Why $2.6B in tax refunds were seized during 2017

Jamie McKnight, 35, a mother of two, filed her federal tax return in late January, expecting to get a roughly $9,700 refund that would help her pay for rent, health care expenses and other bills.

What the Kingston, N.Y., resident didn't anticipate was that nothing would show up in her bank account.

McKnight soon discovered that the government had seized the money to apply to her overdue student loans, which she said total roughly $20,000. She says she didn't know the loans were in default, or that the feds could repay the debt with her refund.

"I waited for it to hit my account, and nothing happened," she said. "It's frustrating because this was supposed to be our safety net."

As millions of Americans marked the nation's April 17 tax-filing deadline with plans to spend or save refunds from Uncle Sam, thousands of student loan borrowers like McKnight weren't sharing the dreams. The federal government has already taken away their refunds and applied them to the overdue debts.

Full data showing how many student loan borrowers will be affected during the 2018 fiscal year isn't yet available. However, a USA Today review shows that the U.S. Department of the Treasury during the 2017 federal fiscal year collected nearly $2.6 billion owed on defaulted federal student loans.

The total represents the highest ever in terms of dollar collections, according to Treasury's Bureau of the Fiscal Service.

The collections, representing more than 1.3 million defaulted federal student loans, also increased by $200 million from the 2016 federal fiscal year. Collections for federal student loan debts have risen steadily as the Department of Education's debt portfolio increases, according to the Treasury bureau.

Formally known as tax refund offsets, the government seizures have taken place even as total U.S. student loan debt has ballooned to an estimated all-time high of $1.4 trillion. Nearly $5.8 billion in direct federal student loans entered first-time defaults from July through September last year, the highest quarterly total since at least 2015, government records show.

Few dispute that student loan borrowers should be held responsible for repaying the debts. However, many borrowers fell behind on their loans, and later defaulted, as the nation's 2008 financial crisis eliminated jobs, cut salaries and hobbled the economy. Despite better financial times, many borrowers have struggled to recover.

The National Consumer Law Center, a non-profit organization focused on economic security for low-income and other disadvantaged people, contended in a March report that government seizures of federal tax refunds often trap struggling student loan borrowers in poverty.

The Department of Education said it is required by law to refer delinquent or defaulted student loan debts to the Treasury bureau, which "offsets (withholds) the payment, in whole or in part, to satisfy the debt to the extent legally allowed."

The tax refunds for many low-income student loan borrowers typically come through a federal anti-poverty program known as the Earned Income Tax Credit. The Internal Revenue Service defines the program as a financial boost for families with low or moderate incomes.

Nearly 27 million taxpayers collectively received more than $65 billion through the program in 2017, according to the IRS. Workers who earned $53,930 or less in 2017 and meet other qualifications may be eligible for an EITC payment when they file their federal tax returns this year.

Created during the 1970s, the program was expanded by President Reagan. A history of the program and its effectiveness by the Economic Policy Institute, a nonpartisan Washington, D.C., think tank, said the EITC has drawn criticism in recent years because it eliminates federal income tax liability for many low-income workers.

However, the National Consumer Law Center report cited research that showed the program increased employment among single mothers and lowered reliance on government welfare programs.

By seizing EITC refund checks from student loan borrowers in distress, the federal government often makes it "harder to access work, stable and safe housing, and to pay for basic necessities," the report said.

Children are often the main victims because the largest refund checks typically go to families with children, the report added.

That sounds like McKnight, an EITC recipient, and her family.

She says her student loans piled up between 2009 and 2013 while she studied for an associate degree at Ulster County Community College in New York's Hudson Valley.

McKnight also says she was out of work from 2013 through 2016, while caring for her daughter, Jasmine, who has special health needs and cannot be left in day care programs. New bills came in for ultrasound tests and other health care costs related to her son Kayden's birth last year, she says.

McKnight had hoped to pay off some of the bills with her refund. Though she hopes that a potential new job as a school bus monitor will ease her financial strain, she says the loss of the tax refund represents a major financial blow.

"It was the worst possible time for this to happen," she says.