If you sign up for Public Service Loan Forgiveness (PSLF), it takes 10 years of loan payments to earn tax-free loan forgiveness. For some public service workers that period is long enough that some people will change jobs, and/or employer categories. What does that mean? To be eligible for PSLF, you must satisfy the 3 Q test. The three Q’s are: 1. You must make 120 qualified payments; 2. While in a qualified plan; and 3 While working for a qualified employer. If you change from a qualified employer (federal, state or local government, 501(c)(3) or state chartered not for profit, the payments made while working for this type of employer. If you switch to any other kind of employer, you will fail one prong of the 3 Q test. Failing one prong means your loans no longer qualify for public service loan forgiveness.
There are three basic options if you no longer qualify for tax-free loan forgiveness.
1. You can stay on your income-driven payment plan and extend for a longer period. The extension will be 20 (or maybe 25) years. At the end of that period, you will earn loan forgiveness, but the forgiveness earned is taxable.
2. You can choose a different repayment period outside of an income-driven repayment plan. You will not earn any loan forgiveness, and will probably be put in a 30 years repayment plan.
3. You can refinance to private student loans or use another loan product (for instance you can take out a second mortgage) to pay off your loans. This is the riskiest option. Private loans are different from federal student loans. Federal student loans are guaranteed only by your income. If you default the government’s option (absent bad faith) is to garnish your wages and intercept any government payments. Private loans are based upon your creditworthiness. That means you are pledging all of your other assets except your retirement accounts for repayment. You can be sued, and if you lose, all of your assets are attachable. And you will probably have a co-signer who will be treated more like a co-borrower. That means whatever happens to you happens to them as well. Also while the other loan product is probably eligible for bankruptcy, these loans will also be subject to a “clawback” in the bankruptcy court, which means that the creditor who paid off the student loan will be made whole, and the borrower will most likely have their student loans restored.
If you are in this situation and need advice, Student Loan 411 LLC can assist.