If you have a lot of student loans and are having a difficult time paying them off, student loan refinancing is an option worth exploring. Student loan debt is a huge crisis for Americans, but refinancing your loans could help you save thousands of dollars in interest and potentially reduce the amount of time it takes to pay back your loans since more of your payments will go toward the actual principal balance.
Refinancing involves taking out a new loan (most likely at a lower interest rate) to pay off your existing student loans. When you refinance, you have to choose a complete new private lender with new terms to follow. So, if you have to refinance through a private lender this seems simple to do when you already have private student loans. But can you refinance federal student loans, too?
There Is No Federal Loan Refinancing, But...
Interest rates for federal student loans are often fixed and set by the government, making it extremely difficult for a borrower to significantly alter the interest rate on their student loans. While federal loan consolidation is permissible since it basically combines all your student loans and averages out your interest rate, refinancing your federal loans with the government is not possible.
However, you can refinance your federal student loans through a private lender. If you choose to refinance with a new lender, your loan will change from a federal loan to a private loan. Your new interest rate will be determined by your creditworthiness and once you refinance, you will no longer be eligible for government student loan relief options like deferment, forbearance, or student loan forgiveness.
How Your Credit Can Be Affected
Your credit score should be minimally affected if you choose to refinance. You will receive an inquiry for each application you submit with a private lender, so it's important to narrow down your top options before you apply.
Private loan companies may even run a soft credit inquiry to determine if you qualify for a loan, but this won't show up on your report.
If you generally have a good score, it should not be negatively affected by refinancing unless you fail to keep up with the terms of your new loan. If you make late payments or fail to pay back your loan, your credit score could seriously suffer. If you run into financial hardship and can't make your payments, remember that there won't be as many relief options available to you as there were when you had federal loans, so it's important to make sure you can afford the monthly payments on your new loan when you refinance.
When You Should Refinance Your Federal Student Loans
Refinancing your student loans is not a guaranteed fix for everyone. While it can help tremendously depending on your current situation, there are quite a few things you should consider before you refinance your federal student loans.
Is your interest rate very high?
If your current rate is high and the market has low interest rates currently, refinancing may be able to help you lock in a lower rate to save money on your loan repayment. In order to secure a lower rate, you must have a good credit score, though, so don't consider refinancing if your credit score is not up to par.
Determine if refinancing will actually save you money
You can easily contact your lender to see how much money you are spending on interest. If you qualify for a lower rate and new term with a private lender, calculate how much money that would save you with regard to your monthly payment and how much you will owe overtime. Refinancing should make your repayment more manageable, not make it appear more manageable, so this is important to figure out before you switch to a private lender.
Confirm that you don't need any federal student loan relief benefits
If you have federal student loans, the relief programs and benefits you receive are nice components to depend on if you ever endured a financial hardship like losing your job or having an accident. With deferment or forbearance, you can put your loans on hold for a specified period of time and not receive any penalties.
Since you give up benefits like these when you refinance with a private lender, you should make sure you don't need to utilize the benefits and you can comfortably make the payments on your loans each month. Let's take a look...
1. Payment Options. The most advantageous aspect of federal student loans is your choice of payment plans. Federal student loans offer seven different payment plans. From the standard payment plan, to income based repayment (IBR), to pay as you earn (PAYE). Your federal student loan offers a variety of repayment plans that are tied to your income and prevent hardship in case your earnings after graduation aren't as high as you expected. However, if you have a graduate degree and strong job prospects, this might not be much of a consideration for you. Check out your repayment options here: https://studentaid.ed.gov/repay-loans/understand/plans
2. Extended Repayment. The typical repayment term for a student loan is 10 years. Federal student loan repayment can be extended to 25 years. This will lower your monthly payment; however, you can also expect to pay more interest over the life of the loan. Choosing this option may help you in the short term, while impacting your long-term finances. This may not be the best option if you can pay off your loan faster to save yourself money.
3. Forgiveness, cancellation, and discharge. Federal student loans may offer forgiveness, cancellation, or discharge for those in public service working for a federal, state, or local government agency, entity, organization or a not-for-profit designated as tax-exempt by the Internal Revenue Service (IRS), and also for teachers in a low-income elementary or secondary school. If you fit into these categories, you probably shouldn't refinance your federal student loan with a private lender, as you would lost out on this perk.
4. Federal Direct Consolidation Program. Loan consolidation can have its advantages, namely a single payment for multiple student loans, as well as a lower interest rate and/or payment, in some cases. Before you consolidate your federal loan, determine if you'll lose any benefits offered with your original loans. This could include interest rate discounts, principal rebates or some loan cancellation benefits. Many people wonder if they can refinance federal loans after they've consolidated them. The answer is yes. Even if you've consolidated federal loans through the Federal Direct Consolidation program, you can refinance those loans through a private lender.
5. Deferment or Forbearance Most private lenders won't allow you to defer payment of your student loan if you go back to school, or allow you to stop making payments for 12 months when illness or disability prevents you from working. Federal loans can allow you to do just that. If this is important to you, refinancing may not be the best option.
While it's impossible to tell the future and whether you will have any financial hardships or not, it's easy to know whether you qualify for things like student loan forgiveness and what your current financial situation is.
Refinancing federal student loans with a private lender can seem tricky, but first you need to be honest with yourself about your current situation along with your needs and expectations to determine if refinancing is right for you. Let's face it; if you're unemployed, foresee yourself having difficulty repaying your student loan, or plan to go back to school for another degree, then refinancing probably isn't for you. But if you have a good credit history with a well-paying job, private lenders want you to refinance -- and they're willing to entice you by helping you save money with a lower interest rate.
Start by evaluating your options. Look at your student loans, then talk to a private lender or two. Determine if you can save some money, and if it's worth trading some of your federal benefits, refinance your federal student loan.