Default isn’t the word you want to hear in regards to paying back a student loan. It can cause all sorts of financial trouble, and if someone defaults it might be because they’re already in financial trouble. It doesn’t help when private lenders (businesses who offer student loans outside the government) make defaulting an automatic process.
Unfortunately for them, auto-defaulting isn’t exactly legal. An official from the Consumer Protection Financial Bureau warned auto-defaulting on certain borrowers was breaking the law. Granted, the borrowers had very particular circumstances.
In some cases, those who borrow have a co-signer, someone who signs along with the borrower. The idea is that if the borrower can’t pay back the loan for whatever reason, the co-signer assumes responsibility for paying it back in full, or until circumstances get better for the main borrower. But, sometimes not even the co-signer can pay, and this leads to problems.
In this case, people were being put on auto default because their co-signer couldn’t pay for various reasons, commonly extreme ones like bankruptcy, death, or other issues. Auto-defaulting a borrower, in that circumstance, is the illegal part, because it leaves the borrower with no choice but to pay back the crippling amount of money. They do this by using a clause in the contract between lender and borrower, despite being asked to remove the clause.
Seth Frotman, a speaker on behalf of these new loan discoveries, explained that unclear terms regarding this clause, or any part of the repayment procedure, could be considered manipulation of the law. Those who were afflicted with the auto-defaults hadn’t even realize there was some lender violation until they were contacted by a debt collector.
It doesn’t mean all private lenders are attempting to escape the law. Often private loans are bundled together and then sold to a new owner which don’t offer the same terms as the previous. Individual cases can’t or have difficultly being modified, and as such there’s a whopping legal mess of defaults and improper handling.
As for the resolution of the matter, this remains to be seen. Richard Hunt, CEO of the Consumer Banks Association (thereby partly responsible) remarked it wasn’t the intention of banks or loan owners to hasten borrowers into default status. He also claimed lenders were working diligently to make sure borrowers were getting fair and proper terms. For now, it sounds like usual deflective talk and only time will tell if the “diligent work” will protect those facing auto-default fiascos.

Wells Fargo Caught in Illegal Student Loan Practices: Fined $3.6 Million