How to negotiate student loan debt settlement

If you’re drowning in student loan debt and struggling to keep up with payments, student loan debt settlement may offer some relief. Lenders that agree to this type of settlement allow you to make a lump-sum payment to close out your student loans for less than the amount you owe, but you’ll need to do the work to qualify.

Understanding how student loan debt settlement works, when it’s an option and how to approach negotiations can make all the difference in finding relief from your student debt.

2 Ways student loan debt settlement works

To reach a settlement, your loans must be eligible, and you’ll need to negotiate the terms and payment amount with the lender or collection agency. You’ll likely need to pay the settlement balance in one lump sum payment, after which the lender will cancel your remaining debt and close your account.

For example, if you have $30,000 in student loans, you might offer to pay $25,000 now if the lender will forgive the remaining $5,000 and close your account. In this case, you end up paying off your student loans for $5,000 less and put an end to pestering calls from collection agencies. 

Not all student loan lenders are willing to entertain settlement offers, and the amount of debt that can be forgiven varies according to the lender. This is especially true when it comes to settling private vs. federal student loans.

1. Federal student loans

The government has strong collection tools — such as wage garnishment and tax refund offsets — so federal loan servicers are less likely to negotiate. Federal law also dictates what loans qualify for settlement and how much the borrower must pay. Federal loan settlements called compromises may require repayment of the principal plus some or all accrued interest. You may want to try to settle federal loans if they are affecting your income and tax refunds.

2. Private student loans

Private student loan lenders might be more flexible, especially if they think they won’t recover the full amount through collections. Lenders and collections agencies have more flexibility according to when and how much to settle for. They may need some incentivizing, especially if they’ll make more money taking you to court. A lump sum payment may do the trick, but you’ll need to have that much money on hand. 

Private lenders may agree to settle 50 percent to 90 percent of the outstanding balance. You may want to try to settle your private student loans if you’re facing debt collectors or lawsuits and have exhausted alternative options, like other repayment plans or student loan refinancing.

How to be eligible for student loan settlement

You might qualify for student loan debt settlement if:

• You can’t afford the loan: You must prove you don’t make enough money to repay your loan. This typically requires submitting pay stubs or recent tax returns as proof of income. You may also need proof of other expenses (like recurring bills, bank statements and a lease agreement) to explain where your income is going.
• You haven’t paid your loans for several months: Most federal student loan servicers consider your loans in default after you’ve failed to make payments for 270 consecutive days, while private student loans are often considered in default after 90 to 120 days. Note that missing payments will severely impact your credit score.
• You’ve re-defaulted: If you’ve defaulted on the same loan more than once, settlement may be a last resort for getting out of debt.

4 Steps to negotiating student loan settlements

If you have explored other options and found that a settlement is your best bet, you can take the following steps to negotiate a student loan settlement.

1. Gather required documentation

Lenders are more likely to negotiate if you’re experiencing financial hardship. Gather proof of your situation to show why you can’t repay the full amount. 

This documentation might include:

2. Know your options

A settlement may waive late fees, collection costs, a portion of the interest and even part of the principal balance. Your options may depend on several factors, including how much you owe, outstanding fees, how far behind you are on payments and if you have federal or private loans.

For federal student loans: You may qualify for a “discretionary compromise.” This amount can be lower than the standard compromise amounts, but the Department of Education must approve it.

For private student loans: There are a few standard compromise options for getting out of student loan default. These include: 

• 90 percent of the current balance of principal and interest
• The principal and half of the unpaid interest that has accrued since the loan went into default
• The remaining principal and interest without any collection charges or outstanding student loan fees

3. Negotiate the terms of the settlement

Allowing the lender to make the first offer gives you the advantage since you know the starting point for negotiations. To get your lender to make the first offer, explain your situation, then ask open-ended questions like “What are my options at this point?” or “How can we settle this debt?” Then, you can accept the offer or make a counteroffer.

4. Request a paid-in-full statement

Never make a payment until you have a written agreement that clearly outlines the terms of the settlement. This should include the amount you’re paying, the deadline for payment and confirmation that the lender will consider the debt settled once payment is received.

Have a lawyer review the terms with you, and save your paid-in-full statement in case lenders or debt collectors try to request money from you later. You might also need your statement to request an update on your credit report or when filing your tax return.

Settling student loan debt: Pros and cons

Pros

• Save money: You could save money by not having to pay the full amount due.
• Get out of default: Once you settle, your remaining balance is cleared and your account closed.
• Avoid court: By settling, you may be able to avoid being taken to court, paying legal fees and seeing worse consequences.

Cons

• Lower your credit score: Missed payments and defaulting on your loan can dramatically lower your credit score.
• Reduce amount of available cash: You’ll need to pay a large lump sum of cash to settle, leaving you with less cash on hand to pay for emergencies or other expenses.
• Increase tax liability: The debt that the lender or collection agency cancels could be considered taxable income.

4 Alternatives to student loan settlement

Before settling your student loans, try getting back on track with your payments through alternative options that may be available to you.

1. Deferment or forbearance

If you’re facing short-term financial hardship, deferment or forbearance can temporarily pause your loan payments. Deferment is often available for federal loans if you’re in school, unemployed or experiencing economic hardship. Forbearance is another option, though interest continues to accrue, increasing your total balance.

2. Income-driven repayment plans

Available with federal student loans, income-driven repayment (IDR) plans base your payments on 10 to 20 percent of your discretionary income and your remaining balance could be forgiven after 20 or 25 years of payments.

3. Refinancing

If you have good credit and stable income, refinancing your student loans with a private lender could lower your interest rate and reduce your monthly payments. However, be careful — if you refinance federal loans with a private lender, you’ll lose access to government protections like IDR plans and loan forgiveness.

4. Federal student loan consolidation

To help lower your monthly payment and make your loans more manageable, you may be able to consolidate your federal student loans into one Direct Consolidation Loan. Keep in mind that, while this can lower your monthly payment, you will have a longer repayment term and pay more in interest over the life of the loan. To consolidate your federal student loans, they must be in repayment or in a grace period.

Student loan resources help

StudentAid.gov provides federal student loan information, including repayment options, forbearance, deferment and deliquency. For help with your private student loans, reach out to your lender or servicer. 

Borrowers who are struggling to repay their student loans have several resources available. A few options include:

• The Consumer Financial Protection Bureau (CFPB) is a government agency that protects borrowers from predatory lending and scams.
• The National Consumer Law Center works with lawyers and advocates to provide student loan assistance to borrowers with low incomes to help them understand their rights and loan responsibilities.
• The Student Borrower Protection Center is a nonprofit focused on protecting student loan borrowers. You can find several helpful resources on the center’s website, including a list of state-based student loan ombudspersons and advocates to help with loan-related issues.

Bottom line

Settling your student loan debt can provide financial relief, but it’s not always the best option. Even if a settlement is possible, it can negatively impact your credit and may result in tax liabilities on the forgiven amount. Before pursuing this path, it’s important to explore alternatives like income-driven repayment, loan forgiveness or refinancing, which could offer long-term relief without the downsides of settlement.

If you’re considering a settlement, contact your lender to discuss possible options — and be prepared to negotiate. If you reach an agreement, always get it in writing before making any payments. Taking the time to explore all your options and carefully considering the financial impact of settlement will help you make the best decision for your financial future.

Frequently asked questions

• How much does student loan settlement cost?

  The cost of settling a student loan varies based on the lender, loan type and financial situation. If you work with a debt settlement company or attorney, fees can range from 15 percent to 25 percent of the settled amount.

• What happens if you never pay your student loans?

  If you don’t repay your student loans, you may incur late fees, penalties and long-term credit score damage. This can disqualify you from future loans, housing rentals and even jobs. If you miss enough payments, your lender can file a lawsuit against you, seize your tax refunds and garnish your wages to repay the debt.