Defaulting on student loans can cause several different financial problems. Not only does it have a highly negative effect on your credit report, but it also impedes your ability to get any new student loans and can lead to extra fees and interest associated with going into default. If you default on your student loans the government can garnish wages up to 10% of your income or seize any tax refunds you may be eligible for.

Options

When you default on your loan the entire amount is generally demanded at once, or at least as much of it as you can pay. This is why it is important to seek other options immediately. There are several different ways to pay back your loan and the process is similar to other types of loans, but you must seek them out and apply for them. Firstly, there may be a chance to discharge your loan or erase it completely from your record. Call the Department of Education for an application to see if you are eligible. Discharging the loan generally requires that you prove you did not want the loan in the first place, or there was some type of fraud or incomplete use of the loan. A more common option is loan consolidation. This means that you consolidate all your loans (even if you only have one) into a Federal Direct Consolidation Loan, which stops any wage garnishing or seizure of refunds and provides you with a new payment plan. Similar state plans are available that allow you set up a new payment plan. However, if you still cannot make the payments, then you cannot apply for any program again; it is a one shot offer (Illinois Legal Aid: What Can I Do if My Student Loans are in Default?, Ref 3).

Rehabilitation

Loan consolidation will take your loan out of default, but a repayment plan will not. If you enter a repayment plan program you can choose to rehabilitate your loan after a certain amount of time. You usually have to wait at least one year before applying for a loan rehabilitation. Loan rehabilitation is the process of restoring your loan to its original state, only with a different and more manageable payment plan. The default status will also be canceled out in your credit report.

Source:

FSA: Repaying Student Loans Held by the U.S. Department of Education

NLS: Student Loans and Default

Illinois Legal Aid: What Can I Do if My Student Loans are in Default?