How Do You Legally Settle Student Loan Debt?

Student loan debt settlement can provide much-needed relief if you’re several months behind on payments—often considered in default—and already have damaged credit.

When you settle student loan debt, you negotiate with your lender or loan servicer to repay a lump sum that’s less than what you owe. Read on for all the information you need to settle your federal or private student loans. 

Table of Contents

1. Can you settle student loan debt for less?
2. How to settle student loan debt
3. Pros and cons
4. Alternatives to settling student loan debt
5. FAQ

Can you settle student loan debt for less?

Yes, in some cases, you can settle student loan debt—federal or private. 

Typically, you must be behind on payments and experiencing extreme financial hardship to settle, or “compromise,” federal student loan debt. The Department of Education (DoE) normally offers four settlement options, which we’ll explain below.

Several private lenders may also negotiate a settlement with you; however, each lender has varying policies. 

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Tip

To find out whether your student loans are federal or private, look at the top of your billing statement, promissory note, or other official communication from your lender. You can also check the “My Aid” page on your StudentAid account. Your federal loans, including the Federal Family Education Loan (FFEL) Program, William D. Ford Federal Direct Loan Program, and the Federal Perkins Loan Program, will appear on your account online. 

Can you settle federal student loan debt?

Yes, generally, you can settle federal student loan debt if you’re in default, which means you’re past due on payments by 270 days or more.

The four options the DoE typically offers borrowers seeking to settle student loan debt are:

Federal Direct Loan settlement option	Terms
Principal and interest	Borrower agrees to pay the principal and interest on their loans, no collections fees.
Principal and 50% interest	Borrower agrees to pay the entire principal and 50% interest on their loans, no collections fees.
90% principal and interest	Borrower agrees to pay 90% of principal and interest on their loans, no collections fees.
Discretionary compromise	Borrower needs prior approval from the DoE, and settlement terms vary.

Can you settle private student loan debt?

In some cases, yes, you can settle private student loan debt. As a reminder, whether you can settle private student loan debt depends on your lender. 

If you contact your lender and learn that you can negotiate a settlement, this is often the case if you’re in default—which generally means you’re behind on payments by at least 90 to 120 days. 

You can also “default” on your private student loans if you falsified documents when applying for the loan, failed to meet the lender’s terms, or filed for bankruptcy.

Because private lenders can’t garnish your wages without a court order or seize your tax return, they may be willing to negotiate. However, many may attempt to exhaust other options before agreeing to settle, such as adjusting:

• The loan payment schedule
• Interest on the loan
• Your monthly payment

According to the National Consumer Law Center, a private lender is not obligated to negotiate a settlement or accept your offer, whether in installments or upfront. 

Whether a lender is willing to negotiate depends on its lending policies, an assessment of your financial situation and ability to pay, and your credit history (indicating your payments to other debtors). Keep these in mind if you’re thinking about private student loan settlement.

How to settle student loan debt

If you’ve exhausted other payment relief options and settling your student loan debt seems like the best choice, settling student loan debt will often require you to: 

• Provide proof of financial hardship
• Learn about your lender’s options
• Contact your lender to negotiate

Here’s more about how to settle federal and private student loan debt.

How to settle federal student loans

1. Gather documentation: You’ll likely need to prove financial hardship by showing your loan servicer documents, such as your pay stubs, tax returns, and other bills. This is a good time to determine what you can afford to repay. Aim for at least 50%, if possible.
2. Contact your loan servicer: Contact your loan holder or the Default Resolution Group, overseer of collections on all DoE-held loans and loans that are 360 days past due. You may also contact the Federal Student Aid Ombudsman Office for help reaching a resolution.
3. Explain your situation: Be truthful and cooperative with the representative you speak with, and explain why you’ve been unable to keep up with your payments and can’t fulfill your obligation.
4. Ask for a settlement: Ask about how to settle your federal student loan debt. If you can’t afford a standard compromise or other option, explain why and ask about other potential options available.
5. Document the terms: If you agree on a settlement, ask your loan servicer to send a copy of the terms to you. 
6. Follow through: Once you receive confirmation, be sure to pay your settlement by the agreed-upon date.

How to settle private student loan debt

If you’re settling student loan debt with a private lender or a collections agency the lender sold your debt to, it’s generally best to follow each of the six steps for settling federal student loans listed above. However, there are a couple of additional steps to consider. 

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Tip

If you don’t feel comfortable taking these steps on your own, several trusted debt relief companies will assist you. The trade-off is paying a percentage—often 15% to 25%—of your enrolled debt to the company. Jump down to find out more about this option.

Once you’ve taken the first step to gather supportive documents to prove financial hardship, your following steps are:

Decide how to proceed

You can work with an attorney, or contact the loan servicer or collections agency. Note that hiring a lawyer is expensive and may not result in a better outcome.

Prepare a settlement offer

With private student loans, you’ll also want to plan on paying more than half the balance. According to the American Fair Credit Council, the average consumer pays about 50% of their original debt, including credit card, student loan, tax, and business debts. 

Every private lender is different, so you may need to pay more than 50% to settle your student loan debt. Collections agencies may also charge settlement fees between 15% and 25%. 

Next steps

Once you’ve decided on a proposed settlement, contact your lender, and follow the rest of the steps above.

The process could be long and complicated if you’re considering student loan debt settlement. You can negotiate on your own or hire an attorney to help, but keep in mind that lawyers are expensive, and you may not get a better settlement offer by hiring one.

Before negotiating a settlement, explore all your options in our student loan repayment guide. Income-driven repayment (IDR) plans and other programs may result in a better overall outcome than negotiating settlement, such as continued eligibility for potential student loan forgiveness.

Should you consider debt relief companies for private student loan settlement?

Debt relief companies can be an option for borrowers with private student loan debt who are struggling to negotiate a settlement on their own. Two top-rated companies, National Debt Relief and Accredited Debt Relief, specialize in helping borrowers settle private debts for less than what they owe. Both companies include private student loan debt in their services, making them solid options to explore.

While these services may appeal to borrowers seeking professional help, it’s important to approach debt relief companies with caution. Using a debt relief company often requires you to stop paying your bills, which can further harm your credit score. These companies charge fees, typically a percentage of the settled debt, which can add to the cost of the settlement process.

Debt relief companies may not be the best choice for most borrowers, especially those who can negotiate directly with their lender or explore other repayment options. However, they could be a viable solution if you’ve exhausted other avenues and need professional guidance to reach a settlement agreement.

What if you have both kinds of student loans?

If you have federal and private student loans, it’s typically best to attempt to settle each debt separately.

For starters, you can’t consolidate private student loans into the federal Direct Consolidation Loan. You can, however, consolidate federal student loans into a private student loan, but not without caution. Doing so would mean forfeiting potential benefits that go along with federal student loans, such as loan forgiveness.

If you have federal and private student loans in default and no better alternatives for repaying your debts, follow the steps above, and contact your loan servicer or lender to explore your options.

Pros and cons of settling student loan debt

Consider the benefits and drawbacks before you attempt to settle your debt.

Pros

• Alleviate some of your debt burden

  Negotiating a settlement could reduce or even eliminate your student loan debt.

• Improve your financial situation

  Your financial situation could improve without the burden of student loans. You’ll have more room for living expenses and discretionary spending.

Cons

• Potential tax implications

  Your settled debt could be taxable income on next year’s federal return.

• You’ll need a large amount of money

  Because you’ll often need to pay a lump sum, plan to save up a sizable amount, depending on what you owe and the settlement amount.

• Fees for professional help

  If you work with a debt relief company, expect to pay fees that can range between 15% and 25% of the settled amount. This adds to the cost of settling your student loans.

• Credit score impact

  Debt settlement damages your credit score, especially if you stop making payments during the negotiation process, as many debt relief companies require.

Alternatives to settling student loan debt

Settling your student loans can damage your credit, so it’s wise to consider only after you’ve exhausted other payment relief options. Alternatives to consider include: 

Deferment

With loan deferment, you negotiate with your lender to stop making payments for a while. This may be an option with federal student loans and certain private student loans. 

Note that interest may still accrue on your federal student loans during deferment periods, and whether it does with your private loans depends on your lender.

Forbearance

If you opt for loan forbearance, you can stop or reduce payments for up to a year. Like deferment, forbearance may be an option with federal or, on occasion, private student loans. 

But whether it’s an option with a private loan will depend on your lender. Interest will continue to accrue on federal loans during loan forbearance.

Change your repayment plan

Modifying your repayment plan may be possible with federal and private student loans. Federal loans have four income-driven repayment options:

• Income-Based Repayment
• Pay As You Earn
• SAVE (formerly REPAYE)
• Income-Contingent Repayment 

Repayment options with private lenders can vary, so speak with your lender if you’re considering this route.

Refinance

Refinancing your student loans may be an option if you juggle multiple payments and seek a lower interest rate. 

You can refinance federal and private student loans with a private lender. Just weigh the benefits you’ll sacrifice—such as federal loan forgiveness—if you refinance federal loans with a private lender. 

Many banks and credit unions offer student loan refinancing, but rates and terms vary, so it’s wise to compare options.

It’s important to understand that, apart from compromise/settlement, the DoE provides opportunities for eligible borrowers to cancel, discharge, or be forgiven for their loans. The DoE may cancel or discharge your federal student loans if you:

• Have a total and permanent disability (includes Parent PLUS loan borrowers)
• Were enrolled while or withdrew recently before your school closed (includes parents) 
• Assumed a loan from a school that violated the law or misled you (includes parent borrowers)
• Declare bankruptcy (includes parents)
• Are a parent borrower who didn’t receive the required refund after your child’s withdrawal

In several cases, such as when a borrower has fulfilled their multiyear commitment to working as a teacher, medical professional, or government/nonprofit employee, they may be eligible for student loan forgiveness.

FAQ

Does settling student loans hurt your credit?

Yes, settling student loans can hurt your credit. When you settle a debt, you’re paying less than the full amount owed, which lenders view negatively. It may lower your credit score; settled accounts are reported to credit bureaus as “settled for less than the full amount.” The impact can vary depending on your overall credit profile and the amount of debt settled.

Is student loan debt canceled after 20 years?

Debt cancellation can occur after 20 years for federal student loans under specific repayment plans, such as IDR plans. Any remaining balance may be forgiven if you’ve made consistent qualifying payments for 20 years (or 25 years, depending on the type of loan and repayment plan). This applies only to federal loans, not private loans.

Is it better to settle your student loan debt or pay in full?

Paying your student loan debt in full is better for your credit and financial standing. Settling the debt for less than what you owe can damage your credit score and may leave a negative mark on your credit report for several years. However, if you’re facing financial difficulties and can’t afford to pay in full, settling may be an option to avoid default or more severe consequences.

How much does debt settlement cost?

Debt settlement costs can vary. Most companies that negotiate settlements charge a fee, which is often a percentage of the amount of debt being settled between 15% and 25%. You may also incur late fees, penalties, and interest charges during the negotiation process, adding to the overall cost.

Is debt settlement worth it?

Debt settlement may be worth it if you’re struggling with overwhelming debt and can’t pay the full amount, but it comes with risks. It can damage your credit score, result in tax liabilities (if the forgiven debt is considered taxable income), and may lead to legal action by lenders. In some cases, other options, such as debt consolidation or income-driven repayment plans, might be better solutions.

What happens if you don’t pay or settle your student loan debt?

If you don’t pay or settle your student loan debt, it can lead to several negative consequences. For federal loans, you could face wage garnishment, tax refund seizures, and Social Security benefit offsets. Your credit score will drop, and the debt will go into default, leading to more aggressive collection actions. For private loans, lenders may sue you, and you could be subject to collections and court judgments.

Can I still use my credit card after debt settlement on my student loans?

Yes, you can still use your credit card after settling student loan debt. However, keep in mind that settling debt damages your credit score, and this could limit your ability to get new credit or result in higher interest rates on any new or existing credit card accounts.