receive that notice once, and you cannot dispute tax garnishment on the grounds of not receiving the offset notice.
If you have already agreed to make payments and are fulfilling a repayment agreement with your loan servicer, your refund should not be garnished. You can provide a copy of the agreement, along with checks, money orders, or receipts that document your repayments. If you are experiencing financial hardship, you may be able to get all or part of your tax refund returned to you if you can prove that you have exhausted unemployment benefits or had your house foreclosed, for example. To qualify, you may need to start loan rehabilitation or voluntarily enter a repayment plan. Once an offset notice is sent, you have 65 days to contest it. You may still be able to stop an offset after 65 days by entering into a rehabilitation agreement and making five of the nine required payments.
If you have already repaid some or all of the debt, you should receive your entire refund. If the amount listed on your offset notice is incorrect, you can dispute it by providing copies of checks, money orders, or receipts for payments made. If you do not owe the debt, your student loan can be discharged for reasons such as bankruptcy, total and permanent disability, or school fraud. In this case, you will need to provide copies of completed loan discharge applications or court documents and discharge orders to your student loan holder.
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Hurting your credit score
Student loans can have a significant impact on your credit score, and failing to make payments can hurt your creditworthiness in several ways. Firstly, payment history is a critical factor in determining your credit score. Even a single missed payment can lower your score, and late payments can remain on your credit report for up to seven years. This means that if you are unable to make timely payments on your student loans, your credit score may be negatively affected for a prolonged period.
Additionally, the length of your credit history matters. Student loans are typically repaid over an extended period, which helps establish a lengthy credit history. However, once the loan is paid off and the account is closed, the average age of your active credit accounts may decrease, potentially leading to a drop in your credit score. This is because credit scoring models tend to favor older, established accounts.
Another factor to consider is the impact on your ability to obtain future credit. Lenders use your credit score to determine whether to approve loans or extend credit to you. A low credit score due to missed student loan payments may hinder your chances of securing other forms of credit, such as credit cards, car loans, or mortgages. Lenders may view you as a higher credit risk, leading to potential loan rejections or less favorable terms.
Furthermore, in certain jurisdictions, the government can garnish your wages if you default on federal student loans. This means they can legally require your employer to withhold a portion of your wages to repay the loan. While this doesn't directly impact your credit score, it can affect your ability to make timely payments on other debts, which, in turn, could hurt your creditworthiness.
Lastly, if you have a cosigner on your student loans, such as a parent or guardian, their credit is also on the line. If you fail to make payments, your cosigner becomes responsible for the debt. This can strain relationships and create financial hardship for your cosigner, affecting their creditworthiness as well. Therefore, it is essential to consider the potential consequences for all parties involved before defaulting on student loan payments.
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Cosigners are on the hook
Cosigners are legally obliged to repay a loan if the primary borrower is unable to do so. Cosigners are a common feature of personal loans, student loans, and other cases where the primary borrower may not have a good credit score or payment history to qualify for a loan on their own. While a cosigner doesn't have to make regular payments, they are liable for student loan repayment, including any late fees, if the primary borrower defaults.
If you've co-signed a private student loan, you have an equal financial responsibility and legal obligation to ensure the loan is repaid. Missed payments can hurt your credit score and lower your ability to get other loans in the future. A 2019 survey found that a quarter of co-signers end up making at least one payment because the primary borrower failed to. Therefore, it is advisable to start setting aside some money to be prepared for such an unplanned expense.
If the primary borrower is unable to make payments, encourage them to seek relief early. The lender may offer alternative payment plans or temporary pauses to the loan payments. Both parties should explore and understand these options and get any agreement in writing. If the loan goes into default, the options for getting out of it will depend on the lender and the loan's terms. Some lenders may offer rehabilitation programs.
Some loans allow you to be released from liability if the borrower makes payments for a certain length of time. Lenders should be transparent about their co-signer release policies and publish qualification criteria on their website or servicing portal. For example, for Sallie Mae loans, a student can apply to release a cosigner after they've made 12 on-time principal and interest payments and met certain credit requirements.
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Loan deferment or forbearance
If you need to take a break from student loan payments, deferment or forbearance can help you avoid defaulting on your loan. However, neither option is a good long-term solution, and you'll need to qualify for a deferment.
Loan Deferment
Loan deferment is generally better if you have subsidized federal student loans or Perkins loans and are unemployed or dealing with significant financial hardship. You may also qualify for deferment if you:
- Are enrolled in school at least half-time.
- Are receiving state or federal assistance.
- Earn a monthly income of less than 150% of your state's poverty guidelines.
- Are on active military duty or in the Peace Corps.
- Are undergoing treatment for cancer.
If you have subsidized federal student loans or Perkins loans, these loans don't accrue interest during deferment, so the amount you owe at the end of the deferment period will be the same as when it began.
Loan Forbearance
Loan forbearance is generally a better option if you don't qualify for deferment and your financial challenge is temporary. Forbearance allows you to put your student loan payments on hold and redirect that money toward other bills. Even with the additional interest costs, forbearance is often less expensive than other options, such as taking out a payday loan or personal loan. However, forbearance always increases the amount you owe.
Starting in 2027, federal student loan borrowers will see stricter limits on forbearances and deferments. Deferments for unemployment and economic hardship will no longer be available.
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Frequently asked questions
Not paying back your student loans has serious consequences. Your credit score will be negatively impacted, and you may face wage garnishment, tax refund garnishment, and other financial penalties. It is important to contact your loan servicer and explore options like loan deferment or forbearance if you are facing repayment challenges.
Disability is one of the few reasons that may lead to loan forgiveness. In such cases, your ability to repay the loan may be impacted significantly, and lenders might consider forgiving part or all of the loan amount.
Defaulting on federal student loans can have serious financial consequences. The government can garnish your wages and any future federal money, including tax refunds and social security payments. It can also hurt your credit rating, impacting your ability to secure loans, buy a car or house, or obtain a credit card.
