A common problem
Today, almost 39 million U.S. adults — 20% of people age 20 or older — have student-loan debt, according to the Federal Reserve Bank of New York. Among people age 20-29, the figure is closer to 40%. The average balance is $25,000-$27,000. The total amount of this debt is more than $1 trillion — the largest type of non-mortgage debt in America.
As with other types of debt, education borrowers are discovering that paying off debt is much more difficult than going into debt. According to the Consumer Financial Protection Bureau, almost one in three education borrowers have either defaulted on their debt or are in hardship programs that allow them to temporarily suspend making payments.
And given that nearly 60% of people with student loans believe they may not be able to repay (according to a report from the Urban Institute and the FINRA Investor Education Foundation), those numbers are likely to rise. While concerns are greatest among lower-income earners, more than one-third of those making $100,000 or more also say they are struggling with their payments. Nor does student-loan debt impact only the young. Some senior citizens are having a portion of their Social Security benefits withheld because of non-payment of student loans they took out for themselves or their children.
Consequences of default
Education borrowers are considered delinquent the first day after their due date if no payment has been received. Once they are delinquent for 270 days (used to be 330 days), they are in default.
For education loans that are guaranteed by the federal government (85% of student loans), Uncle Sam has a wide array of aggressive collection methods at his disposal — tax refunds may be intercepted, wages garnished, and if a borrower is receiving Social Security retirement income, up to 15% of that may be withheld. Meanwhile, the loan balance will grow because of late charges, interest, and collection costs, and the borrower's credit score will drop. In the vast majority of cases, student-loan debt is not discharged in bankruptcy.
But there's no reason to default on a federal student loan. There are plenty of options available to those struggling to make their payments. While availability depends on the type of loan, here are the main options for borrowers with federal student loans. (Note that loan modifications for borrowers with private student loans are made at the discretion of the lender.) Find information about the type of loan you have and your servicer at the National Student Loan Data System (NSLDS) website.
Solutions for temporary issues
Under certain circumstances that create what's expected to be a short-term financial hardship, borrowers may qualify for deferment or forbearance.
This is the better of the two options because a borrower will not have to make payments for up to three years and interest will not accrue on federally subsidized loans. (It will accrue on non-subsidized loans, including PLUS loans, which are made to parents and grad students.)
Circumstances in which someone may qualify for deferment include going back to school at least half-time, being unemployed, serving on active duty in the military or National Guard, and serving in the Peace Corps.
Those who don't qualify for deferment may qualify for this program, in which payments are suspended or reduced for up to 12 months. However, interest will accrue during that time regardless of loan type.
Circumstances that may enable a borrower to qualify for forbearance include illness, financial hardship, or participating in a medical or dental internship or residency program.
Solutions for ongoing issues
For borrowers whose loan payments require a disproportionate share of their income, here are some options.
- Graduated and extended repayment plans
The standard student loan repayment plan requires a fixed monthly payment and gives borrowers 10 years to repay their loans. But borrowers may switch plans at any time. Borrowers with a low income that is expected to rise may want to consider a graduated repayment plan in which payments start out low and then increase, usually every two years. Borrowers still need to repay their loan in 10 years.
Another option is an extended-repayment plan, which stretches the payoff period out as long as 25 years. Opting for this plan will lower the monthly payment amount, but will increase the total interest paid over the life of the loan. Payments may be either fixed or graduated.
If you have multiple student loans, you may be able to lower your total monthly payment by consolidating the loans; however, this could lead to a payoff horizon as long as 30 years. Of course, extending the term that long will lead to much higher total interest expenses.
- Income-based repayment plans
Various repayment plans that base monthly payments on the borrower's income and household size have been introduced over the years. They have gone by names such as "Income-Contingent," "Income-Sensitive, "Income-Based," and now "Pay as You Earn." Such plans, designed for low-income borrowers, cap monthly payments at 10% or 15% of discretionary income, depending on when the loan was taken (the lower cap is available to more recent borrowers). The required monthly payment amount may grow as household income increases, but it will never exceed the amount that was charged with a standard 10-year repayment plan.
Such plans stretch as long as 20 or 25 years, depending on which specific plan is utilized. If there is a balance remaining after the extended payoff time, it will be forgiven, although taxes will be due on the forgiven amount. Most federal student loans are eligible for an income-based repayment plan, except PLUS loans made to parents.
You will qualify for loan forgiveness if you become permanently disabled or die. Under more appealing circumstances, forgiveness may be available to public-school teachers or other public-service or non-profit workers. Qualifying borrowers may have their loans partially or completely forgiven after working in low-income areas and making on-time payments for five or 10 years, depending on which program is utilized. Such borrowers may also qualify for an income-based repayment plan, enabling them to pay back only a fraction of their borrowed amounts. In these programs, the forgiven amount is not taxable.
The Department of Education's website (StudentAid.ed.gov) has calculators and other information designed to help determine which plan borrowers qualify for and how it may affect their monthly payment, length of loan, and interest payments. Applying for one of the plans may be done through the loan servicer or, in the case of a Perkins loan, the school's financial aid office.
Obviously, many options are available for those who are having a difficult time repaying their loans with a standard 10-year payment plan. Congress is considering various proposals that would simplify the options, such as putting all student-loan borrowers on an income-based repayment plan.
For now, review StudentAid.ed.gov to better understand the options. Spending the time to find a viable repayment plan is a far better alternative than defaulting.