Can Your Tax Refund Be Garnished if You Default on Student Loans?

Do you have big plans for your tax refund money? Your tax refund can be garnished if you’ve defaulted on a federal student loan. Federal student loans are guaranteed by the government and the government has power over tax refunds. Not all student loans are subject to a tax offset and you can take steps to keep your tax return money. In this article, we’ll tell you about the student loan tax garnishment process and give you some tips on how to keep your tax refund money safe from garnishment. 

Can the IRS Take Your Tax Refund for Student Loan Repayment?

The government has the power to keep your tax refund to pay your federal and state debt. This includes keeping refund money from Earned Income Tax Credit. (The federal government can even garnish Social Security payments.) Your federal student loan is considered federal debt. This includes Direct Subsidized Loans, Direct Unsubsidized Loans, and Direct PLUS Loans. A private student loan is not federal debt. 

There are several government departments involved in the process of tax garnishment, including the IRS. The IRS processes your tax returns and the Bureau of Fiscal Services and the Treasury Offset Program processes notices and collections. These departments (bureaus) are bundled under the Department of Treasury.

Two primary laws that permit the IRS to take your tax refund for student loans are:

• Title 26 of the United States Codes (laws for the Internal Revenue Service); and

• Title 31 of the United States Codes (regulations for money and finance).

Laws require agencies, such as the U.S. Department of Education, to notify the Treasury Offset Program of past-due debt. Your Social Security number will be matched to the reported federal student loan debt. The National Student Loan Data System (NSLDS) reports that there are over five billion dollars in defaulted federal student loans. (You're not the only person defaulting on your student loan!)

But even with billions of dollars of debt, not every borrower will have their tax refunds garnished. There are reasons that taxes can’t always be garnished for defaulted student loans, and we’ll discuss those exceptions more below. In 2021, one reason is that the power to garnish tax returns is paused until September 30, 2021, due to the coronavirus pandemic.

If you have a private student loan, wage garnishment is a risk if you default on your obligations but your tax refund will be safe in your hands. Tax offsets apply to federal and state student loans, not private student loans. That FAFSA form you filled out was for federal student loans. 

What Is a Tax Offset?

When your tax refund is garnished, it’s called a “treasury offset” or “tax offset.” Only federal and state agencies can garnish your tax refund through the Treasury Offset Program (TOP). The TOP is a program run by the United States Department of Treasury’s Financial Management Service (FMS) to help manage tax garnishments. 

TOP is also a part of the Bureau of the Fiscal Service’s Debt Management Services (DMS) which manages databases and collection services for federal debt. DMS is a service agency that sends tax return money to collection agencies for student loan debt. You’ll see these names on some notices. 

When Will Student Loan Debt Garnish My Tax Return?

If you’ve defaulted on a federal student loan, your tax return refund can be garnished, but garnishment won’t start until after you’ve missed nine months of payments. If you’ve defaulted on a private school loan, your wages won’t be garnished until after a court process grants your lender the authority to garnish your wages. 

The time it takes to enter default status on a student loan is different for federal and private student loans. A federal student loan won’t go into default status until after nine months (270 days) of missed student loan payments, but federal agencies are required to notify TOP if a federal debt has gone unpaid for 120 days. A private student loan could go into default after only one or two missed payments. This classification will depend on the terms of your loan agreement. 

The agency managing your debt must send you a letter before your tax refund is garnished. That letter will tell you that the collector plans to take your money from a federal payment. It will also include the following information:

• The reason for your debt;

• The amount you owe;

• Your rights to review information about your debt; and

• The arrangements you can make to pay off your debt.

After you receive a notice from your lender (or collection agency), then you’ll receive a notice from the Treasury Offset Program. 

How Do I Know if My Student Loan Will Reduce My Tax Refund?

Federal student loan garnishments don’t have to go through the courts, so you won’t be receiving a summons. There is a special administrative process that the Department of Education uses to fast-track garnishments without using the courts. The Treasury Offset Program (TOP) will send you a notice 60 days before your tax return is being garnished. With this notice, you’ll have an explanation of some of your rights. 

The notice will tell you that you have the right to take the following actions before your tax return is garnished:

• You can dispute the debt. 

• You can request copies of agency records. 

• You can request an administrative review of your total debt amount.

• You can make an acceptable repayment plan. 

You can call 800-304-3107 to reach the TOP Interactive Voice Response (IVR) system to learn who you need to contact about your tax offset debt. 

How Do I Dispute My Student Loan Debt?

Your debt can be disputed based on facts, but usually not by the fact that you did not receive a notice. Disputing a debt will take some time and effort, but it’ll be worth it if you can stop your student loan tax garnishment. You’ll want to gather the facts about your debt and compare your records to the records that are being reported by the credit bureaus and your student loan lender. 

You can start by getting a free copy of your credit report from Experian, Equifax, and TransUnion. You can order one online at AnnualCreditReport.com, but you’ll need to put in a separate request for each credit reporting bureau. Once you get the report, compare the information to your financial records. Compare your credit history report to what the tax offset notice says and what your lender reports. 

Be sure to check your name and address information to make sure there aren’t any name mix-ups such as typos or records of relatives. (If your student loan is being garnished for your spouse’s debt, you can file your taxes as an “injured spouse.”) You should also check your credit reports for mismatches due to identity fraud. 

Organize and summarize any errors and put them in writing. Lay out the basic facts. Notify your lenders and loan servicers of any errors in the credit reporting of your student loan, preferably in writing. The Federal Student Aid Department of the U.S. Department of Education has a Default Resolution Group (DRG) number you can call at 1-800-621-3115. Be sure to report errors to each credit bureau as well. 

If your tax return is already being held back by the IRS, you can appeal the decision. The IRS website has information on the appeal process for tax garnishment. 

How Do I Make an Acceptable Repayment Plan?

The Department of Education offers loan holders a one-time opportunity to rehabilitate a student loan even after the loan has entered the default stage. If you’ve used the rehabilitation option before, you won’t be able to use this option again. If you haven’t rehabilitated a student loan before, you can use this option to stop the IRS from keeping your tax refund money. It will also help you if you want to go back to school and you need a federal student loan. 

To rehabilitate a student loan, contact your lender and tell them you would like to rehabilitate your student loan. Your income and expenses will be reviewed to arrange a repayment plan, and you’ll have to make some on-time payments before your loan is rehabilitated. At least nine out of ten payments from the new payment plan must be made on time and in full, and in order. Once you make your fifth payment, the garnishment order must be suspended. 

How Do I Stop Student Loans From Taking My Taxes?

To stop your student loan from reducing your tax return money, you also have the option to dispute your student debt, claim certain hardships, pay off your student loan, rehabilitate your loan, or make a repayment plan. In some cases, filing for bankruptcy might help. 

If you dispute the debt and a hearing is held, your taxes won’t be garnished until after your disputed claim is reviewed. If you’re in a hardship situation, you can consider filing bankruptcy to discharge your student loan balance, but be sure to talk to an attorney about the timing of your filing if you want to avoid another tax garnishment. 

These are some hardships the Department of Education will consider:

• Permanent and provable disability

• Extreme financial hardship

• Exhausted unemployment earnings

• Homelessness

• Student loan discharge through bankruptcy

You can use your right to make an acceptable repayment plan to stop student loans from garnishing your taxes. Make sure you’ve looked into all possible repayment plans, consolidation plans, and student loan forgiveness programs the Federal Student Aid Office offers. 

You can also pay off your student loan in full. Taking out additional debt is usually not recommended, but if loan rehabilitation isn’t an option and you’ve exhausted all other methods, you could pay off your student loan debt with a credit card or new loan. Examine your interest rates and total debt so your new debt doesn’t dig you into a deeper hole. Talk to a consumer debt attorney or bankruptcy attorney to explore your options in further detail. 

Let’s Summarize…

There are ways to prevent a student loan debt from causing a dip in your tax refund, even if your loan has entered the default stage. You’ll need to spend some time on hold with lenders and government agencies. You’ll also need to research your student loan debt and credit history. But with effort (and maybe a little luck) you can keep your tax return refund in your wallet and make new plans to effectively manage your student loan debt.