Student loan rehabilitation may be a good option if you’ve defaulted on your federal student loans, but you can only use it once.
FOR BORROWERS WHO HAVE defaulted on their federal student loans – meaning they missed payments for at least 270 days, or about nine months – student loan rehabilitation may be a good option to recover and repair the damage done to credit scores. Rehabilitation can be a good alternative if you are unable to pay the defaulted loans in full. Here are some key points to consider.
Who Can Benefit From Student Loan Rehabilitation?
The ideal candidates for student loan rehabilitation are borrowers with defaulted student loans who are looking to get their loans back on track and begin the process of cleaning up their credit.
Federal direct and FFEL loans generally qualify for rehabilitation. Private student loans, however, aren’t eligible for rehabilitation, as they don’t typically offer the same borrower protections as federal student loans.
How Student Loan Rehabilitation Works
To begin rehabilitating a student loan, first reach out to the loan holder. You can find the loan holder’s contact information by logging in to the U.S. Department of Education’s Federal Student Aid website.
The loan holder will require nine consecutive monthly payments to be made within 20 days of the due date, during a period of 10 consecutive months, for defaulted direct and FFEL loans. The payments must be voluntary; so, if your wages are being garnished – meaning where an employer is required to withhold some of your pay and send it to the loan holder to repay the loan – or the government is seizing your tax refunds, those involuntary payments won’t count.
The payment amounts are generally 15% of your annual discretionary income divided by 12. They can be as low as $5 a month, depending on an individual’s situation and income.
If the initial monthly payment amount is too high for you, a financial hardship form can be requested, which will allow living expenses to be taken into consideration. This will often result in a lower rehabilitation payment.
Take note that these rehabilitation payment amounts are generally much lower than the regular payment you will be expected to make once the plan is completed. This is essentially just a way to prove to the loan holder that you can be depended on to make some consistent monthly on-time payments.
Perkins loans can also be rehabilitated through a slightly different process. These loans require reaching out to the loan holder and agreeing to make nine consecutive months of full monthly payments within 20 days of the due date.
Once a student loan rehabilitation plan is completed, the record of default is removed from the borrower’s credit history. This can be a potential boost to a sagging credit score and a good first step to repairing it. Keep in mind, though, that your credit history will still show late payments that were reported by your loan holder before the loan went into default.
After student loan rehabilitation it is crucial to stay current in order to avoid another default and more collection costs added to the loan balance. Another benefit of completing loan rehabilitation is that you’ll regain access to federal student aid and repayment options, such as deferment, forbearance and income-driven repayment.
A Word of Caution about Student Loan Rehabilitation
Take note of any collection costs added to federal student loan balances when rehabilitating the loan. These fees are added to any defaulted loan and can vary based on caps set on what the federal government can charge.
Also keep in mind that student loan rehabilitation may not necessarily be a good idea for all borrowers with defaulted loans. If a borrower wants to be set up for success, it is generally a bad idea to apply for loan rehabilitation in the midst of a financial hardship. This is because a borrower may find that he or she is unable to afford the lowest payment option available once the loan is rehabilitated – and may therefore be at higher risk for defaulting again.
It is always a good idea to ask the loan holder for an estimate of what the typical payment will be once the rehabilitation is completed to assess if this is something that is realistic, or if you’re setting yourself up for further default down the road.