Student Loan Refinancing Is Always A Good Idea
BY: Joy Wallet | May 14, 2020
The average monthly student loan payment is $393, according to the Federal Reserve.
That’s a lot of money to have to come up with each month to pay for something that’s not as tangible as a new car, home or just a dinner out.
And that monthly payment on a student loan is the national average, from recent graduates to those who are still paying off college debt from the early 2000s. The average grad’s student loan debt is around $35,000, so chances are that a recent graduate is paying more each than the average borrower.
Refinancing your student loan debt can help. Refinancing your current student loans for a new loan with a lower interest rate won’t eliminate the overall debt, but it will save you money on interest payments and make the monthly payments lower.
When Should You Refinance?
The first thing to consider is if you can refinance to a lower interest rate. This is the main way to lower your loan costs.
A student loan refinancing calculator can be found at many lenders or other websites to do this simple math.
Enter the balance, interest rate and remaining term for each loan. Then enter what the interest rate and term will be for the new loan. Search online or contact lenders for their rates.
To qualify for the best rates, you’ll need to have a good credit score at least in the high 600s. If not, a co-signer could help.
You’ll also need to have a steady income and be able to afford the new payment. Refinancing loans from private lenders is most likely to save you money because they usually charge higher interest rates.
Other factors to consider when deciding if you should refinance your student loans include:
You should be a graduate, left school, or are enrolled for less than half time.
You’re up to date on your loan payments and in good standing.
You have enough income to afford your expenses. Your debt-to-income ratio should be at least 50%, though below 20% is excellent.
Should You Refinance Federal Student Loans?
Another key to figuring out if refinancing is right for you is knowing what type of student loans you have.
Student loans through the federal government can only be refinanced through a private lender, and that comes with a lot of drawbacks. Once a private lender pays off your existing loans to the federal government and issues you a new private loan, you can’t return to the federal student loan program.
By not being in the government program anymore, you lose any student loan relief the government offers due to the coronavirus or other relief programs it offers. Other benefits that will be lost by refinancing federal loans into private loans include:
- Automatic suspension of payments and waiving interest on loans held for six months during the coronavirus pandemic.
- Potential loan forgiveness for teaching or working in public service for a nonprofit.
- Flexible repayment plans such as income-driven plans that base payments on income and family size, and forgive remaining debt after 20 or 25 years of repayment.
- Interest-free payment postponements if you lose your job or have financial troubles.
- Loan Discharge options if there is school fraud, you die or become totally and permanently disabled.
Federal student loans can’t be refinanced into a lower rate through the federal government, but they can be consolidated to give you one monthly payment. But consolidation won’t lower your interest rate.
Still, it could pay off to refinance federal student loans into a private loan if you’re willing to accept the above risks. If you have high-interest federal loans, such as for graduate school, then a lower rate with a private lender might be worthwhile.
Refinancing Private Student Loans
Private student loans are a lot easier to refinance, and are worth doing if they save you money. Switching to a loan with a lower interest rate is the main way to save.
Repayment terms can also be changed with refinancing. Two or more private student loans can be combined into a single refinanced loan with one payment. It’s sometimes called consolidation, but is the same as refinancing.
Payments can be lowered by stretching the monthly payments to as long as 20 years. Paying less each month will mean paying more overall because more interest will accrue, but it will free up money each month for other expenses.
A shorter repayment schedule to five or seven years can also be set up to help pay off your student loans faster. The monthly payments will likely increase, but you’ll be paying less overall.
A downside to refinancing private student loans is you’ll no longer be able to postpone payments if you re-enroll in school. And if your private loan provider has relief options during the pandemic, those won’t be available after refinancing.
If you have both private and federal student loans, you can refinance only the private loans to preserve your federal loan benefits.
How Much Can You Save?
A student loan refinance calculator or a lender can help you estimate how much you’ll save by refinancing at a lower interest rate.
Let’s say your current student loan balance is $30,000 at 7% interest over 10 years. Your monthly payment is now around $348.
Switching to a fixed 3.5% interest rate on the same balance for 10 years lowers the monthly payment by $52, putting your monthly payment at about $300. Over 10 years you’ll save $6,201 on interest.
Cutting your interest rate in half doesn’t affect the monthly payment much, but over 10 years it adds up to a fair amount of money. Now, the decision is what you’ll do with that $6,200 saved over 10 years.
Instead of letting it go unnoticed in your checking account, you could automatically transfer $52 each month into a savings account and slowly fund an emergency account. The savings from refinancing your student loan won’t help hour daily budget, but your future self will thank you if an emergency happens.