The Child Tax Credit and Defaulted Student Loans

The Child Tax Credit (CTC) was created in 1997 as part of the Taxpayer Relief Act to help families with the cost of raising children. Over time, the program has expanded to provide more financial relief for parents, particularly those with lower incomes.

During the COVID-19 pandemic, many families faced job loss, reduced income, and childcare challenges. In response, the American Rescue Plan Act (ARPA) of 2021 temporarily expanded the Child Tax Credit to provide additional support.

However, families dealing with student loan default may face complications when trying to receive the full benefit.

How the American Rescue Plan Expanded the Child Tax Credit

The American Rescue Plan significantly increased the value of the Child Tax Credit and changed how payments were distributed.

Key changes included:

• Increasing the credit from $2,000 to $3,600 for children under age six

• Increasing the credit to $3,000 for children ages 6–17

• Making the credit fully refundable for eligible families

• Allowing half of the credit to be distributed through monthly payments

Instead of receiving the entire credit during tax season, families could receive part of the benefit earlier through monthly payments during the year.

While these updates provided relief to many households, borrowers with defaulted student loans faced potential challenges.

How Student Loan Default Can Affect the Child Tax Credit

Parents with student loans in default may not receive the full Child Tax Credit benefit.

If a borrower owes money on a defaulted federal student loan, the government can collect the debt through a process known as a tax refund offset. This means that when a taxpayer files their return, the government may seize part or all of the refund to repay the outstanding loan balance.

This issue can also affect parents who co-signed loans for their children. If the student borrower fails to make payments and the loan enters default, the co-signer may be responsible for the debt and could lose their tax refund.

According to the National Consumer Law Center, more than five million borrowers in default have a dependent child, meaning many families could potentially lose part of their Child Tax Credit refund.

Because only half of the Child Tax Credit payments were distributed monthly under the expanded program, the remaining portion was issued during tax season. This refund portion could be subject to collection if the borrower’s loans are in default.

What Is a Tax Refund Offset?

A Tax Refund Offset occurs when the U.S. Treasury Department intercepts federal payments or benefits to repay outstanding debts owed to the government.

This can include:

• Federal tax refunds

• Certain federal benefits

• Other government payments

Tax refund offsets for student loans were temporarily suspended during the pandemic but resumed on September 30, 2021. Additionally, federal student loan payments and interest collection were scheduled to resume in May 2022.

As a result, the remaining portion of the Child Tax Credit that is issued during tax season could be intercepted if a borrower’s student loan remains in default.

There have been discussions about extending the expanded Child Tax Credit program, which makes it even more important for borrowers to understand how their loan status could affect future payments.

How to Get Out of Student Loan Default

For many borrowers, paying a defaulted loan in full is not realistic. Fortunately, there are two primary ways to resolve federal student loan default:

• Loan rehabilitation

• Loan consolidation

Understanding these options can help borrowers regain eligibility for financial benefits and avoid tax refund offsets.

Loan Rehabilitation

Loan rehabilitation is one of the most effective ways to remove a student loan from default.

To complete the rehabilitation process, borrowers must:

• Agree to make nine monthly payments

• Make each payment within 20 days of the due date

• Complete the payments over a ten-month period

The monthly payment amount is determined by the loan holder and is typically based on the borrower’s discretionary income, which is income remaining after certain living expenses.

Once the rehabilitation process is completed, the default status is removed from the loan.

Loan Consolidation

Another option is loan consolidation, which allows borrowers to combine multiple federal student loans into a single Direct Consolidation Loan.

This option provides several benefits:

• One single monthly payment

• Extended repayment terms

• Access to income-driven repayment plans

• Eligibility for deferment, forbearance, or loan forgiveness programs

To qualify, borrowers must either:

• Choose an income-driven repayment plan, or

• Make three consecutive on-time monthly payments

However, it is important to note that loan consolidation does not remove the default record from the borrower’s credit history. Instead, it resolves the default so borrowers can regain access to federal repayment programs and benefits.

Final Thoughts

The expanded Child Tax Credit has provided much-needed financial support for many families. However, borrowers with student loan default may risk losing part of their tax refund through a tax refund offset.

Taking steps to resolve default through loan rehabilitation or consolidation can help protect future tax refunds, restore eligibility for repayment programs, and improve overall financial stability.

Understanding how child tax credit and student loan default interact can help families make better financial decisions and avoid unexpected reductions in their tax benefits.