If you have college or graduate school student loans, you may be wondering – what is the best student loan repayment plan for me?
The right repayment plan for you will depend on your income, credit history and many other factors such as your ability to support higher monthly repayments. This article looks at how to pick the best student loan repayment plan for you.
Federal Student Loan Income Driven Repayment Plans
If you have a federal student loan, your monthly repayments may depend on your discretionary income, which is defined as the amount by which your adjusted gross income exceeds the poverty line.
The most common are:
- Income Based: Pay 10-15% of your discretionary income over a 25-year term.
- Pay As You Earn: Pay 10% of your discretionary income over a 20-year term.
- Income Contingent: Pay the lesser of two options, being 20% of your income over a 25-year term, or a fixed amount over a 12-year term.
Another advantage of income driven repayment plans is that once you finish the stipulated repayment term, all remaining student debt is forgiven.
Prepayment On Federal Student Loans
If you have sufficient income, you may be able to repay your student loans early. This gives you the benefit of paying less over the life of your student loans, as less interest will accrue. For instance, if you have a $200 per month loan repayment, but you pay $250 instead, the extra $50 can go towards reducing the principal of the loan, minimizing future interest.
As best practice, make sure you communicate in writing with your lender about any prepayment to be sure that it goes towards paying off the loan principal, and not towards your next loan payment.
Reducing Federal Student Loan Interest Rates
Looking for lower interest rates on student loans can be a good strategy, but there are several important factors to consider. For example, the Standard Repayment Plan for federal student loans provides the shortest repayment term, however, repayments start at a fixed amount of at least $50 per month.
For federal student loan repayment plans, generally if you make higher repayments each month (i.e. prepay), less total interest will accrue, potentially resulting in significant savings over the life of the loan.
Student Loan Deferment
Deferment of a student loan means that you are given extra time before you start making repayments, for example during the first year after graduation while you search for full-time employment.
Other reasons for deferment might include illness, further education, major injuries, or unemployment. Keep in mind that interest on the student loan continues to accumulate during deferment, making your total overall repayments more costly (except in the case of certain federal loans such as Perkins Loans and Federal Subsidized Loans).
Deferment may be beneficial if your income grows substantially within a few years and repayment is difficult in the short term. However in most cases, deferment results in an increased total debt burden if interest accrues during this period.
While almost all student loans can potentially be refinanced, it’s important to be aware that refinancing your federal student loans may result in the loss of certain federal protections and benefits.
To see how much you can save by refinancing your student loans, visit Credible.