August 04, 2023

About to Default on a Private Student Loan? What to Expect.


Since 2005, when Congress amended the law to make private student loans non-dischargeable in the ordinary bankruptcy case, private student loans became more available and more profitable.  The increased availability of private student loan funds is undoubtedly a factor in the dramatic increases in tuition costs in the United States.  A US News and World Report article (September 13, 2022) reported that over the last 20 years (2002 to 2022), tuition costs increased an average of 134% at private colleges and 175% at public colleges.

Based on that statistic, students need to borrow heavily to finance a four-year degree or graduate degree, and will turn to private student loans when federal loan funds are exhausted.  But wages, and the ability to pay back those loans, has not kept up.  The inevitable result is a wave of defaults on private student loans.

The lender, amount of loan and other circumstances determine what will happen after a default.  Based on 10 years of providing advice to student loan borrowers, here are the possible outcomes of a default on a private student loan.

  1. Borrower defaults by not making a payment that is due, or by exhausting deferments and forbearances. This is usually followed by a notice of default from the loan servicer.  Notice can be either by USPS First Class mail, USPS Certified mail, or some combination.
  2. At this point, the borrower may receive offers to modify the loan by reducing the interest rate or payments. Borrower may receive phone calls from the loan servicer asking for a payment or asking the borrower to call the loan servicer.
  3. Typically, after 6 months of no payment, modification or refinance, the holder of the loan will “charge-off” the loan, which changes it from an asset to a loss. After charge-off, the loan may be (a) assigned to a collection agency for purposes of collection or (b) sold to a debt buyer or other entity.  If the loan is assigned to a collection agency, the lender retains ownership of the loan but must be removed from the collection process.  If the loan is sold, the borrower may receive a notice of the sale/transfer, usually through a letter.  At this point it is a good idea for the borrower to obtain current credit reports to see what is being reported.
  4. Collection efforts may continue for months or years with no legal action taken. During this period collection agencies call the borrower and/or send correspondence.  If a collection agent is unable to locate the borrower, he may (legally) contact family members or employers in order to locate the borrower.
  5. If collection efforts are not successful, the lender or debt buyer may retain a collection law firm (one that specializes in collection of debts). The law firm sends a letter demanding payment. Settlement may be possible at this point if borrower offers a lump sum or agrees to make payments to ultimately pay either (a) the entire owed, or (b) a reduced settlement amount. Some borrowers report that they are able to settle for a reduced figure but that is typically associated with a lump-sum settlement.
  6. If the borrower does not successfully engage with the collection law firm, it is likely that a lawsuit will be filed in the county where the borrower lives. The borrower may then be served with a summons and complaint.  If borrower is served and does not file an answer to the complaint within the time allowed, the result will be a default judgment.  (Once the plaintiff has a judgment, the borrower loses the ability to “negotiate” a reduced amount. Also note that judgments get larger over time due to statutory interest that can be added at regular intervals.
  7. In another scenario, a lawsuit is filed; the borrower is served with the summons and complaint. The borrower files an answer to the complaint OR retains a consumer attorney to represent him and litigate the case through settlement or trial.  (NOTE that the ideal attorney is one who has litigated debt buyer and student loan cases, and understands the weaknesses in the typical collections lawsuit.)  Litigated cases can be settled at any point in the process, which can be right up to the day of trial.
  8. It is rare for a student loan collections case to go to trial. This can only occur if the plaintiff has both an available witness and “slam-dunk” case, and few do. If the borrower/defendant has an attorney, and the case does go to trial, either party can win.
  9. Finally, in another scenario, the borrower defaults, and waits for some action to be taken. When a loan is sold or transferred multiple times, years may pass without a lawsuit or even attempts to collect outside of a lawsuit.   This raises the possibility that the claim may become “time-barred” – too old to be enforced due to the statute of limitations.  (Determining which statute of limitations applies and when it begins to “run” may require a professional legal opinion.)  7 years after the default, the loan will “age off” borrower’s credit reports.  At that point the borrower has survived the negative credit reporting and may also be free from the loan itself.

Best-case scenario #1: Borrower does not get sued and the debt becomes time-barred under applicable law.

Best-case scenario #2: Borrower is sued, promptly hires an experienced consumer attorney, and settles the case favorably.

The in-between scenario: Borrower settles the debt before being sued; typically, by paying a lump-sum to the collection agency or collection law firm.

Worst-case scenario: Borrower defaults; plaintiff gets a judgment for the full amount owed, plus litigation costs and attorney’s fees, and uses the judgment to pursue wage garnishment, bank levies and liens on real estate.  Judgments can be held for decades and remain in force until they expire or are paid.  Judgments which are not paid during the borrower’s lifetime may become claims against the borrower’s estate.

What to do before you default (if possible):

  1. Locate all promissory note(s) – if you lost them, or threw them out, ask the loan servicer for copies. Keep all documents and correspondence organized in files.
  2. Get in the habit of obtaining credit reports from “the big 3” credit reporting agencies, Equifax, Experian and TransUnion. They are available for free once a year.  If you have multiple loans that are being collected separately, it may be worthwhile to subscribe to a credit reporting service which provides regular updates.
  3. Search for consumer attorneys in your state who have experience with student loan litigation. Most do not promote themselves as “student loan” attorneys but as “collection defense” attorneys, who also litigate cases filed by debt buyers, auto finance companies, etc.
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