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Rehabilitation or Consolidation for Defaulted Student Loans?

Consolidation is a quick fix to defaulted federal student loans. Rehabilitation takes a bit longer but has some major advantages.

Written By: Michael P. Lux, Esq.

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Affiliate Disclosure and Integrity Pledge

Temporary Forgiveness Clock Rule: The Department of Education is conducting a one-time update of IDR payment counts. Borrowers who consolidate their federal loans before June 30, 2024, can maximize progress toward PSLF and IDR forgiveness.

Sherpa Tip: If your loan was in default prior to the Covid-19 payment and interest pause, you could be eligible for the Fresh Start program.

In most cases, the Fresh Start program is a better option than rehabilitation and consolidation.

This week I received an email from someone seeking advice on how to deal with her defaulted federal student loans. Specifically, she wanted to know if direct loan consolidation was a better option or if it was better to rehabilitate her loans. The reader’s name and email have not been included in this particular mailbag article due to the sensitivity of the situation.

When federal student loans are in default, the options are not particularly attractive.

Both choices, rehabilitation and consolidation, have downsides. However, both options are far better than letting the loans stay in default. In fact, with late fees, compounding interest, and potentially court fees, being in default is very expensive.

Because all federal loans have borrower protections like income-driven repayment plans and loan forgiveness, staying out of default in the future is manageable.

What is the difference between rehabilitating a loan and consolidating a defaulted loan?

Rehabilitation and consolidation both accomplish the same goal… getting a federal student loan or loans out of default.

In order to rehabilitate loans, borrowers must work with their loan servicers to get on a monthly payment plan. Rehabilitation requires the borrower to make nine payments in a ten-month period to bring the loan out of default. This has to be done for each loan that is in default.

Consolidation requires the borrower to go through federal direct consolidation. Consolidating loans means that the old loans will be paid off in and a new consolidated loan will be created.

Which route is the fastest?

Loan rehabilitation takes nearly a year, and it is necessary for the borrower to work with each lender to bring all of their loans out of default.

Consolidation, by comparison, is a much faster process. Filling out the paperwork can be done very quickly. The Department of Education estimates that the online application only takes 30 minutes to complete.

Once the application is submitted, it typically takes the Department of Education people about 30 days to collect all of the necessary information so that all of the old loans can get paid off.

At that point, the borrower receives notice of the consolidation and the process is finalized. In total it can take a couple of months, but little time and effort is required from the defaulted borrower.

Which approach will help credit scores more?

This is one area where rehabilitation gets a big edge. By rehabilitating loans, the notation on the credit report about the default will be removed.

The late payments will still be on the report, so it doesn’t fix everything, but getting rid of the default is a big plus.

By consolidating the loans, the default will remain on the credit report for up to 7 years. As a result, going with the immediate consolidation route does more damage to credit scores.

Are there fees to worry about?

This is one area that hurts regardless of the route selected.

Consolidation can result in fees up to 18.5% while rehabilitation can result in fees up to 16%.

However, the Department of Education at times will waive the 16% rehabilitation fee, so it is important for borrowers to ask about the potential savings.

When will the collectors go away?

The collectors stop as soon as the loans are consolidated or as soon as the rehabilitation process has been completed.

Once the loans are brought out of default, borrowers should not be contacted again as long as the loans stay current.

Tips for staying out of Default

The best part about getting federal loans out of default is the many great federal repayment plans. Income-based repayment plans, such as PAYE, ensure that even unemployed borrowers are able to keep their loans current.

Materials referenced and further reading:
The Student Loan Borrower Assistance Factsheet
NOLO information on consolidation and rehabilitation

About the Author

Student loan expert Michael Lux is a licensed attorney and the founder of The Student Loan Sherpa. He has helped borrowers navigate life with student debt since 2013.

Insight from Michael has been featured in US News & World Report, Forbes, The Wall Street Journal, and numerous other online and print publications.

Michael is available for speaking engagements and to respond to press inquiries.

5 thoughts on “Rehabilitation or Consolidation for Defaulted Student Loans?”

  1. Its like i did 9 payments and contacted department of education to get me out of defaulted loan,and instead i was assigned to AES/PHEAA and its like i dont want loan servicer ,if i did my rehibition and 9 payments

  2. I was on student loan rehabitation after i finished they assigned me to AES/PHEAA why!!,i want to keep doing my payment with department of education


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