It can take some time after college to get your bearings and land that job that makes the best use of your degree. You’ll probably be looking for new digs, and may even relocate to a new city in the process.
The payments on your student loans won’t wait. The grace period on federal student loans is typically six months, and private lenders will be expecting payments by then too — if they even offer a grace period.
Fortunately, recent grads have many options for paying down federal student loans, including repayment plans that cap monthly payments at 10 or 15 percent of disposable income.
While some grads choose the payment plan they can afford when payments are due, it’s worth considering what your long-term strategy for paying off your student loans will be, and how it might change as your career advances.
Income-driven repayment plans can help keep monthly payments manageable, and may be a path to loan forgiveness for some borrowers. But for others who won’t qualify for loan forgiveness, stretching out payments beyond the standard 10 years to up to 20 or 25 years in an IDR plan can add thousands of dollars in additional interest.
To get a sense of whether they’ll qualify for loan forgiveness, recent graduates can use the Department of Education’s repayment estimator. Keep in mind that the repayment estimator is most accurate for evaluating your first repayment plan. The longer you’ve been in repayment, the less accurate its projections will be.
The repayment estimator has some other limitations, including the fact that it can’t tell you what your tax bill might be if you qualify for loan forgiveness (with the exception of Public Service Loan Forgiveness, forgiven student loan debt is considered taxable income).
Another drawback of the Department of Education’s repayment estimator is that it doesn’t evaluate what your savings might be if you refinanced your student loans at a lower interest rate. That’s because the government does not offer refinancing — just loan consolidation, which does not lower your interest rate.
Qualifying for student loan refinancing
Even if they’ve heard that student loans can be refinanced at lower rates — and many have not — recent graduates may assume that they can’t qualify.
Increased competition in student loan refinancing means lenders are serving a broader spectrum of borrowers — and not just those with “super-prime” credit scores of 740 or higher. Some lenders will refinance loans for borrowers with credit scores as low as 620, if a parent or friend is willing to act as a cosigner.
You can see the rates you can qualify for with multiple lenders that offer student loan refinancing in about 2 minutes using Credible.com’s rate request tool. It won’t affect your credit score, and your information is not shared with lenders until you’re ready to proceed with the loan that’s right for you.
Whether or not you can qualify to refinance your student loans depends largely on your (or your cosigner’s) credit history, and how your student loans and other debt stack up against your income. An elevated debt-to-income ratio (a DTI above 36 percent, for example) can make it more difficult to refinance student loan debt — or buy a house or car.
While interest rates on government loans are one-size-fits-all, private lenders will loan money at lower rates to borrowers they consider less risky. This is one reason student loan refinancing exists. While students typically lack the credit history to qualify for lower rates, once you’ve established yourself in a career, a good credit score can help you get a lower interest rate.
Another factor that determines interest rates is the repayment term of the loan — the shorter the loan term, the lower the interest rate.
To qualify for student loan refinancing and get the best rate, clean up your credit history by getting a free copy of your credit report and requesting that any erroneous information be removed. Also look for ways to lower your debt-to-income ratio (paying off high-interest credit card debt is one for example). Both measures can boost your credit score.
3 student loan refinancing strategies
Now that you understand the basics of how to qualify to refinance your student loans and get the best rate, the next step is to familiarize yourself with some different strategies employed by thousands of borrowers who have used Credible to refinance. These strategies are explored in more detail in our recent “2016 Credible Student Loan Refinancing Report.”
1. Lower your monthly payment
Recent grads are often hard-pressed to make their monthly payments. Refinancing into a loan with a longer repayment term typically gets you the biggest reduction in your monthly payment. But you won’t get as much of an interest rate reduction, and you’ll make more payments, so your total cost of repayment may go up.
Source: “2016 Credible Student Loan Refinancing Report,” an analysis of student loans refinanced by borrowers using the Credible marketplace from April 15, 2015 to Sept. 21, 2016.
Recent grads who employed this strategy to refinance their student loans through Credible increased their repayment term by close to 5 years, on average, and cut their monthly payment by an average of $221. Recent grads who extended their loan term reduced their interest rate by 1.71 percentage points on average, but can expect to pay $4,928 more over the life of their loans.
2. Get the biggest savings
If you’ve landed a job or won a promotion that boosts your salary, think twice before rushing out and buying a fancy new car or splurging on a vacation. Your extra income could allow you to boost your monthly student loan payments and refinance into a loan with a shorter repayment term that gets you the biggest interest rate reduction and maximizes your overall savings.
Recent graduates who used this strategy refinanced into loans that shortened their repayment term by an average of 3 years, 11 months. They also increased their monthly payments by $117 on average. The payoff? These borrowers lowered their interest rate by 1.90 percentage points on average, and can expect to save $15,142 over the life of their loan.
3. Lower your monthly payment AND total repayment cost
Refinancing into a loan with a lower interest rate and about the same repayment term as your existing loan can lower your monthly payment while reducing the total amount repaid.
As a group, all borrowers using Credible to refinance their student loans reduced their loan repayment term by an average of 6 months and cut their interest rate by 1.56 percentage points. That allowed them to cut their monthly payments by an average of $25, and put them on track to save $7,747 over the life of their new loans. Recent graduates reduced their monthly payments by $73, on average, and can expect lifetime savings of $4,242.
Government student loan repayment plans
As discussed above, borrowers seeking to reduce their monthly payments can increase the repayment terms of federal student loans without refinancing — either by switching to an extended or graduated repayment plan, or consolidating their loans and enrolling in an income-driven repayment plan. Income-driven repayment plans can be a good option for borrowers who are struggling to make monthly payments on their federal student loans.
Just keep in mind that because you can’t get a lower your interest rate, extending your loan term in a government repayment plan can significantly increase your total repayment costs if you don’t qualify for an interest rate reduction.
The chart below, generated by the Department of Education’s repayment estimator, depicts the total cost of repaying $49,000 in student loan debt at 6 percent interest (the average rate on federal student loans for a borrower getting their undergraduate degree in 2010-14 and moving on to get a graduate degree in 2014-2016) under various repayment plans. The chart assumes that the borrower enters repayment with $32,000 in adjusted gross income (AGI)that grows at 5 percent a year.
Repayment of $49,000 in student loan debt in 9 government repayment programs
Source: Department of Education’s repayment estimator.
If this hypothetical borrower were able to refinance into a 10-year fixed-rate loan at 4.5 percent interest, they’d make monthly payments of $508, and pay back $60,939 in all — less than any government repayment program, including those providing (taxable) loan forgiveness in this scenario.
Refinancing is not for everyone — borrowers who refinance federal loans with private lenders lose borrower benefits like access to income-driven repayment plans and the potential to qualify for loan forgiveness after 10, 20, or 25 years of payments.
But thousands of borrowers have decided that the savings they can realize by refinancing outweigh those benefits. Credible.com makes the process of exploring the refinancing strategies outlined above simple and transparent. You can see personalized rates you qualify for with multiple lenders in about 2 minutes, without affecting your credit score or sharing your personal information with lenders at this stage in the process.
For more details about how the Credible.com marketplace works, see, “How Credible matches you with lenders.”