You cannot federal student loans that are in good standing. Nor can you settle private student loans in good standing. With federal student loans, settlement becomes an option only after you default. The same is true of private student loans. As a result, if you want to settle your student loans, your credit score will likely take a hit.
Why is that?
Simple. When you’re current under your repayment plan, you’re paying the interest on your loan. The higher your interest rate, the more money an investor stands to make on your loan. Similarly, the longer you take (deferments, income driven repayment plans, etc.) to pay on the loans, the more money the investor stands to make.
You offering a settlement for less than you owe is the exact opposite of what a lender wants. This is why, at least from my perspective, why you can’t settle a student loan that’s in good standing.
The US Department of Education suspended collection activities on defaulted federal loans it owns. That means they’ve suspended wage garnishment, Social Security offset, and tax refund offset. It’s still accepting student loan debt settlement offers though.
Please note two things. First, the Department of Education doesn’t own all federal student loans. Some federal loans (Federal Family Education Loans) are owned by guaranty agencies like ECMC, MOHELA, Trellis, etc. Others are owned by schools (Perkins Loans). To find out what type of loan you have and who owns it, call the National Student Loan Data System at 1-800-999-8219 or the Student Loan Support Center at 1-800-557-7394. Second, the suspension is temporary. It will last until the end of September 2020.
Can you negotiate a lower student loan payoff?
You likely can negotiate a lower payoff balance for your student loans after you default. But there are limits. Student loan settlements aren’t typically like credit card debt settlements. You usually won’t see student loan debt settlements for pennies on the dollar.
What’s more common is to see a federal debt settlement for about 85% of the loan balance less collection fees. On top of that, the settlement has to be paid in a lump sum or in monthly payments, but only if those monthly payments pay the settlement in 90 days.
In the past, the U.S. Department of Education used to accept lower settlement offers. But that all changed under the current administration. Now, the federal government almost always will not accept less than 85% payable via a lump sum payment.
Private Student Loans
Private student loans, on the other hand, usually offer better settlement options. In my experience, I typically settle a private defaulted student loan for about 40-75% of the balance.
The settlement amount for a private student loan depends on a number of factors. The most important are:
- how long it’s been since your last payment;
- how near is the statute of limitations;
- What your financial situation looks like on paper; and
- Who’s your loan holder.
Click here to read Guide to Negotiating Student Loan Settlements.
Does settling student loan debt hurt your credit?
Settling student loans hurts your credit score in two ways. First, before you can settle a student loan, you have to default. And because defaulting on your student loans is a requirement, your loan servicer will report those late payments to the credit bureaus. Those late payments will hurt your credit.
Second, after you reach a settlement on a student loan, your credit may take another hit. This time, your credit score may be hurt because you settled the student loan for less than you owe. And because you settled for less than you owe, your credit report will likely reflect that truth.
At this point, you may be wondering if the lender will agree to report the status differently to the credit bureaus. In my experience that rarely happens with student loan settlements. More often than not, the loan holder will refuse to include that language or tell you their settlement letters can’t be changed to add new terms.
You can try and fight about including that language. But the better move, in my opinion, is to get the settlement and then challenge the entire student loan trade line after paying the settlement. My clients have reported good results with this strategy.