debt

Kids' 529 plans risked by my student loan

Steve BucciDear Debt Adviser,
I am behind, and verging on default, on my student loans. I have made arrangements with the federal loan servicer, but there's simply no way I can pay my private loans, and they say that they cannot accept the small amount I can pay regularly. I have two small children. Each has a Maryland 529 college account for which I am the owner/custodian. If my loan goes into default and the servicer gets a judgment against me, can they levy and/or access my children's accounts? Should I transfer ownership of the accounts into my ex-wife's name?
-- Jim

Dear Jim,
Before I answer your questions, my advice is for you to begin to live in the present. Once the realities of today are taken care of, then you can address a hypothetical future. Saving for the future is a great idea. And saving for your kids is fabulous. But to do so while your present finances fall apart can prove to be a costly folly. And I mean costly in terms of more than money.

The bad credit that flows from not paying your debts can affect jobs, promotions, insurance, buying a home or renting an apartment, and more. The costs of collections can be high, and wage garnishments can be emotionally crippling.

To keep your loans out of default you need to either increase your take-home pay or reduce your expenses. If you are currently making new deposits to the 529 accounts, you should stop and make them up later. (Should the contributions be court-ordered by your divorce decree, this may not be an option.)

Consider working overtime or a second job. Closely review your withholding at work to see if you can add to your take-home pay. For example, if you get a tax refund of more than $600, increase your withholding allowances so that you'll have a smaller refund and more money each month to give to your lender.

Once you have maxed out your income potential, take a knife to your expenses. To develop a bare-bones budget, try speaking with an accredited nonprofit credit counseling agency. They can be found through the National Foundation for Credit Counseling or the Association of Independent Consumer Credit Counseling Agencies. And they are free!

If you end up in default despite your best efforts, Maryland is one of 27 states that have laws protecting assets in accounts such as a 529 from creditors. If your loans qualify for bankruptcy (which is rare), the federal Bankruptcy Abuse Prevention and Consumer Protection Act applies for determining what, if any, assets in a 529 account can be considered in a bankruptcy proceeding. So, it should not be necessary to transfer your children's 529 accounts to your ex-wife. As always, however, when dealing with the law be sure to verify any information with a competent attorney.

Although your 529 accounts may be safe, you are not. Unlike federal loans, private loans are subject to state statutes of limitation for collecting a debt in court. However, your lender will be fully aware of the statute that applies and will almost certainly take you to court long before the clock runs out.

Once a creditor is granted a judgment for money owed, most states allow the judgment to be renewed indefinitely, which means the debt may never go away. So, if you do default on the loan(s), be prepared for a day in court and the consequences of how the lender may use a court judgment to collect.

If you have no way to increase your income or decrease your expenses to pay your private loans, at least keep in communication with the lender and continue to try to work out a repayment plan. Once the loan is in default, it will likely be turned over to collections, and you will have to start anew with a different set of people to attempt to work out repayment.

Good luck!

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