One of the biggest concerns you probably have about your student loans is what would happen to your family financially if something bad happened to you. If you’re looking to have your student loans forgiven due to death and disability, most lenders will forgive your loans although this protection does not apply across the board.
Complicated, convoluted rules cause uncertainty. Imagine your mom is on track for retirement because you’re taking care of your $100,000 student debt from grad school. Imagine something terrible happens to you and since she’s a cosigner, the lender asks for all that debt from her instead. That’s the nightmare scenario, but luckily it can be totally avoided with upfront preparation.
There are two different sets of rules to get your student loans forgiven due to death and disability. The first set of rules applies to federal student loans and is less ambiguous. The second set of forgiveness rules exists for private lenders. Because of major legislative changes, death and disability discharge will soon be the norm for all private student loans.
Federal Student Loans Always Forgiven Due to Death
If you die with student loans, your family will not be affected. That goes for Stafford, Grad Plus, and any kind of federal debt you can think of. The government also forgives Parent PLUS loans if either the child or the parent passes away prematurely.
How do you certify the death of a family member to obtain a student loan discharge? You only need to submit proof of death to your loan servicer. Usually, this means a certified copy of a death certificate.
How Does the Total and Permanent Disability Discharge Process Work?
The Total and Permanent Disability (TPD) discharge with the federal government allows three ways to qualify. You must either
- Obtain a 100% disabled rating from the Department of Veterans Affairs (VA)
- Obtain Social Security Disability Insurance payments (SSDI) and not have your disabled rating up for review until five to seven years
- Get a letter from a physician testifying to your permanent and total disability, AND
- The condition affecting you must be expected to last longer than five years
- It is expected to result in your death
- Your condition has already lasted more than five years consecutively
The government sends data from the VA and Social Security regularly to loan servicers in an attempt to proactively reach out to borrowers who should qualify. This protection is fantastic as you have the government looking out for your financial interests actively. A private lender might forgive your loans but they won’t be actively seeking you out to do it.
It’s clear the easiest way to get student loans forgiven due to disability is by qualifying through Social Security. However, if you need another route to qualify for student loan discharge, then your physician can help as outlined above.
My guess is that the government gave this third option to allow terminal cancer patients, rural Americans, and other population groups to have an alternative way to certify their status that doesn’t involve going to a government office.
Do You Have to Pay Taxes on Federal Student Loans Forgiven Due to Death or Disability?
The IRS used to send a statement called a 1099-C to many borrowers who had their loans forgiven even though it was due to tragic circumstances. For example, one veteran got a bill from the IRS for over $60,000 in federal taxes after the government wiped away his student loans. He had suffered a traumatic brain injury, and then the government came after him and threatened to put a lien on his home and vehicle.
A veteran with a brain injury getting a huge tax bill from student loan forgiveness after serving our country became the impetus for change. The new Tax Cuts and Jobs Act (TCJA) changed the law to make sure there are no tax consequences for federal student loan forgiveness due to death and disability.
The rule change applies to all loans forgiven in 2018 and after. Although it’s temporary since it’s part of the Republican tax bill, I suspect this rule change will be retained for the future regardless of who is in power.
Trump Tax Plan Makes Big Changes to Student Loans
The Trump tax plan will result in positive changes for borrowers (or their family) who apply for discharges of student loans due to death or disability. Imagine losing the ability to walk only to get a bill from the government that you owe five or six figures in taxes all at once? It was clearly an unfair system and needed to be changed.
After all, most people fail to insure themselves adequately with term life insurance even though you can get $1 million of coverage for like $20 to $40 a month. Check out Haven Life for example to see what I mean.
Borrowers also do not have enough disability insurance on average. Even if you did have some good coverage, it would stink to watch a large part of that premium get eaten up by tax consequences. Also, disability insurance does not pay out a lump sum if you become disabled anyway. That makes it curious we had tax consequences for disability and death discharges in the first place.
The Trump tax plan changing student loans will help. Although, keep in mind forgiveness on an income driven plan over 20-25 years is still considered taxable income in the year of forgiveness. Trump has not make a big impact on student loan forgiveness broadly yet. Just in small changes that have strong bipartisan support. Of course, that could change in the future.
Are Private Student Loans Forgiven Due to Death and Disability?
There are two kinds of student loans: federal and private. I’ve shown you how generous the federal rules are and how these rules have gotten even better with the latest Tax Cuts and Jobs Act. Within the private loan world, you need to make sure you check the terms of your lender.
The student loan refinancing companies on my site forgive student debt due to the death of the primary borrower. The catch here is some include language in the borrowing agreement that says they aren’t required to by law. While federal student loans include a statutory requirement that death and disability protections be provided, many protections on private loans are contractual or up to the discretion of the lender.
For example, pretend you apply with a lender on this site to refinance your student loans. You contact their customer service and ask about their death and disability protection. They might tell you that they have always forgiven loans due to death and Social Security verified total disability but they’re not legally obligated to do so.
Another lender might state in the contract the requirements you would have to meet to obtain disability student loan forgiveness. A contractual promise is stronger than a discretionary promise.
Why Almost Every Private Student Loan Company Will Forgive Your Loans in the Event of Death or Disability
Most lenders these days put the protections for borrowers straight in the contract they give you to sign. Additionally, if you offer these protections on a discretionary basis, the lenders do not want to get punished by bad PR for being the first bank to ask for the funds when tragedy strikes.
Banks and lenders would rather charge a slightly higher interest rate and never get a negative headline about how they came after someone for money in tragic circumstances. For that reason alone, I would feel comfortable refinancing with a private lender as long as they had a track record of forgiving debt due to the death and disability reasons.
Getting Protection for Losing Income is Much Cheaper than Paying Too Much Interest on Student Loans
Here’s why you really should not worry about protections against death and disability on your student loans all that much: you can insure yourself easily for a low cost.
Getting a term life policy is easy and extremely cheap for a young 20 or 30 something. I picked up a $1 million 10-year term life policy with Haven Life and it costs me under $25 a month.
Paying an extra 1% on $200,000 of student debt costs $2,000 a year. You could almost buy 10 times the amount of protection I got for that difference.
Disability insurance is admittedly more expensive, but if you shop around you might be able to get a good policy at a low cost. We pay about $100 a month for a $60,000 a year policy for my wife, who is a physician. That policy protects her income if she loses the ability to perform surgery but can still work (called own-occupation).
Honestly, if you have a large amount of student debt, then you have a huge investment to protect anyway. If you’re single with no dependents, you don’t need to worry about buying term life insurance. If you have kids or might soon, then you desperately need a bunch of term life insurance. Just add on a bit of extra coverage in case some is needed for the student loans and then you don’t have to worry.
If you are making a large amount of income, you probably want to protect around half of it with a disability policy even if you had no student debt. Once you get this level of protection, you won’t need to worry about refinancing your student loans and aggressively paying them down.
Do you have concerns about discharging student loans your family getting hit with a huge burden? Share your concerns or thoughts in the comments below.