Federal student loan default is a special kind of hell. Not only does it wreck a borrower’s credit report and prevent the borrower from obtaining new financial aid to return to school; federal lenders also usually assign the loan to aggressive third-party debt collectors, who are then authorized to tack on enormous penalties and collections costs that the borrower is responsible for repaying. There is no statute of limitations for the collection of federal student loans, meaning lenders and collections agencies can pursue the borrower to the grave. If the borrower makes no arrangement to bring the federal loan out of default, the federal lender can resort to involuntary collection methods such as the seizure of tax refunds, the offsetting of federal benefits (such as social security and military pay), and wage garnishment.
Wage garnishment is particularly problematic for borrowers. First, there’s the actual garnishment itself, which can cause serious financial hardship for people who are already struggling. Moreover, an active wage garnishment order can block a borrower from bringing the federal loan out of default through rehabilitation (a temporary repayment plan) or consolidation (a new federal loan through the U.S. Dept. of Ed). This can effectively “lock” a borrower in default, with no way out except to settle or pay the loan in full.
The new regulations being issued by the U.S. Dept. of Education change how wage garnishment works by allowing a borrower to lift the wage garnishment order by making five consecutive monthly payments. These payments must be made on top of the wage garnishment, so it won’t be easy for people, but it at least provides a way out for borrowers who would otherwise be locked in default and wage garnishment indefinitely. This is a very good thing.
The regulations also provide new guidelines for those borrowers seeking to rehabilitate their defaulted loans. The regulations specify that the Income-Based Repayment (IBR) formula can be used to calculate a “reasonable and affordable” monthly rehabilitation payment for borrowers, and they also provide that collection agencies can do a further, more comprehensive financial review of a borrower’s circumstances to modify the calculation. This may make rehabilitation a more attractive and affordable option for eligible borrowers who want to remove their federal loans from default.
These regulatory changes are solidly good reforms in my view, and I think they will have a measurable impact on borrowers who are in trouble. The regulations do not officially go into effect until later in 2014, but I’m already starting to see some agencies implement the “spirit” of these regulations. Hopefully within a year, it will be easier for many borrowers to get themselves out of wage garnishment and federal loan default.
To read the summary of these new federal regulations, click here.