Can You Really Pay $0 on Your Federal Student Loans Until They’re Forgiven?

 August 21, 2019
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If there is sometimes an advantage to slow-playing your student loan debt, you might wonder if you could avoid the repayment game altogether.

With federal loans at least, it’s possible — though perhaps improbable — to hold the ball until the clock runs out. But whether it’s wise to play keep-away from the Department of Education is another story.

3 steps to pay $0 on your federal loans until forgiveness arrives

Private lenders generally don’t offer an array of payment postponements, and they won’t provide programs like federal loan forgiveness. Even if did you borrow from an exceptionally generous bank, it’s likely to demand you make full, principal-and-interest payments by a certain point.

Even with federal loans, most forgiveness programs, including Public Service Loan Forgiveness (PSLF), require you to make payments while you pursue loan cancellation.

However, there is one government safeguard that could see you through to the end of repayment without having to open your wallet. A careful reading of the rules set down by the Federal Student Aid Office shows that it’s possible to pay nothing, whether through periods of economic hardship forbearance or with $0 “payments” under an income-driven repayment (IDR) plan — and at the end of it, still receive complete loan forgiveness, possibly within 20 to 25 years.

Below are three steps — and in fact, the second step is optional — to accomplish exactly that.

1. Enjoy a grace period after graduation

With federal loans (and some private ones), your loan repayment won’t start for six months after you receive your diploma or drop below half-time enrollment. This grace period gives you half a year to prepare for the reality of paying back your education debt — or, in this case, not paying it.

Grace periods are especially advantageous for borrowers of Direct Subsidized Loans, as the interest that accrues during this deferment is paid for by the U.S. government.

Total elapsed time: Six months

2. Request an economic hardship deferment (and maybe join the Peace Corps)

For up to three years, you could skip loan payments by filing an Economic Hardship Deferment Request form with your loan servicer. Being a Peace Corps volunteer is one way to qualify for the repayment pause, for example.

Joining the Peace Corps isn’t for everyone, of course. But if you’re suffering an unrelated hardship — perhaps staring at a stack of medical bills — you would have to apply for the deferment one year at a time, not all at once.

If avoiding repayment is your goal, you would request this type of deferment rather than seeking a forbearance, as forbearance periods could lengthen your loan term.

Total elapsed time: Three years, six months

3. Qualify for a $0 monthly payment on an income-driven repayment plan

Really, you can skip step two and progress right to this third and final step: Enroll in IDR and score a zero-dollar monthly payment. This way, you just need to wait out the end of your IDR program, at which point the loan is forgiven, although to keep that $0 payment, you’d need to annually recertify your income and family size via your loan servicer.

Of course, it’s harder to achieve that $0 payment over an extended period. There are only so many ways to be eligible, including:

You’re unemployed or earn a low-enough salary to qualify. Use the Department of Education’s Repayment Estimator tool to figure what adjusted gross income it would take for you to meet the criteria for $0 payments. It varies among borrowers, depending on factors like your tax filing status.

If you’re enrolled in Pay As You Earn (PAYE), for example, your payment will come out to 10% of your discretionary income. Without a lucrative career, 10% could be nothing, since discretionary income is based on how much you make above the government-set poverty level.

You find work in another country. Yes, working abroad could zero out your monthly payment. In this scenario, you could become an expat and live comfortably on a meager wage in a low-cost-of-living place, for example. (Perhaps that Peace Corps jobs could be a springboard for finding work overseas.)

You might even be able to claim a foreign earned income exclusion for your federal taxes, with which you can earn a healthy income from a foreign employer without it counting toward taxes or — potentially — your IDR student loan payment level.

If you’re considering this approach, consult a tax professional to understand not only the potential IRS dues, but also those of your state tax department.

Total elapsed time: 20 to 25 years

Potential problems of delaying student loan repayment for 20 to 25 years

Attempting to go two decades or more without making a student loan payment — and then receiving forgiveness on the balance — is no easy feat. And pursuing it without your eyes wide open is a massive risk. Just consider these three potential pitfalls:

1. Interest will accrue and capitalize, ballooning your balance

You don’t have to be an expert in how student loan interest works to understand that your outstanding balance, if left unpaid, will grow significantly.

Say you owe the government $20,000 in student loans, tagged at 6.00% interest. After 20 years on PAYE, your new balance would more than double, coming in at $44,016, according to our loan deferment calculator.

You might think that’s immaterial if you plan on avoiding payments. To be on the safe side, however, you must consider what kind of repayment you’d face if you were forced to resume (or begin) repayment somewhere down the road.

2. The IRS could treat your forgiven amount as taxable income

Even if you make it scot-free through 20 or 25 years and qualify for loan forgiveness on an IDR plan, you’re not completely in the clear.

Not all federal loan forgiveness programs are taxed the same way. Although the IRS looks the other way on cancellation achieved through programs like PSLF and Teacher Loan Forgiveness, it treats forgiven debt via IDR as taxable income.

If you were forgiven for the $44,016 in our previous example, that forgiveness would be added to your gross taxable income for the year. If your newly increased income landed you in the 25% tax bracket, you’d have a liability of about $11,000 on your debt cancelation. You might be able to work out a repayment plan with the IRS too, but that’s still one hefty tax bill to feed.

3. Uncle Sam might make it harder to qualify for a $0 payment

Anytime you have federal loans, you’re somewhat at the whim of the Department of Education and pending legislation that affects it.

With a no-payment approach, your strategy could fall apart if the government suddenly goes in a new direction.

Most recently, for example, the current administration proposed in its 2019 budget to combine four IDR plans into one streamlined plan. If that came to fruition, the new plan would award forgiveness in 15 years for undergraduate borrowers, but graduate borrowers would need to wait 30 years — not the 20 or 25 under current IDR plans.

Imagine a graduate student borrower waking up one day to find that another decade had been added onto their repayment term. That would feel like a prolonged prison sentence.

Just because you can, doesn’t mean you should

Qualifying for a monthly payment of $0 might seem like the silver bullet you need to slay your student loans, especially since this method won’t harm your credit. But if something goes wrong, it could mean serious consequences. You might find yourself staring at a significantly larger balance than you originally borrowed, due to accruing and capitalizing interest.

Even if you could outsmart your loan servicer by keeping your dues at $0 for an extended period, ask yourself whether it would be worth it. Is avoiding your debt repayment worth stalling your career or putting your personal and financial goals on the perpetual backburner?

So, sure, weigh the rewards of delaying your loan repayment. But remember that, for virtually all borrowers, the risks weigh more.