Student Loans: Repayment During Financial Hardship
By Reyna Gobel
When you think about the length of time it will take you to pay off your loans, panic might set in when you realize you might not always be able to afford your payments. Thankfully, the federal government built payment reprieves into your student loan contract to address financial hardship for borrowers.
In this section of the student loan tutorial you'll learn how you can avoid penalties for nonpayment and late payment during difficult situations. Options discussed will include the safety net the government has provided you and instructions on how to create your own safety net.
Federal Loan Forbearance and Deferment: Your Built-In Safety Net
The team within the federal government who designed the student loan system would like you to never default on your student loans due to a temporary financial setback. Thus, two options are offered within your federal student loan contracts for a temporary reprieve from making payments on your educational loans: deferment and forbearance. Both options were designed to give you a few months or even years to rehabilitate your finances in case of financial setback due to unemployment, pay cuts, returning to school or medical emergencies. While you get your fiscal life back in order, your credit remains unscathed by the missed payments - as long you request and get approved for either a deferment or forbearance on your student loans.
But when you do you apply for a forbearance versus a deferment, and is one better than the other? If you qualify, deferment is always better because your interest is paid on your subsidized federal loans by the federal government until the deferment is over. (For more on this, read Loan Deferment Saves Students From Disaster.)
Qualifying for Deferment
Payment deferment is reserved for special circumstances such as economic hardship, inability to find a full-time job for three years, going back to school, or active military duty. The wartime active duty deferment is only allowed for loans disbursed after July 1, 2001. The deferment for those unable to find a full-time job applies for those who join the Peace Corps as well. All of these deferments are good for up to three years. Parents PLUS loans are also eligible for deferment. (Learn more about the financial benefits of joining the Peace Corps in Are The Volunteer Corps Right For You?)
However, deferment has one catch that forbearance doesn't. Since your situation is generally reviewed before approval, you have to make payments until you are notified that deferment has been granted. If not, you will be charged late fees. And if you miss enough payments, you could default on your loan.
To apply, download the correct form from your lender's website or call and request that the appropriate form be sent to you. Since there are dozens of types of deferments, call your lender and ask which form you should fill out. If you're not careful, you could choose the wrong form and get denied, when you should have been approved.
Qualifying For A Forbearance
You can get up to three years of forbearance by calling your lender and explaining your financial situation. You don't necessarily have to show any proof of financial hardship – although this is determined at the lender's discretion.
Savings: Your Self-Created Safety Net
Financial experts recommend having an emergency savings fund to cover six to eight months of expenses in case of financial hardship. If you don't have that much set aside, now's the time to start setting aside a small amount of money each month, whether it's $5 or $100. Saving $5 each month quickly grows to $60 in one year – enough to pay a phone bill when you're low on funds. Saving $25 per month quickly grows to $300 – enough for your car payment. Having this money available will help you get back on track from a job loss or other financial difficulty faster, so you can start making payments again on your student loans or avoid missed payments altogether. (For more tips on building up your savings, read Build Yourself An Emergency Fund and 4 Ways To Weather An Economic Storm.)
Default: Working Without A Net
Go into default on any of your student loans is the easiest way to cut off most of your repayment options and hurt your credit rating. Defaulting on your student loan means you have failed to make payments, and the creditor has decided to refer your account to a collection agency. All of your options for deferment or forbearance are taken away, and you also will not be able to get new financial aid. Similar to defaulting on a credit card, a default on any of your student loans will seriously damage your credit rating.
The good news is that although your missed payments will stay on your credit report for seven years, you do have options for loan rehabilitation.
Keep One Financial Hardship From Becoming a Long-Lasting Problem
Financial hardships happen, but one hardship situation won't turn into a disaster if you know what your options are to get through difficult times ahead of time and use your safety nets - both contractual and your savings account - to facilitate a soft landing and a speedy recovery.
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