With student loan defaults at historic highs, students and their parents need to understand the ramifications of defaulting on a student loan. Certified public accountants (CPA) caution parents to think carefully about co-signing for a student loan and to be sure they understand what it could mean to their own financial future. The Virginia Society of Certified Public Accountants (VSCPA) offers the following advice before taking student loans.
Only private student loans, such as those through a local bank, require co-signers. Federal student loans — 93 percent of student loans are now issued by the government — do not require co-signers. Government-backed student loans typically offer lower interest rates and more flexible repayment plans. Investigate all options before co-signing anything.
In the best case, the student graduates and starts a successful career, allowing the young professional to make all regular payments. A co-signed student loan, however, is listed on both the parent's and the child's credit report. This extra debt can easily prevent a parent from getting additional loans if needed or refinancing a home. Even if the child is a success and is making all the regular payments, the debt service is counted as an expense to the parents.
If something happens and the graduate can’t afford to make the payments, the parent’s credit report is going to take a big hit.
If you or your child defaults on a student loan, the government isn’t going to let either of you walk away from the debt. The government has many options available to recoup its losses:
- Tax Refund Offsets: The U.S. Internal Revenue Service (IRS) can claim any income tax refund you may be entitled to until student loans are paid in full.
- Garnishment of Wages: The government can garnish (take) a limited portion of the wages of a student loan debtor who is in default. It can take up to 15 percent of disposable income. It cannot, however, take more than the equivalent of 30 times the current federal minimum wage.
- Federal Benefits: The government can take some federal benefit payments (including Social Security retirement benefits and Social Security disability benefits, but not Supplemental Security Income) as reimbursement for student loans. The government cannot take any amount that would leave you with benefits less than $9,000 per year, or $750 per month, and it cannot take more than 15 percent of your total benefit.
- Legal Action: The government and private lenders can sue you to collect defaulted student loans. Unlike other debts, there is no time limit on suing to collect student loans.
If you or your child is having trouble repaying a student loan, the first thing to do is contact the lender to see if you can arrange an easier repayment plan.
If you’re having serious trouble paying back your debt, bankruptcy isn’t going to be an option. Unlike credit card debt or automobile loans, student loans are virtually impossible to discharge in bankruptcy. Unless you can show that an education loan payment is an "undue hardship" on you, your family, and your dependents, student loans are ineligible for cancellation (discharge) in bankruptcy. It is difficult to prove "undue hardship" unless you are physically unable to work and there is no chance of making money. To discharge student loans under this special case, you must file a separate motion with the bankruptcy court and present your situation before a judge.
If student loans are the largest part of your debt, you are better off not filing for bankruptcy because courts are very reluctant to discharge student loans.
Be sure to plan for the funding of an entire college education before the first semester. To get an idea of what student loan payments will look like, visit FinAid, a free financial aid information website for students and their families, at http://www.finaid.org/calculators to do the math. A CPA can help your family plan a budget that will help you stay on track to meet your financial goals and fund college education.