There are fewer, but still some, ways to set up a new repayment plan after you have defaulted on your loan. If you are able to get out of default through rehabilitating or consolidating your loans, you will once again be eligible for the more flexible pre-default repayment options as well as deferments.

The two main post-default repayment programs for government loan borrowers are consolidation and rehabilitation. You should also think about whether you have enough money to settle your student loan debt.

As you think about these programs, try to be realistic about whether you can afford to make even very small payments each month. You want to avoid rehabilitating or consolidating your defaulted loans and then defaulting again because you are unable to meet your new obligations.

Be advised that as of August 2008, you are entitled to get out of default through rehabilitation only once per loan.  There are also limits on how many times you can consolidate.

CONSOLIDATION TO GET OUT OF DEFAULT

You should consider the pros and cons of consolidation before making this choice. This section contains information about how to consolidate if you have already defaulted on your loans.

Consolidation works well for many borrowers with defaulted loans. After obtaining a consolidation loan, you get a fresh start, becoming eligible for new loans, grants, and even deferments. You will no longer be listed as currently in default on your credit records, and no longer subject to tax intercepts, garnishments, or other collection efforts.

The government loan consolidation programs are especially helpful because you can choose one of the income-based repayment plans.

WARNING: It is very dangerous to consolidate federal loans into a private consolidation loan. This is because you will lose your rights under the federal loan programs once you choose to consolidate with a private lender. These include deferment, forbearance, cancellation, and affordable repayment rights. Also, federal consolidation loans generally have lower interest rates.

Federal Consolidation Loans for Borrowers in Default

FFEL consolidation allows borrowers in default to either make three consecutive affordable monthly payments or agree to an Income Sensitive Repayment plan. Direct Consolidation allows defaulted borrowers to make three consecutive reasonable and affordable monthly payments or agree to pay under Income Contingent Repayment plan (ICRP) or Income Based Repayment (IBR).

An interruption in this consecutive period is allowed for qualifying military service members or affected civilians. These borrowers may resume their payments after their service is completed. See the special programs for military section of this site for information about other options for military service members and certain civilians affected by war or national emergencies.

If you have outstanding balances on Direct Loans, you are eligible for Direct Loan consolidation. You are also eligible if you have only FFEL loans as long as you meet one of the following two conditions: 1) You must be unable to obtain a FFEL Consolidation loan or 2) unable to obtain a FFEL Consolidation loan with acceptable income-sensitive repayment terms.  Despite what a FFEL lender might say, you do not have to actually apply for a FFEL consolidation loan before applying for a Direct Loan consolidation. 

 As of July 1, 2010, there will be no more FFEL consolidation loans.   The Direct Loan consolidation program will be the only government consolidation loan program.

If you are in default and consolidating with Direct Loans, you must either make three reasonable and affordable payments or agree to repay using the Income Contingent Repayment Plan (ICRP) or the Income-Based Repayment Plan (IBR).  Despite what a collector may tell you, if you select ICRP, you do not have to make three payments before applying for consolidation.

The Department is currently taking the position that you can only select IBR after you have already consolidated your loan.  The new repayment plan selection form (new as of March 2010) has a check box for IBR, but the instructions tell you that you must continue to make payments on your loans under your current repayment plan until the Department receives all the information necessary to determine IBR eligibility.  It is not yet clear how this will work if you are in default, consolidating your loans, and selecting IBR.  The Department says that it is fixing this problem so that borrowers in these circumstances will be able go directly into ICR or IBR.  In the meantime, if you want IBR, the Department advises you to check IBR on the repayment plan selection form and fill out and sign section 5 (the IBR section) of that form.  Until they fix their system, they will place you in ICR even if you choose IBR, but you should be able to switch into IBR right away.  It is unlikely that this will happen automatically, you will probably have to request the switch.  You should not have to make a minimum number of ICR payments before switching into IBR if you selected IBR on the repayment plan form.  We will post more information on this issue as soon as we get it.  

If you are consolidating out of default and select ICR or IBR, it may take a while for the Department to calculate your final payment amount.  In addition to the repayment selection form, you will have to fill out this consent to disclosure of tax information form to apply for an ICRP or IBR.  While they are collecting the information needed to make this calculation, the Department will usually ask you to pay an initial amount that covers the monthly interest.  You should consider filling out the alternative documentation of income form if your tax records do not accurately reflect your current income situation.

If you cannot afford this payment, you may request a forbearance that will last until you are notified of your actual payment.  This can be confusing.  The statement you receive from the Department may list a total amount due or current due amount that is different than the monthly payment.  As in this sample, the total amount due of $16.28 is the amount required to cover monthly interest.  The monthly payment, however, is 0.  In this example, the borrower can choose to pay the accruing interest, but she is not required to pay this amount.  Since her monthly payment is 0, she is not required to pay anything. The Department’s servicers will hopefully use letters that clearly explain borrower rights.

In most cases when you are consolidating out of default, the lender will add collection costs to the new loan balance.  This should be no more than 18.5% of the outstanding principal and interest.

You will run into problems if you defaulted on a consolidation loan and now want to consolidate again. If you defaulted on a FFEL consolidation loan, you may consolidate with the Direct Loan program, but only if you are selecting an ICRP or IBR. You can also consolidate with Direct Loans to use the public service forgiveness program or the limits on interest accrual for military service-members.

If you defaulted on a Direct consolidation loan, you cannot consolidate again with either program unless you are adding new loans to the consolidation. But all is not lost. You can look into getting out of default by rehabilitating your loan. Once the rehabilitation process is over, you will be eligible once again to consolidate.

You can use this self-help packet to help you apply for a Direct Consolidation loan.

REHABILITATION TO GET OUT OF DEFAULT

FAQs About Federal Student Loan Rehabilitation

You can renew eligibility for new loans and grants and eliminate the loan default by “rehabilitating” a defaulted loan. To qualify for FFEL or Direct Loan rehabilitation, you have to make nine monthly payments within 20 days of the due date during a period of 10 consecutive months.  The 9 out of 10 rule basically allows you to miss your payment one month, but still be eligible to rehabilitate.  The Perkins program has separate rules.  To rehabilitate a Perkins loan, you must make nine payments in a nine month period.

An interruption in this consecutive period is allowed for qualifying military service members or affected civilians. These borrowers may resume their rehabilitation payments after their service is completed. See the special programs for military section of this site for information about other options for military service members and certain civilians affected by war or national emergencies.

If you are rehabilitating a FFEL loan, the guarantor must attempt to find a lender to purchase the loan after you have made the required payments. Once rehabilitation is complete, the loan is removed from default status and you are eligible for new loans and grants. The default should be removed from your credit record. In most cases, however, the other negative history will remain until it gets too old to report.

You can regain eligibility for federal assistance before you complete the rehabilitation as long as you make six monthly reasonable and affordable payments.  However, you will need to complete the rehabilitation to get out of default.

Lenders will generally add collection costs to the new loan balance, but this should be no more than 18.5% of the unpaid principal and accrued interest at the time of the sale of the loan.

Be advised that as of August 14, 2008, you are entitled to get out of default through rehabilitation only once per loan. If you rehabilitated before that date and go back into default on that loan, you can still rehabilitate again.  However, this new rehabilitation will be subject to the one-time limit.

Many guaranty agencies are having trouble finding buyers for rehabilitated loans. These FAQs will help you deal with this situation. Relief could be on the way soon.

How to Rehabilitate Your Loans

You will need to request rehabilitation from your loan holder. You may be dealing with a collection agency. Regardless of who you are dealing with, you should insist on getting the agreement in writing. Be sure and read everything before signing.

The main item to negotiate is how much you will have to pay every month. Your loan holder may tell you that you have to pay an amount beyond what you can afford. This is wrong. The law says that you only have to pay what is reasonable and affordable. There is no minimum amount that the loan holder must charge.

Here is how it should work:  The loan holder should discuss your options, including the pros and cons of loan rehabilitation and loan consolidation.  If you decide on rehabilitation, the loan holder may  start out with a certain monthly payment amount.  You should tell them if this is more than  you can afford.  The loan holder should then ask for documentation of your income and expenses so that you and the agency can come up with an amount that is truly reasonable and affordable.  The loan holder will most likely ask you to fill out this form or something similar to determine the monthly reasonable and affordable payment amount.

Common Rehabilitation Problems The papers that the loan holder wants you to sign may say that the agreement is canceled if any payment is late. (see sample). This is wrong. You must make nine timely payments in a ten month period. You may be late one month and still qualify for rehabilitation. You may successfully make it through the rehabilitation process only to find that the loan holder has put you in a standard repayment plan with payments that you cannot afford. You should carefully track when the rehabilitation period is over. Once you have rehabilitated, your loan is out of default and you are eligible for any of the pre-default flexible repayment plans as well as consolidation. Arrange for an affordable repayment plan with your lender so that the transition out of rehabilitation is as smooth as possible. Income-based repayment is available in both the FFEL and Direct loan programs. There will usually be a new servicer after your loan is sold.  It is a good idea to ask your current loan holder to give you the name of the new servicer as soon as possible so that you can arrange for an affordable payment plan. Your FFEL lender may be unable to sell the loan after rehabilitation.  You are required to keep making payments until a buyer is found.  One way to deal with this problem is to consolidate with the Direct Loan program. You can then choose to repay through the income contingent repayment plan or income-based repayment. Your payments under this plan may be even lower than what you were paying to rehabilitate the loan. During these tight economic times, some guaranty agencies have completely suspended their rehabilitation programs. They say they are doing this because there are no buyers for the loans. You should discuss your options with the guaranty agency. As long as you are eligible, you still have the right to consolidate to get out of default. The agency might also be willing to start a rehabilitation plan, hoping that the economy will improve and that there will be buyers after you have finished making your payments. These FAQs have more information to help you deal with this situation.

REHABILITATION TIPS AND FAQs

Q: Can my loan holder charge collection costs after I rehabilitate my loans?

A: Yes, but no more than 18.5% of the unpaid principal and accrued interest at the time of the sale of the loan.

Q: Can my loan holder continue to collect even after I have signed a rehabilitation agreement?

A: Yes. To avoid this problem, you should insist that the loan holder agree in writing to stop all collection efforts other than routine billing while you are current on your rehabilitation payments.

Q: Do I have the right to rehabilitate defaulted private loans?

A: Only if your private lender has a rehabilitation program. Most do not.

Q: What if my lender won’t agree to a rehabilitation payment amount that I find reasonable and affordable?

A: The lender will probably say that minimum payments are required so that the lender can sell your loan at the end of the ten month rehabilitation period. Private collectors will almost always tell you this because they only get paid a commission if they set up rehabilitation plans where borrowers pay certain minimum amounts. Despite what they tell you, you have the right to pay only what is reasonable and affordable. Although this is difficult, the best way to deal with this problem if it arises is to tell the lender that you are aware of your right to a reasonable and affordable payment plan and to keep pushing until they give it to you. You should be prepared to provide detailed documentation of your income and expenses. Most lenders will require you to use this form or something similar. If you still don’t get anywhere, you should try contacting the Department of Education ombudsman office or one of the guaranty agency ombudsman offices. If you still can’t get anywhere, you might consider contacting a lawyer.