Stopping a Tax Offset for a Defaulted Federal Student Loan

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The news has reported widely on the recent increases in the numbers of people defaulting on student loans. Caused by the “Great Recession” of 2008, a job market that has yet to fully recover, protests of colleges that offered something different than what they promised, or a number of other reasons, defaulted loans have become a near epidemic in America.

When one defaults, the lender has a number of available remedies to secure repayment. Without these unusual remedies, many lenders would be unwilling to enter the student loan market, given the relatively high risk of these loans and the fact that they are unsecured by borrower collateral.

One of the more common tools for collecting on defaulted loans is a tax offset. If one's federal student loans go into default, the Department of Education can refer your account to the Department of Treasury for collection by an offset of your federal (and in some cases state) tax returns. The Department of Treasury can withhold the entire amount of your refund to satisfy the debt that is owed, or just a portion, depending on the circumstances. For those who file joint returns, the IRS can (and will) hold a spouse's refund, as well.

How To Know That Your Taxes Will Be Offset

If concerned that one's taxes may be withheld by the IRS to pay a portion of one's student loans, the easiest way to find out is to contact the IRS directly. The IRS provides a toll free number borrowers can call to see if an offset may be pending against their social security number. It is (800) 304-3107.

However, borrowers who have received no notifications from the IRS may generally breathe a sigh of relief (at least for now). Federal law requires the IRS provide you with a proposed offset and the opportunity to review your loan records. This notice must be sent via mail to the best address that the IRS has on file for the lender. While failing to receive such a letter does not create a legal challenge to the IRS's right to make the tax offset, it may indicate that the offset has not yet been filed against the borrower.

How To Prevent The Tax Offset

Avoiding a tax offset is usually the best way to fight them. To do that, a borrower must get his or her loan out of default (often easier said than done). There are a few options, however, that do not involve making a large payment to bring the account current.

One such option would be consolidation of the loan into a Direct Loan program. Eligible borrowers may bundle all or many of their loans, typically with a new federal lender, into a single loan package. Once the consolidation is completed, the new loan will be out of default and in good standing. It may even qualify for new periods of deferment or forbearance, even if the underlying loans no longer would have.

Consolidation also allows the borrower the opportunity to pick a repayment option that will be more affordable, like Pay As You Earn (PAYE) of Income Based Repayment Plans (IBR), either of which could actually offer payments as low as $0.00 per month depending on the borrower's income and family size.

Of course, another option would be to simply rehabilitate the loans with the current lender. Some lenders will be willing to work with borrowers to get a loan back on track by offering lower payments for a limited period. The rehabilitation period often lasts for about nine months, and any late payments can cause the period to start over again. Once the rehabilitation is complete, the loan will be taken out of default status, removing the possibility of a tax offset.

How To Challenge The Tax Offset

Tax offsets are legal and enforceable. If a borrower tries to argue that the government should not be able to act as debt collector for a lender, that argument will fail. Thus, in order to challenge an offset, one must provide a very compelling legal argument. For example:

• The debt is no longer owed because it has been paid off (a common problem after the failure of several large banks during the “Great Recession”)
• The loan is in rehabilitation
• The borrower is in bankruptcy
• The debt was discharged in bankruptcy or due to a disability
• The borrower is totally and permanently disabled
• The debt is unenforceable

How to Start

It is important to understand how difficult it is to fight a tax offset. While it is possible, and some have been highly successful, the cards are stacked against borrowers. Thus, it is critical to have an attorney to help one navigate the tricky procedural and legal waters involved with challenging a tax offset. One can find an attorney by visiting and using the attorney search feature to find a legal professional in the borrower's area that has experience with this type of dispute.

While there may be some cost associated with hiring a lawyer, the expense for not doing so and losing a refund, or worse, having to pay money that would not otherwise be owed could be far worse.


Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer.

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