(Photo: Eric Rogers)
It’s not surprising that you didn’t realize what you were getting into with your student loan. You were just barely out of your teen years when you signed the paperwork. If you’re like most people, you probably had little understanding of what it means to incur debt and were lulled into a false sense of security with the knowledge that payments will be deferred for years to come. The language can throw you too. What’s the difference between a subsidized and an unsubsidized loan? What about federal vs private loans?, and so on. This lack of understanding can make you the victim of predatory interest rates from private student loan providers. But walking away from your student loan isn’t the same thing as walking away from your home loans. You’d better be aware of the consequences before you decide not to pay.
Put simply, the only way to absolve yourself of your responsibility to pay back your student loan is to die, or to become unable to work due to a serious disability.
From the government’s perspective, defaulting on an obligation to pay back a student loan, which in the case of federal loans, is lent with taxpayers’ dollars is almost as serious as not paying your taxes. While it’s not a federal offense to fail to repay these loans, the government, and government-approved student loan companies have ways of getting money that is owed. That said, what can you do when the debt seems to be too much to bear?
Student Loan Consolidation and Refinance
Federal student loans are locked in based on current rates at the time of each disbursement. This can vary when the loan documents are signed. Private loans typically have a higher rate, and are usually tied to an index such as the Prime Rate or Treasury averages, much like a credit card. These are typically locked in at a fixed rate, and also vary depending on what federal rates are in place.
As a result of loans being disbursed each semester, many students will find themselves with multiple loans at multiple rates. For students wishing to consolidate their loans, they must apply for this with each lender. This will generally result in say, four loans, with varying interest rates, being consolidated into one amount with a common rate.
Refinancing typically means reduced monthly payments with a longer repayment period – usually at a lower interest rate. If you have federal student loans, and private loans, the interest rates will most likely vary greatly, and must be refinanced separately as you cannot combine your federal student loan debt with private student loans. To get the best rate with either type, make sure your credit is in good shape before applying. Your credit will be referenced, and will play a role in refinancing at a preferred rate.
Deferring the repayment of loans is typically granted for a number of valid reasons. This postpones the repayment of principal for a specific period of time. This is typically for people who continue to be enrolled in school, disabled students that are undergoing some type of rehabilitation, or those individuals that have left school and are either unemployed, or able to display a marked financial hardship. For subsidized loans, no interest accrues during this time. For private loans, interest will accrue and will be recapitalized (added to the loan balance), thus increasing the size of the loan.
Those without an approved reason for deferment, but are still unable or unwilling to pay, they may be granted forbearance. During this period, payments can be postponed or reduced, but interest will continue to accrue. Interest is not subsidized during a forbearance, as it’s viewed as a voluntary postponement by the debtor. As a result you are responsible for the additional interest accrued while payments to the principal are not being made and it’s added to the loan balance. These are typically granted in twelve month intervals, but can be made in shorter ones such as three or six month intervals.
Alternate Payment Options
As with any debt, there are always options based on an individual’s specific circumstances. Federal lenders are typically easier to work with than private lenders, but there are always options. For the former the options include: extended repayment, graduated repayment, income sensitive repayment, income contingent repayment, and income-based repayment. For more information on these options it’s best to contact your lender and ask about what they can do for you. As with a deferment or forbearance, it is extremely important to contact your lender to discuss this option while your account is in good standing. Should you allow your account to go into default, many of the above options will cease to be available.
Nope. In nearly every circumstance, student loans are non-dischargeable. Walking away from student loans is not like walking away from a credit card, mortgage or car loan.
So, What are the Consequences?
Like any substantial debt, the companies you borrowed from will hound you if you stop paying. Then your account will probably be sent to collections. They will call, send letters, and in many cases start contacting your family if you fail to respond to their attempts. If you were a minor when applying for your student loans and your parents co-signed for you, then they can start calling them as well and put pressure on them to make your payments. Additionally, if your account goes to a collections agency, you will be liable for any legal and court costs associated with collection attempts.
This is more common with private lenders, but students that default on their student loans may be sued for the full amount of their debt owed. Courts will typically enforce this via wage garnishments.
These days, many companies run a background and credit check during the application process. This is increasingly popular for positions that require even a modest level of responsibility, especially financial responsibility. While bad credit is not always enough to bar getting hired, having defaulted on student loans is typically a red flag. In short, it can communicate a lot to an employer about an applicants’ ethics and track record.
Default Interest Rates
If you neglect to pay your student loans, you will accrue penalties, fees and interest. Your account will eventually adjust to a default rate, and it will continue to accrue interest until action is taken. The process and rates for each type of loan varies. For more information visit the Federal Financial Aid website
Going thirty days past due on your student loans will have a negative impact on your credit. So, you can imagine that walking away from your student loans will carry far greater consequences. Most estimate the credit impact of defaulting on student loans to be similar to the hit for a real-estate foreclosure. While debtors’ prisons have not existed for over a century here in the US, defaulting can haunt you and your credit report for around a decade. To make matters worse, if you had a co-signer on your loans, their credit will be similarly affected, unless they make the payments for you. This, of course, could then put a huge strain on personal relationships.
Here’s the biggest difference between other debts (mortgage, auto, and credit cards, for example) and student loan debt: if you fail to pay your student loans, your lender can garnish your wages. Many people move abroad as an attempt to avoid repaying their student loans. For those with an excess of $100k, this can make sense at first. If you move to the EU and find employment there, and pay taxes there, there is no way the US government can garnish these foreign-based earnings. The problem is, if you want to return to the US and work one day, you’ll return to the unsavory reality of a much higher balance – due to accrued fees, penalties and compounded interest – and very likely, a wage garnishment.