What to Know if Your College Loses Federal Funding

Here's the good news: A greater percentage of students are repaying their federal loans.

The most recent three-year student loan default rate dropped from 14.7 percent to 13.7 percent, according to data from the Department of Education.

But for a handful of colleges -- and their students -- these data come laced with some very bad news.

A group of 21 institutions, mostly for-profit technical and beauty colleges, are on the precipice of losing federal funding unless they successfully appeal. They landed on the list for having default rates topping 40 percent for one year or at least 30 percent for three consecutive years.

"These 21 schools represent the absolute most terrible educational options from a student loan standpoint," says Ben Miller, a senior policy analyst in the education policy program at the New America Foundation.

[Learn more about what default rates mean for students.]

For students enrolled at those schools, losing federal funding could mean several things, depending on what happens to the college. Check to see whether your school is on the list to the right, and keep these tips in mind if your school loses federal funding or you want to avoid a risky school in the first place.

You may need to find out about a school's status on your own. The Department of Education encouraged the at-risk schools to notify students about the possibility of losing funding, but there's no mandated notification in place, said a department representative in an email.

One school on the list, Henri's School of Hair Design in Massachusetts, had already stopped offering federal loans after unsuccessfully appealing last year, says Mark Gauvin, vice president of the school. Because the three-year default data are from the 2011 cohort, they don't represent the program's most recent graduates, he says. But students can still receive private loans.

[Know these facts about for-profit colleges and student debt.]

You'll have to find an alternate payment plan. If a school loses access to federal student aid programs, students have to pay out of pocket or take on private debt -- assuming that private lenders are willing to work with that school's students, says Miller.

"I'd be very suspicious of a private lender willing to lend to something that's such a horrible risk that even the government won't lend to it," he says.

You may have to transfer to another school. Some schools will have to close down without federal dollars. "The loss of funding for many of these schools is a death sentence," says Mark Kantrowitz, senior vice president and publisher at Edvisors, a higher education resource site.

A school making arrangements to shut its doors can partner with another school to transfer credits, which is called a teach-out. When that happens, students continue earning their degrees or certificates and are responsible for the debt incurred at the closed institution.

Miller warns that the 21 schools in trouble primarily offer short-term certificates, and the odds are slim that many will organize teach-outs.

Your federal loans may be forgiven. When a school closes, current students and those who have withdrawn within the previous 120 days can qualify for a federal loan discharge if they aren't completing the program elsewhere.

Students will no longer be responsible for the federal loans accrued while at the defunct institution. Depending on the state, there may also be a state bond to reimburse students for part of their losses, says Kantrowitz.

Money paid out of pocket and wasted time, however, aren't refunded.

You need to do your own research. Schools escaping the at-risk list this year still may not be good financial investments.

To avoid falling below the default rate cutoff, "there are a lot of schools that have manipulated their default rates," says Rory O'Sullivan, deputy director of the Young Invincibles, a national policy and advocacy organization dedicated to young adults' economic advancement.

Students should be on the lookout and do their own default rate sleuthing, say experts. If a substantial number of a school's graduates aren't able to pay back their loans, you may be more likely to end up in the same position if you attend.

"The consequences of default are quite severe," says Debbie Cochrane, research director at the Institute for College Access & Success. "It destroys your credit, making it impossible to rent an apartment, buy a car and sometimes even get a job."

You can look up a school's default rate on the Department of Education's College Scorecard. U.S. News also provides default rate data for four-year schools.

[Be smart about making your college short list.]

Miller recommends shying away from rates close to 30 percent, instead drawing the line at 15 percent or 20 percent at two-year colleges and 10 percent at four-year institutions.

Approach high-rate colleges cautiously, say experts. Defaults are a worst-case scenario for students and stem from a lethal mix of problems, says O'Sullivan. "If you charge a lot of money and offer a poor quality education, students will be in a difficult position when they leave," he says.

Trying to fund your education? Get tips and more in the U.S. News Paying for College center.

Susannah Snider is an education reporter at U.S. News, covering paying for college and graduate school. You can follow her on Twitter or email her at ssnider@usnews.com.