Student loans: What if you can’t pay?

You studied hard over the past four-plus years and ate mostly Kraft Dinner and Ramen noodles to save money. Still, your student debt is into the thousands of dollars, and pretty soon you’ll have to start paying it off.

What if you can’t? It’s a growing reality given the rising rate of student unemployment in today’s soft job market and so many Baby Boomers continuing to work in their golden years (to pay off their own debt, in some cases.)

Debt repayment assistance

The consequences of not being able to pay off your student loan range from having your future wages garnished to potential legal action from the government.

Those are the worst-case scenarios. The government’s first move is to try to get the money back by making it easier for you to pay off the loan.

You get a six-month grace period after graduation to start repaying the money you borrowed for school, but interest on the loan starts right away. Just as though you were paying off a mortgage, you get choices about whether to pay a “fixed” interest rate, where the rate doesn’t change, or a “floating rating, which fluctuates with interest rates changes.

That said, both rates are higher than if you just bought a home, with the fixed interest rate at prime plus 5 per cent, and the floating rate is prime plus 2.5 per cent.

It’s up to you sort out the loan payments. If you don’t, loan payments could start automatically coming out of your bank account after six months of non-payment.

If all of this sounds overwhelming, and impossible given your drained bank account, the government offers the Repayment Assistance Plan (RAP). It allows students to repay their loan based on what they can “reasonably afford ” given family income and size, according to a federal government spokesperson.

Payments are up to 20 per cent of a borrower’s income for up to 15 years, after which time the government will pay off the rest. Of course, there’s some paperwork involved. Enrolment in the RAP isn’t automatic, and you have to re-apply every six months.

To be eligible for the program you need to be out school for six months and your loan can’t be in default. If you miss a payment while on the RAP, the government cuts you off from any form of assistance until you make up the payments.

There were about 185,000 borrowers using the program in 2011-2012, according to Employment and Social Development Canada. A spokesperson also says the Canada Student Loan default rate was “only” 14 per cent in 2010-11, which is half of the level in 2003-04.

If you miss a loan payment or default, there are additional interest charges and the borrower could lose out on income tax refunds. The chances of getting further loans or grants are also much lower.

“The borrower may have to deal with the Canada Revenue Agency to repay his or her debt and interest owing or face legal action, and his or her credit rating could be affected,” says the spokesperson.

Is bankruptcy an option?

The last resort is bankruptcy, but you can’t claim this on your student loan for seven years after you’ve finished school.

Philip McCourt with Vancouver-based bankruptcy trustee Abakhan & Associates Inc. says people who come in to see him about student loan debt often have other debts as well.

“The point comes when they realize life is too short. They spend every single ounce of energy they have – and they’re not getting any sleep – trying to pay down their debts,” says McCourt.

Student loans can also be discharged after five years, but the borrower has to prove before a court that they would undergo extreme hardship if required to wait seven years.

It sort of defeats the purpose of cracking the books for all those years, just to end up before a judge pleading an inability to pay your debts.