Should I Rehabilitate or Consolidate My Defaulted Federal Loans?

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Our team at Student Loan Hero works hard to find and recommend products and services that we believe are of high quality. We sometimes earn a sales commission or advertising fee when recommending various products and services to you. Similar to when you are being sold any product or service, be sure to read the fine print to help you understand what you are buying. Be sure to consult with a licensed professional if you have any concerns. Student Loan Hero is not a lender or investment advisor. We are not involved in the loan approval or investment process, nor do we make credit or investment related decisions. The rates and terms listed on our website are estimates and are subject to change at any time.

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The situation for student loans has drastically changed due to the impact of the coronavirus pandemic, with the government temporarily suspending all federal student loan payments and interest charges, as well as stopping collection actions against defaulted loans. Visit the Student Loan Hero Coronavirus Information Center for details.

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If your federal student loans are in default (meaning that you’ve missed 270 days of payments), you can take action in one of two ways: student loan rehabilitation or consolidation. Each option has its pros and cons, but either should help get your federal student loans out of default and allow you to avoid the stress of dealing with collections agents, wage garnishment and tax offsets.

If your federal student loans have fallen into default, here’s what you need to know about student loan rehabilitation vs. consolidation.

What are the consequences of federal student loan default?

The government has wide-reaching powers when it comes to collecting on debt, so defaulting on federal student loans could have major consequences.

  • You will lose eligibility for forbearance or deferment.
  • You could have your wages garnished or even face an offset on your taxes.
  • Some older borrowers in student loan default have even been threatened with garnishment of their Social Security.
  • Defaulted student loans will likely get reported to the major credit bureaus, meaning your credit score could take a serious hit. A damaged credit score takes time to build back up, and this could make it difficult to take out a mortgage or make other big financial moves in the future.
  • Going into default could also mean your loans go to a collections agency. As a result, debt collectors might start calling asking for payment.

Note that this article focuses on the consequences for defaulting on federal student loans — the default process for private student loans is different. For one, private loans can go into default after just one missed payment, rather than having a 270-day buffer. Private loans also have a statute of limitations for default, whereas federal student loans do not.

3 options for getting out of default

The consequences of student loan default can be serious, so what can you do to get out of default? Here are three options:

1. Student loan rehabilitation
2. Student loan consolidation
3. Pay off your student loans in full

1. Student loan rehabilitation

Student loan rehabilitation allows you to change federal student loans from their default status to current. If you have more than one student loan, you must apply to rehabilitate each separately. It’s important to know that you may only go through the rehabilitation process once over the lifetime of a loan.

In order to rehabilitate, you must:

  • Have a Federal Direct, Family Education (FFEL) or Perkins Loan.
  • Contact your lender to start the process; if you aren’t sure who your lender is, you can go here and select “view loan servicer details.”
  • Agree in writing to make nine payments within 20 days of the due date and during a 10-month period if you have a Direct or Family Education Loan. For Perkins Loan repayments, the time period is nine months. Your payments under rehabilitation are expected to be reasonable based upon your financial situation and the number determined by the lender.

The loan servicer will request payments equal to 15% of your discretionary income, divided by 12. If you can’t afford those payments, you may ask your lender to recalculate the payment amount based on your documented income and expenses. It’s possible for borrowers in extreme financial distress to have rehabilitation payments as low as $5.

During the rehabilitation period, you may still have payments collected through garnishment of your wages or government payments. Rehabilitating your loan may also result in fees on the unpaid principal balance and accrued interest to the principal balance of the loan (the amount may vary, depending on factors like the collection agency and your state of residence). However, you may be able to get out of this if you enter into a satisfactory repayment agreement with your lender.

Benefits of student loan rehabilitation

  • Once you’ve made your nine payments, your loan is considered rehabilitated and the default is removed from your credit history.
  • You can rehabilitate loans that are already being paid through wage garnishment.
  • Collection of payments through wage garnishment or Treasury offset will cease.
  • You will regain eligibility for benefits lost when you were in default, including deferment, forbearance, a choice of repayment plans and loan forgiveness. That means you could make the necessary changes to your monthly payments to keep them affordable post-rehabilitation.
  • You’ll be eligible once again to receive federal student aid.

Drawbacks of student loan rehabilitation

  • While the default is removed after rehabilitation, your late payments from before you went into default will remain on your credit history.
  • The process is relatively lengthy, as your loans are not considered fully rehabilitated until you’ve made the final payment.
  • There may be fees involved, although these can be avoided.
  • If you have multiple loans, you must rehabilitate each separately.

2. Student loan consolidation

Another option for a borrower with federal student loans in default is consolidation. With Direct Loan consolidation, your defaulted loans will be paid off, leaving you with a single, larger loan with one monthly payment, a fixed interest rate and, in most cases, a longer repayment term.

If you are looking into a Direct Consolidation Loan, here’s what you should know:

  • Most federal loans are eligible for consolidation.
  • You should have at least one other eligible student loan you can combine into one if you are consolidating a Direct Loan.
  • You may reconsolidate a defaulted FFEL without including another loan, but only if you repay the new Direct Consolidation Loan through an income-driven repayment plan.
  • You must make three consecutive monthly payments on your defaulted loan before you apply for consolidation, or you would have to pay the consolidated loan under an income-driven repayment plan.
  • If you want to consolidate a defaulted loan that is already being garnished from your wages, or collected through a court order, you must ensure the garnishment order or judgment has been lifted.
  • You must complete a Direct Consolidation Loan Application. You can go here to start the process.

Benefits of Direct Loan consolidation

  • Once your loan is consolidated, you are out of default.
  • Having just one loan payment can simplify your life.
  • Your monthly bill may be lower because you will have a longer time to repay your loan.
  • Consolidation may allow for access to additional income-driven, deferment, forbearance and loan forgiveness options.
  • You can switch variable-rate loans to one fixed interest rate.
  • Once you have consolidated your defaulted student loan, collections agents may no longer contact you.

Drawbacks of Direct Loan consolidation

  • Your credit report will still include the information about your default for up to seven years.
  • You may make more payments and pay more interest in the end, due to the longer repayment time period.
  • Outstanding interest on the loans you consolidate becomes part of the new principal balance, which means you may be paying interest on a higher balance.
  • You may lose certain borrower benefits, including interest rate discounts, principal rebates or loan cancellation benefits that are tied to your current loans.
  • If you’re paying your current loans under an income-driven repayment plan, or if you’ve made payments toward a loan forgiveness program, you may lose credit for these payments made if you consolidate.

Loan Rehabilitation and Consolidation Comparison Chart

Benefit RegainedLoan RehabilitationLoan Consolidation
Eligibility for DefermentYesYes
Eligibility for ForbearanceYesYes
Choice of Repayment PlansYesYes, but there may be limitations
Eligibility for Loan Forgiveness ProgramsYesYes
Eligibility to Receive Federal Student AidYesYes
Removal of the Record of Default From Your Credit HistoryYesNo

Source: Federal Student Aid

3. Pay off your student loans in full

A third option for getting your student loan out of default is to pay your loan off in full.

Providing a full payment will wipe out your debt and stop any consequences of default, such as wage garnishment or tax offsets, in their tracks.

Of course, this approach is probably not possible for most borrowers, especially not for those who end up in default in the first place, unless they have come into a financial windfall.

How to choose the best option for your finances

When it comes to choosing between rehabilitation and consolidation, keep in mind the pros and cons of each option, and consider your own unique situation. In the end, the key benefit is that both approaches accomplish your goal of getting your student loans out of default.

Remember as well that it is always best to avoid student loan default entirely if you can. There are several options available to you if you are having trouble managing your student loan payments, including deferment or forbearance, switching to an income-driven repayment plan and refinancing your loans.

Rebecca Stropoli and Emily Guy Birken contributed to this article.

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LenderVariable APREligible Degrees 
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1.89% – 5.90%2Undergrad
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2.25% – 6.09%3Undergrad
& Graduate

Visit SoFi

1.89% – 6.77%4Undergrad
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Visit Splash

2.39% – 6.01%Undergrad
& Graduate

Visit Elfi

1.99% – 5.41%5Undergrad
& Graduate

Visit CommonBond

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1 Important Disclosures for Earnest.

Earnest Disclosures

To qualify, you must be a U.S. citizen or possess a 10-year (non-conditional) Permanent Resident Card, reside in a state Earnest lends in, and satisfy our minimum eligibility criteria. You may find more information on loan eligibility here: https://www.earnest.com/eligibility. Not all applicants will be approved for a loan, and not all applicants will qualify for the lowest rate. Approval and interest rate depend on the review of a complete application.

Earnest fixed rate loan rates range from 2.98% APR (with Auto Pay) to 5.79% APR (with Auto Pay). Variable rate loan rates range from 1.99% APR (with Auto Pay) to 5.64% APR (with Auto Pay). For variable rate loans, although the interest rate will vary after you are approved, the interest rate will never exceed 8.95% for loan terms 10 years or less. For loan terms of 10 years to 15 years, the interest rate will never exceed 9.95%. For loan terms over 15 years, the interest rate will never exceed 11.95% (the maximum rates for these loans). Earnest variable interest rate loans are based on a publicly available index, the one month London Interbank Offered Rate (LIBOR). Your rate will be calculated each month by adding a margin between 1.82% and 5.50% to the one month LIBOR. The rate will not increase more than once per month. Earnest rate ranges are current as of July 31, 2020, and are subject to change based on market conditions and borrower eligibility.

Auto Pay discount: If you make monthly principal and interest payments by an automatic, monthly deduction from a savings or checking account, your rate will be reduced by one quarter of one percent (0.25%) for so long as you continue to make automatic, electronic monthly payments. This benefit is suspended during periods of deferment and forbearance.

The information provided on this page is updated as of 7/31/2020. Earnest reserves the right to change, pause, or terminate product offerings at any time without notice. Earnest loans are originated by Earnest Operations LLC. California Finance Lender License 6054788. NMLS # 1204917. Earnest Operations LLC is located at 302 2nd Street, Suite 401N, San Francisco, CA 94107. Terms and Conditions apply. Visit https://www.earnest.com/terms-of-service, email us at [email protected], or call 888-601-2801 for more information on our student loan refinance product.

© 2020 Earnest LLC. All rights reserved. Earnest LLC and its subsidiaries, including Earnest Operations LLC, are not sponsored by or agencies of the United States of America.


2 Important Disclosures for Laurel Road.

Laurel Road Disclosures

All credit products are subject to credit approval.

Laurel Road began originating student loans in 2013 and has since helped thousands of professionals with undergraduate and postgraduate degrees consolidate and refinance more than $4 billion in federal and private school loans. Laurel Road also offers a suite of online graduate school loan products and personal loans that help simplify lending through customized technology and personalized service. In April 2019, Laurel Road was acquired by KeyBank, one of the nation’s largest bank-based financial services companies. Laurel Road is a brand of KeyBank National Association offering online lending products in all 50 U.S. states, Washington, D.C., and Puerto Rico. All loans are provided by KeyBank National Association, a nationally chartered bank. Member FDIC. For more information, visit www.laurelroad.com.

As used throughout these Terms & Conditions, the term “Lender” refers to KeyBank National Association and its affiliates, agents, guaranty insurers, investors, assigns, and successors in interest.

  1. Checking your rate with Laurel Road only requires a soft credit pull, which will not affect your credit score. To proceed with an application, a hard credit pull will be required, which may affect your credit score.
  2. Savings vary based on rate and term of your existing and refinanced loan(s). Refinancing to a longer term may lower your monthly payments, but may also increase the total interest paid over the life of the loan. Refinancing to a shorter term may increase your monthly payments, but may lower the total interest paid over the life of the loan. Review your loan documentation for total cost of your refinanced loan.
  3. After loan disbursement, if a borrower documents a qualifying economic hardship, we may agree in our discretion to allow for full or partial forbearance of payments for one or more 3-month time periods (not to exceed 12 months in the aggregate during the term of your loan), provided that we receive acceptable documentation (including updating documentation) of the nature and expected duration of the borrower’s economic hardship. During any period of forbearance interest will continue to accrue. At the end of the forbearance period, any unpaid accrued interest will be capitalized and be added to the remaining principle amount of the loan.
  4. Automatic Payment (“AutoPay”) Discount: if the borrower chooses to make monthly payments automatically from a bank account, the interest rate will decrease by 0.25% and will increase back if the borrower stops making (or we stop accepting) monthly payments automatically from the borrower’s bank account. The 0.25% AutoPay discount will not reduce the monthly payment; instead, the discount is applied to the principal to help pay the loan down faster.

Assumptions: Repayment examples above assume a loan amount of $10,000 with repayment beginning immediately following disbursement. Repayment examples do not include the 0.25% AutoPay Discount.

Annual Percentage Rate (“APR”): This term represents the actual cost of financing to the borrower over the life of the loan expressed as a yearly rate.

Interest Rate: A simple annual rate that is applied to an unpaid balance.

Variable Rates: The current index for variable rate loans is derived from the one-month London Interbank Offered Rate (“LIBOR”) and changes in the LIBOR index may cause your monthly payment to increase. Borrowers who take out a term of 5, 7, or 10 years will have a maximum interest rate of 9%, those who take out a 15 or 20-year variable loan will have a maximum interest rate of 10%.

KEYBANK NATIONAL ASSOCIATION RESERVES THE RIGHT TO MODIFY OR DISCONTINUE PRODUCTS AND BENEFITS AT ANY TIME WITHOUT NOTICE.

This information is current as of September 9, 2020. Information and rates are subject to change without notice.
 


3 Important Disclosures for SoFi.

SoFi Disclosures

  1. Student loan Refinance: Fixed rates from 2.99% APR to 6.09% APR (with AutoPay). Variable rates from 2.25% APR to 6.09% APR (with AutoPay). Interest rates on variable rate loans are capped at either 8.95% or 9.95% depending on term of loan. See APR examples and terms. Lowest variable rate of 2.25% APR assumes current 1 month LIBOR rate of 0.18% plus 2.32% margin minus 0.25% ACH discount. Not all borrowers receive the lowest rate. If approved for a loan, the fixed or variable interest rate offered will depend on your creditworthiness, and the term of the loan and other factors, and will be within the ranges of rates listed above. For the SoFi variable rate loan, the 1-month LIBOR index will adjust monthly and the loan payment will be re-amortized and may change monthly. APRs for variable rate loans may increase after origination if the LIBOR index increases. See eligibility details. The SoFi 0.25% AutoPay interest rate reduction requires you to agree to make monthly principal and interest payments by an automatic monthly deduction from a savings or checking account. The benefit will discontinue and be lost for periods in which you do not pay by automatic deduction from a savings or checking account. *To check the rates and terms you qualify for, SoFi conducts a soft credit inquiry. Unlike hard credit inquiries, soft credit inquiries (or soft credit pulls) do not impact your credit score. Soft credit inquiries allow SoFi to show you what rates and terms SoFi can offer you up front. After seeing your rates, if you choose a product and continue your application, we will request your full credit report from one or more consumer reporting agencies, which is considered a hard credit inquiry. Hard credit inquiries (or hard credit pulls) are required for SoFi to be able to issue you a loan. In addition to requiring your explicit permission, these credit pulls may impact your credit score. Terms and Conditions Apply. SOFI RESERVES THE RIGHT TO MODIFY OR DISCONTINUE PRODUCTS AND BENEFITS AT ANY TIME WITHOUT NOTICE. 

4 Important Disclosures for Splash Financial.

Splash Financial Disclosures

Terms and Conditions apply. Splash reserves the right to modify or discontinue products and benefits at any time without notice. Rates and terms are also subject to change at any time without notice. Offers are subject to credit approval. To qualify, a borrower must be a U.S. citizen or permanent resident in an eligible state and meet applicable underwriting requirements. Not all borrowers receive the lowest rate. Lowest rates are reserved for the highest qualified borrowers. If approved, your actual rate will be within a range of rates and will depend on a variety of factors, including term of loan, a responsible financial history, income and other factors. Refinancing or consolidating private and federal student loans may not be the right decision for everyone. Federal loans carry special benefits not available for loans made through Splash Financial, for example, public service loan forgiveness and economic hardship programs, fee waivers and rebates on the principal, which may not be accessible to you after you refinance. The rates displayed may include a 0.25% autopay discount.

The information you provide to us is an inquiry to determine whether we or our lenders can make a loan offer that meets your needs. If we or any of our lending partners has an available loan offer for you, you will be invited to submit a loan application to the lender for its review. We do not guarantee that you will receive any loan offers or that your loan application will be approved. Offers are subject to credit approval and are available only to U.S. citizens or permanent residents who meet applicable underwriting requirements. Not all borrowers will receive the lowest rates, which are available to the most qualified borrowers. Participating lenders, rates and terms are subject to change at any time without notice.

To check the rates and terms you qualify for, Splash Financial conducts a soft credit pull that will not affect your credit score. However, if you choose a product and continue your application, the lender will request your full credit report from one or more consumer reporting agencies, which is considered a hard credit pull and may affect your credit.

Splash Financial and our lending partners reserve the right to modify or discontinue products and benefits at any time without notice. To qualify, a borrower must be a U.S. citizen and meet our lending partner’s underwriting requirements. Lowest rates are reserved for the highest qualified borrowers. This information is current as of September 10, 2020.


5 Important Disclosures for CommonBond.

CommonBond Disclosures

Offered terms are subject to change and state law restriction. Loans are offered by CommonBond Lending, LLC (NMLS # 1175900), NMLS Consumer Access. If you are approved for a loan, the interest rate offered will depend on your credit profile, your application, the loan term selected and will be within the ranges of rates shown. ‍All Annual Percentage Rates (APRs) displayed assume borrowers enroll in auto pay and account for the 0.25% reduction in interest rate. All variable rates are based on a 1-month LIBOR assumption of 0.16% effective August 10, 2020.

Our team at Student Loan Hero works hard to find and recommend products and services that we believe are of high quality. We sometimes earn a sales commission or advertising fee when recommending various products and services to you. Similar to when you are being sold any product or service, be sure to read the fine print to help you understand what you are buying. Be sure to consult with a licensed professional if you have any concerns. Student Loan Hero is not a lender or investment advisor. We are not involved in the loan approval or investment process, nor do we make credit or investment related decisions. The rates and terms listed on our website are estimates and are subject to change at any time.