Most federal student loan repayment options require that the borrower be out of default before being eligible. One option for getting a borrower out of default is through loan “rehabilitation”.
Rehabilitation of Direct Loans and Federal Family Education Loans
Rehabilitation of Direct and FFEL loans require the borrower to:
(1) Agree in writing to make nine voluntary, reasonable, and affordable monthly payments (as determined by the loan holder),
(2) Made within 20 days of the due date, and
(3) Make all nine payments during a period of 10 consecutive months.
Under loan rehabilitation agreements, the loan holder will determine a reasonable monthly payment amount that is equal to 15 percent of the borrower’s annual discretionary income, divided by 12. Discretionary income is the amount of the borrower’s adjusted gross income (as stated in the borrower’s most recent federal income tax return) that exceeds 150 percent of the poverty guideline amount for the borrower’s state and family size.
As part of the rehabilitation application, the borrower must provide all required income documentation.
If the borrower cannot afford the reasonable monthly payment as determined by the loan holder, the borrower can ask the loan holder to calculate an alternative monthly payment based on the amount of the borrower’s monthly income that remains after allowance for reasonable amounts the borrower’s monthly expenses have been subtracted. The borrower will need to provide documentation of the monthly income and expenses, including a completed “Loan Rehabilitation Income and Expense Information” form. Depending on the individual circumstances, the alternative payment amount may be lower than the payment amount initially offered. To rehabilitate the defaulted loan, the borrower must choose one of the two payment amounts.
The loan holder may be collecting payments on the defaulted loan through wage garnishment or Treasury offset -these involuntary payments may continue even after making payments under a loan rehabilitation agreement, but they CANNOT be counted toward the required nine voluntary loan rehabilitation payments. Involuntary payments may continue to be taken until the loan is no longer in default or until the borrower has made some of the rehabilitation payments. Administrative wage garnishments will stop after the fifth of the nine loan rehabilitation payments has been made.
Rehabilitation of Perkins Loans
For loans made under the Federal Perkins Loan Program, the borrower must make a full monthly payment each month, within 20 days of the due date, for nine consecutive months (as compared to 10 months with direct and FFEL loans). The borrower’s required monthly payment amount is determined by the loan holder.
Why Rehabilitate?
When rehabilitated, the default status will be removed from the loan, and collection of payments through wage garnishment or Treasury offset will stop. The borrower regains eligibility for benefits and repayment plans that were unavailable during default such as deferment, forbearance, choice of repayment plans, and loan forgiveness. Also, the record of default on the rehabilitated loan will be removed from the borrower’s credit history. However, the credit history will still show late payments that were reported by the loan holder before the loan went into default.
Downside to Rehabilitation
Defaulted borrowers can only rehabilitate once per loan for loans made after 2008. Also, the debt collector will recover a 16% collection fee which will be deducted from the monthly payments resulting in an overall slower rate of paydown.