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A 6-step plan to defeat student-loan debt collectors

President Obama's announcement last week that he is taking action to ensure strong consumer protections for student loan borrowers through his recent Student Aid Bill of Rights is a small step in the right direction.

Creditor customer service today is so bad, it's become a violation of our basic liberties. And it's especially atrocious when it comes to young graduates saddled with debt that have to navigate all the confusing paperwork and misrepresentations of the collection agencies, which blatantly violate consumer protection laws.

President Barack Obama prepares to sign the presidential memorandum on the Student Aid Bill of Rights in the Oval Office of the White House on March 10, 2015.
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President Barack Obama prepares to sign the presidential memorandum on the Student Aid Bill of Rights in the Oval Office of the White House on March 10, 2015.

To date, more than 70 percent of U.S. college graduates have student loans, which has now bypassed credit cards as the second-largest source of debt in the United States following mortgages. And the default rate continues to rise.

The National Student Loan Data System reported that in the first quarter of 2015, over 12 percent of the $350 billion dollars of direct subsidized loans in repayment were in default, as were 25 percent of the $236.2 billion of Family Federal Education Loans (FFEL).

Eighty percent of today's student loan debt is comprised of federal versus private loans—an exorbitant number based on the fact that it's nearly impossible to discharge a federal student loan in bankruptcy.

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Unless something intrinsic is done immediately to correct intrinsic problems in the system, there is no doubt the number of borrowers in default will continue to grow.

"The debt collectors ... are the most to blame for the student loan debacle—and are the biggest reason so many young people seek my help. ... In fact, the customer service is challenging even for a credit expert."

Fortunately, under this new bill, the DOE and other loan agencies are being asked to create a new system by 2016 that will provide borrowers with "quality customer service, reliable information, and fair treatment, even if they struggle to pay their loans."

To do this, they must find better ways to help with loan repayment, such as a centralized website to make it easier to file complaints and to see all your student loans in one place; a better process for borrowers who become disabled to get their loans discharged; and my personal favorite: to allow only federal employees to collect on defaulted loans rather than private debt collectors.

The debt collectors, I believe, are the most to blame for the student loan debacle—and are the biggest reason so many young people seek my help in getting their student loan out of collections. In fact, the customer service is challenging even for a credit expert.

I get calls from clients every day telling me they went to Wharton or MIT and are frustrated that they have to hire a credit management expert to resolve issues with a collection agency about their student loan because they can't get anywhere with them after hours on the phone.

Holding debt collectors accountable

Until recently, 22 different collection agencies were in charge of collecting on defaulted student loans. But after months of investigation by the DOE, it was found that the agencies were in violation of federal and state credit-collection laws—for providing inaccurate information on the lowest minimum payment acceptable for a federal loan rehabilitation program, as well as for violating the Fair Debt Collection Practices Act.

President Obama is now mandating that lenders offer borrowers reasonable repayment options and quality customer service.

It's a start, but we still have a long way to go before we see any real progress. In the meantime, if your federal student loan is currently in default, here's what you can do to get it out of collections—now.

Getting into rehab

Loan rehabilitation programs were designed to give borrowers a chance to get loans that are owned by the Department of Education out of default status. This includes Direct Loans or FFEL Program loans.

Loan rehabilitation requires a newly agreed-upon small monthly payment, based on your income—some are as little as $5 a month. Once you have made the payments on time for a nine-month period and your loan is sold to a new lender, your loan will be deemed fully rehabilitated.

Note, though, that a fee for collection costs will be tacked on to your loan, but it can't exceed 16 percent of the principal balance and accrued interest at the time of the sale to the new lender.

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The benefits of rehabilitation include not only bringing your loan out of default and repairing the damage on your credit report, but after five months on the program, you can stop any garnishments being taken out of your paycheck or tax refund. After the program is complete, your student loan will also be eligible for forbearance and deferment.

Last but not least, the program will restore your eligibility for federal grants or for additional federal student loans if you wish to go to grad school.

My 6-step program

  1. Contact your loan holder. Loans are often sold, so several agencies may be involved in the collection of your debt. To make sure you have all of your balances, contact your loan holder as well as the National Student Loan Data System, which is the central database for all federal student loans. Make a list of all federal debts, lenders/furnishers, and all account numbers.

  2. Check your credit report. Collection agencies tend to report student loans multiple times and often report a separate trade line for each semester, with different account numbers. Make sure there are no federal student-loan debt duplications listed on your report.

  3. Apply for the program. Now that you have confirmed all your accounts, contact the collection agency handling your loan once again. Explain that you wish to apply for loan rehabilitation and want to be provided with a more affordable payment.

  4. Make your payments—on time. After you successfully complete nine payments, there is a fee added to your loan and the loan is then sent out of collection to a new loan servicer and the default status is removed.

  5. Ask for a letter. After the nine months of timely agreed-upon payments, the rehabilitation is complete. I recommend you ask the collection agency for a letter confirming that all derogatory notations have been deleted from your student loan record. Getting this letter can be a little tricky, because it needs to come from any and all collection agencies that have been furnishing the negative information to the three credit bureaus—Experian, TransUnion and Equifax—and must include the name of the loan holder that originally sent your account to collections.

  6. Contact the three credit bureaus. After receiving the confirmation letter, contact all three credit bureaus and forward a copy to each of them. You should receive confirmation from each bureau in the mail.

If your student loan default occurred within the last two years and it is your only credit problem, getting this off your credit report will make your score skyrocket.

—By Diana Nichols, president of Gold Key Consulting. Gold Key Consulting is a credit management firm in Fairfield, Connecticut.