Student Loan Disability

I have a federal student loan and became disabled. Will the Dept. of Education settle my loan for less than the balance due?

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Bill's Answer: Answered by Mark Cappel

If you are disabled and have a federal student loan, the Dept. of Education may cancel the balance of your loan.

A federal student loan can be canceled (sometimes called “discharged”) if the borrower dies or becomes totally and permanently disabled.

Quick Tip: Need a student loan? See the resource Student Loans resource page. Problem with a student loan? Learn more about Student Loan Consolidation.

According to the Dept of Education, to begin the application process, the borrower must complete Section 1 of the Discharge Application: Total and Permanent Disability (PDF) and sign and date the application in Section 3. The borrower will then need to have his or her physician complete Section 4 of the application. The borrower should make sure that the physician completes this section of the application thoroughly.

To learn more about how to work through the TPD process, see the Dept. of Education's Total and Permanent Disability: For Borrowers Web page.

Federal Student Loan Settlement

Let us assume for a moment that you do not qualify for a TPD discharge. In my observation, the Dept. of Education rarely settles federal student loans for less than the amount owed. They do this because the loans were issued at an already low interest rate and student loans are not dischargeable in bankruptcy. The government may also garnish wages and taxes without going through the court system. It may be possible to payback less than what was owed if a disability or extreme financial hardship occurred.

The Dept. of Education can compromise FFEL or Perkins Loans of any amount, and suspend or terminate collection of these loans. It can be difficult, however to negotiate a “good” deal. The Dept. of Education has not given much guidance on what it is likely to accept. The Department has Standardized Compromise and Write-Off Procedures for use by guaranty agencies. These are for negotiated agreements between borrowers and guaranty agencies to accept less than full payment as full liquidation of the entire debt.

For more information on student loans visit the student loans page and the Dept. of Education's Addressing Your Defaulted Student Loan and Loan Rehabilitation pages.

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Comments (2)

Darren W.
Aberdeen, MD  |  October 03, 2012
Bear in mind that when student loans are discharged due to disability, the discharged amount is considered to be taxable income. You'll get a 1099 for the discharged debt and have to report it & pay taxes on it (state and federal) when you file your taxes.
October 03, 2012
Receiving a 1099 for a discharged debt does not necessarily mean you will have to declare the forgiven amount as income and pay taxes on it. If you meet the IRS' test for hardship, as specified in IRS Form 982, you can legally avoid taxes. Be sure to check with a tax professional, to see if you qualify for using the Form 982.

Even if you have a tax debt, it is almost always the case you can set up a long-term payment plan, at lower interest, on a tax debt than you would pay on your student loans.
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