Federal student loan default -- which happens if a borrower misses payments for at least 270 days -- comes with severe consequences. To resolve default, a borrower has options that include full immediate repayment, loan consolidation or loan rehabilitation.
For most student loan borrowers, immediate full repayment is not practical. By contrast, consolidation and rehabilitation are the two primary ways to get out of student loan default. Each process has its pros and cons: Consolidation takes less time, but rehabilitation provides additional benefits that are not available through consolidation.
Here's what you need to know about the student loan rehabilitation process.
Who Can Benefit From Student Loan Rehabilitation
Student loan rehabilitation is when a borrower in default makes nine consecutive on-time monthly payments in an amount set by the loan servicer or holder.
This may be the right choice for those looking to get their student loans back into good standing and begin the process of restoring their credit. If you successfully rehabilitate a loan, the record of default is removed from your credit history. However, your credit history will still reflect late payments that were reported by your loan holder before your loan went into default.
Federal direct loans and Federal Family Education Loans, or FFEL, usually qualify for rehabilitation. Private student loans, which generally offer fewer borrower protections than federal student loans, aren't eligible for rehabilitation.
How Federal Student Loan Rehabilitation Works
To begin rehabilitating a defaulted federal student loan, contact the loan holder, which for direct loans is the U.S. Department of Education. You can find contact information on the department's Federal Student Aid website in the "Who's My Student Loan Servicer?" section.
Once in contact with your loan holder, you'll sign an agreement to make nine affordable and reasonable monthly payments within 20 days of the due date for 10 consecutive months. These payments are considered voluntary.
Payments made via wage garnishment, which is when an employer is required to withhold some of your wages and send them as direct payments to the loan holder, or by Treasury offset -- which is when the government seizes part or all of your federal income tax refund -- are considered involuntary and don't count toward rehabilitation.
What is reasonable and affordable is determined by the loan holder, who sets the amount of your monthly payment at 15% of your annual discretionary income, divided by 12. Your payment can be as low as $5 per month depending on your income, which is based in part on your adjusted gross income as reported on your most recent federal income tax return.
Note that if you are married and file federal taxes separately, you must include your spouse's tax returns when applying for rehabilitation. Also, if you haven't filed a federal tax return within the past two years or if your latest tax return doesn't accurately reflect your current income, you must submit a special income and expense form.
If your loan holder requests a monthly payment amount for rehabilitation that is unaffordable for you, you can request a recalculation for an alternative monthly payment based on subtracting reasonable amounts from your income that account for your monthly living expenses. This monthly payment could be lower, and you are required to choose one of the two payment amounts to begin the rehabilitation process.
It's important to note that either rehabilitation payment may be much lower than the regular monthly payments you'll be required to make when your loan returns to good standing. The goal of rehabilitation is to prove to your loan holder that you can be depended on to make consistent monthly on-time payments.
After your ninth successful rehabilitation payment, any wage garnishments and tax refund seizures will end. The Education Department will request that credit reporting agencies remove the student loan default from your account, which could raise your credit score.
Once your student loan is back in good standing, it is crucial to stay current on your payments to avoid another default and more collection costs added to the loan balance. Other benefits of completing rehabilitation are that you'll regain eligibility for federal student aid and repayment options like deferment, forbearance, loan forgiveness and income-driven repayment plans, which can mean a more affordable monthly payment based on a percentage of your income.
Federal Perkins loans can be rehabilitated through a slightly different process, which requires reaching out to the loan holder and agreeing to make nine consecutive months of full monthly payments within 20 days of the due date.
A Word of Caution About Student Loan Rehabilitation
When rehabilitating a student loan, note that collection costs may be added to the loan's balance. Fees are added to defaulted loans and may vary based on limits on what the federal government can charge.
Also keep in mind that using rehabilitation to get federal student loans out of default may not be a good idea for all borrowers. If you don't believe you'll be able to make your regular monthly payments after successfully rehabilitating the loan, you could risk defaulting again, which could come with even more severe consequences.
It is always a good idea to ask the loan holder for an estimate of what your monthly payment would be once your loan is back in good standing. Be sure to ask about income-driven repayment options, as they are often more affordable.
The Fine Print
A defaulted federal student loan can be rehabilitated only once, except in cases where the prior rehabilitation was processed before Aug. 14, 2008.
A borrower can become eligible once again for federal student financial aid after rehabilitation, but can lose it again under certain circumstances.
If your loan holder is collecting payments on your defaulted student loan via wage garnishment or Treasury offset, this may continue throughout the rehabilitation process. Again, these payments don't count toward your required nine monthly payments.
A Note About COVID-19 Emergency Relief Benefits
In response to the coronavirus pandemic, the federal government implemented emergency relief benefits for most federal student loan borrowers. This included suspending payments, setting the interest rate on qualifying federal loans to 0% and halting collections and wage garnishments. These benefits are set to end after Jan. 31, 2022.
If you were in the process of rehabilitating a defaulted student loan on March 13, 2020, when the relief period began, each month of suspended payments will still count toward rehabilitation. Once the payment suspension is over, rehabilitation payments must be received within 20 days of the due date to qualify as on time.