Half of rehabilitated US student loan borrowers to default again
Half of defaulted student loan borrowers who rehabilitate their loans will default again, according to a new report by the Consumer Financial Protection Bureau (CFPB), with three-quarters of those who default doing so again within two years of rehabilitating their loan. This is concerning as it shows that both debt collectors and student loan services are not doing enough to ensure that borrowers who are struggling have enough information to avoid a credit-ruining event for a second time. What is also particularly problematic is that typically borrowers only get one shot at rehabilitation. If they default again, there is no second chance for them to become current via rehabilitation.

A large share of the nation’s most vulnerable student loan borrowers may be trapped in a cycle of repeatedly defaulting on their debts.

Over the next two years, more than 220,000 low-income borrowers who have already defaulted on their student loans will default again, according to projections released by the Consumer Financial Protection Bureau Monday, unless policy makers take immediate action. This group represents about one-third of the 650,000 federal student loan borrowers who made the minimum payments necessary to cure their defaults in the last year.

All federal student loan borrowers have the ability to become current on their loans through a program called rehabilitation, which allows them to cure their default by making nine on-time monthly payments in 10 months. The amount of the monthly payments is determined in part by a borrower’s income. The CFPB report focuses on a cohort of borrowers who made the minimum monthly payment of $5 during rehabilitation, meaning that their income is likely low -- so low in fact that typically once they get out of default, they could stay current on their loans by paying just $0 a month.

The danger that these borrowers may default again is particularly concerning, the CFPB noted, because it indicates that both debt collectors and student loan servicers aren’t doing enough to ensure that borrowers who are struggling have enough information to avoid a credit-ruining event a second time. Once a borrower rehabilitates her debt out of default her loan is then transferred to a loan servicer where she has access to plans that allow borrowers to make payments tied to their income. The CFPB found that communication breakdowns during this process put borrowers at risk of winding up in expensive repayment programs and defaulting again, even when they have access to affordable repayment plans.

“It confirms some of our worst fears about collection,” Persis Yu, the director of the Student Loan Borrower Assistance Project at the National Consumer Law Center, said of the report. “It seems like we’re setting borrowers up to fail.”

That’s particularly problematic because borrowers typically only get one shot at rehabilitation, Yu said. If they default again there’s no second chance for them to become current through rehabilitation.

The CFPB report also raises questions about whether debt collectors are pushing borrowers to rehabilitate their loans because of economic incentives, instead of helping borrowers get out of default a different way. Debt collectors are often paid for rehabilitation, even if, in the long-term, the borrower isn’t able to avoid default, according to the report. What’s more, it appears debt collectors rarely advertise consolidation, another option for borrowers that allows them to get out of default and straight into repayment faster because they aren’t required to make the nine monthly payments first. In this scenario, a borrower’s transition to a repayment plan that keeps her payments manageable may be smoother because there are fewer opportunities for confusion or miscommunication, Yu said.

“I don’t want to say that rehabilitation is a bad idea, but it’s definitely not the right program for everybody,” she said.

The Department of Education, which hires the debt collectors and servicers who manage the repayment process, is in the midst of revamping the student loan servicing system to encourage these companies to provide high-quality customer service to borrowers, said Kelly Leon, a Department spokeswoman, in an emailed statement. Leon also described the CFPB, which has previously issued reports highlighting student loan borrowers’ struggles, as “invaluable partners in our efforts to strengthen the student borrower experience.”

“While the majority of federal student loan borrowers continue to successfully repay their student loans, there are still too many who are struggling,” she said.