Most of last year's college graduates left school with much more than a prized degree. The average college grad entered the workforce with more than $35,000 in student loan debt this year.
That makes the class of 2015 the most indebted class in history. Who knows if the Class of 2016 will fare even worse?
One solution for grads buried in debt: student loan refinancing. The process of refinancing student loans can lower interest rates and monthly payments, allowing borrowers to potentially save thousands of dollars over the lifetime of their loans. While this seems like a good deal, is student loan refinancing a smart decision?
Before you decide if refinancing is right for you, here are 10 of the most common questions we hear from graduates as they begin exploring their options:
1. What is student loan refinancing, exactly?
Student loan refinancing is similar to refinancing a house or a car. Borrowers apply with a new lender for a new loan that consolidates and replaces the borrower's old loans.
This new loan ideally has a lower interest rate, requires lower monthly payments, or a combination of the two. This typically allows the borrower to save money over the life of their loan.
2. What's the difference between student loan refinancing and consolidation?
Loan consolidation, whether of private or federal loans, is the act of lumping all loans together for the purpose of simplification. You may not save money by consolidating your loans, but you may be able to cut down on the number of monthly payments you're making. You can also potentially lower your monthly payments with an income-driven repayment plan and lock in a fixed rate if you have variable rate student loans.
Student loan refinancing, on the other hand, involves applying for a new loan under new terms, which will be used to pay off and replace your existing student loans. In most cases, the goal of refinancing your student loans is to get a lower interest rate, lower monthly payments, or both.
3. How do I become eligible to refinance my loans?
Most refinancing companies require a credit score of 680 or higher, a debt-to-income ratio under 40 percent, and a minimum monthly salary of $2,000 to qualify for the best refinancing options available. Some lenders, like SoFi, no longer look at your credit score and focus simply on your general "track record of meeting financial obligations" instead.
However, each individual lender will have slightly different eligibility requirements. Make sure to perform due diligence and ask about credit score and other requirements before submitting a formal application.
4. What are the consequences of refinancing federal student loans with a private lender?
When you refinance federal student loans with a private lender, it's important to know you lose out on certain benefits and protections afforded by the federal government.
Lost benefits include options such as Public Service Loan Forgiveness (PSLF), income-driven repayment plans, loan deferment, and forbearance.
Before you refinance a federal student loan with a private lender, you should take a close look at your situation to see if these programs could benefit you more than refinancing.
5. What benefits can I gain from refinancing federal loans with a private lender?
Where federal loans can offer myriad benefits including loan forgiveness, subsidized status, and forbearance and deferment, loans refinanced with a private lender may offer lower interest rates and better terms.
With that being said, the best student loan interest rates and terms are generally only available to graduates with good or excellent credit and an established work history. Students with high-interest federal loans, such as PLUS loans, may benefit the most from refinancing.
6. What is the best way to decide if refinancing is right for me?
If you're exploring refinancing as a way to save money or shorten the term of your loans, you'll need to run the numbers.
Most of the time, refinancing is a smart move if you are able to shorten the repayment horizon of your loan, save money on interest, or both.
7. What is the difference between a fix-rate and variable loan?
Fixed-rate loans offer interest rates that never fluctuate, which means your payment will stay the same no matter what.
Variable-rate loans, on the other hand, rise and fall based on various market conditions. As a result, the monthly payment on your variable loan can rise and fall as well.
Most private student loans that run on a variable rate use the 1-month LIBOR -- the reference rate international banks use when lending one another money.
8. What fees should I watch out for if I choose to refinance?
While some lenders do charge fees, none of the student loan refinancing lenders we've partnered with charge origination or prepayment penalties. But that doesn't mean you shouldn't check the fees before you refinance.
Before you choose a company to refinance with, it's important to compare these fees - or the lack thereof - to ensure you're coming out ahead.
9. Do I need a cosigner to refinance my student loans?
While you may not need to find a cosigner to refinance your student loans, there can be benefits for doing so. If you have a low credit score or haven't yet established a solid income source, for example, a cosigner with excellent credit could help you qualify for a loan with better terms and lower interest rate than you could get on your own.
However, having an established job history and good credit is generally enough to qualify for the best student loan refinancing options without a cosigner.
Can I refinance federal and private student loans together?
Some student loan refinancing companies now let you refinance federal and private student loans together. This can be especially beneficial for students or graduates who are paying multiple loans at various interest rates and want to refinance all of them into a simple loan with the best terms and interest rate available.
The bottom line
While student loan refinancing can seem scary from the outset, the right loan and company could help you save thousands in interest -- or even shorten your loan by several years. With that kind of reward on the table, anyone with student loan debt should at least entertain the thought of what it might mean to get a better loan with better terms.
Refinancing student loans isn't for everyone, but for the right borrowers, the benefits and savings can be life-changing.