If you have recently graduated from college or graduate school with student loans, you might be wondering what to do about your loans. How long will it take to pay off the debt? How much would you have to pay monthly? When do you start the repayment?
Those are just some of the questions you may have as you are getting ready to start a new chapter of your life after school. This article will guide you through some of the terms you will need to know, concepts that are unique to student loans, and actions you can take to take control of your student loans.
I’m done with school. Now what?
Before you take a refinance offer or pick a repayment plan from a list of acronyms you do not really understand, assess your current financial situation and think about your career and goals. You cannot get to your destination if you do not know where you are starting.
First, you need to know what happens when you graduate, leave or drop below half-time enrollment from your college or graduate or professional school. If you have federal loans (such as Stafford loans), you may have a grace period or a deferment period, which is typically six months, before you have to start making payments. If you cannot make the payments, you may apply for forbearance. You are not required to make payments during the grace period, deferment or forbearance. However, be aware that interest may continue to accrue during the period of non-payment.
Take an inventory of your loans
Use this period of time to take an inventory of all the loans you have taken out during the course of your studies. If you have federal loans, log into or create your studentaid.gov account. You will see all of your federal loans listed there. If you have private student loans, you can get a free credit report to see all of your loans. You can get one from any one of the three credit bureaus or a site like annualcreditreport.com. If you only have private loans, you can skip to the section titled “Strategy #1: Paying your loans off as fast as possible to minimize interest.”
Federal student loans are unique and complicated
Federal student loans are different from other types of loans because they come with benefits such as flexible payments, forgiveness and forbearance or deferment. This plethora of options was put in place to make repayment easier for borrowers, but too many choices can be intimidating and it is easy to get overwhelmed.
The most important thing to know is that you do not always have to pay back the full amount of the loans you took out. For federal loans, when you repay under the standard 10-year plan or the extended and graduated repayment plans, you pay back the entire loan including the principal and interest over a set period of time. However, if you enroll in one of the Income-Driven Repayment (IDR) plans, you pay a percentage of your income for a set period of time and then the remaining balance is forgiven. This type of loan forgiveness can either be tax-free or taxable, meaning that the forgiven dollar amount is either counted as part of your income or not in the year it is forgiven.
Special considerations for Income-Driven Repayment plans
Pursuing loan forgiveness in an IDR plan can be quite complex and therefore, it is important to know how the system works and have a strategy to navigate through it if you want to save money. If you are enrolled in an IDR plan, you should know that:
- You must verify your income every year to recalculate your monthly payments.
- If you are married and file your taxes as Married Filing Separately instead of Jointly, your monthly payment is lower in all but one IDR plan (the one exception is the Revised Pay As You Earn plan) because only your income is used to calculate the payment amount.
- Loans paid under an IDR plan qualify for forgiveness if there is a balance remaining at the end of the term.
Also, look for communications from your loan servicer. They handle the administrative tasks relating to your student loans, such as billing, at no cost to you. However, do not rely on the servicers to choose your repayment plan or strategy because the servicers are not trained finance professionals. There are short- and long-term implications for any student loan repayment option you pick, and they can be significant. Depending on the plan you choose, you can save or lose thousands (or even hundreds of thousands) of dollars. YOU need to know what strategy is best for you!
Beware of scammers
There are a lot of third-party companies that take advantage of borrowers who are confused by the federal options. Some may offer to consolidate your federal loans for a fee, or even worse, offer discounted repayment options that do not exist. There are no fees for changing repayment plans or consolidating within the federal system, and the government will never contact you to offer a “discount” or a “deal” for your student loans. If you get such an offer, ignore them. These scammers often sound professional and knowledgeable. DO NOT, under any circumstances, give out your personal information, such as your Social Security number or your studentaid.gov login information.
Prioritize your career and goals: What’s most important to you?
When you know how much you owe and know what to expect after you graduate, you must assess where you are financially at the moment and where you think you will be and want to be in the short term and long term. If you have a job, what is your income right now? How do you expect your income to change in the next five, 10 or 20 years? What are your career plans and goals? And perhaps more importantly, what is most important to you? Do you want to be debt-free and financially independent as quickly as you can and want to live frugally to achieve that goal? Or do you want to get married, buy a house, and enjoy time with your family while you manage your loans long-term?
There is no right or wrong answer. When you have the big picture of your financial situation and goals, you can start strategizing.
Strategizing based on your goals
If you want to prioritize saving money, there are two main loan repayment strategies:
- Pay your debt off as fast as possible and minimize interest.
- Pay as little as possible and maximize forgiveness.
Strategy #1: Paying your loans off as fast as possible to minimize interest
By paying off the entire balance of your loans as fast as you can, you can save money because you are minimizing the interest accruing on the loans. You can also reduce the interest rate by refinancing your loans to get a lower interest rate as shown in this article, "With Private Loan Interest Rates So Low, Should You Refinance a Federal Student Loan?"
You can save a lot of money by shopping around for good rates, and it is often a good idea to refinance multiple times if you can save money. However, if you have federal loans and you are considering refinancing, it’s important to know that you will permanently remove your loans from the federal system, which means that your loans will no longer be eligible for benefits such as IDR plans and loan forgiveness.
Strategy #2: Paying as little as possible in IDR and maximizing forgiveness
A lot of us are taught to get rid of debt, so this may seem counterintuitive, but if you pursue forgiveness, you can save more money by paying into your loans as little as possible. Those who pursue this strategy should explore all of the planning strategies used to lower their monthly IDR plan payments and make sure they are doing everything correctly to be on track for forgiveness. (To see an example of how IDR plans and forgiveness program work together, you can take a look at the case studies in this article, “The Best Way to Pay Off $250,000 in Student Loans.”)
An alternative strategy: Keeping your loans in the federal system
There is another strategy that is less commonly pursued because it might not necessarily save you money. Let’s call this the “federal insurance” strategy. With this strategy, you keep your loans in the federal system even if it costs you more, but you would be protected from any unexpected events, such as losing your income. Think about how federal borrowers who lost their jobs during the pandemic benefitted from the 0% interest and the payment freeze that was put in place in March 2020. This is a good strategy if you are expecting or experiencing big life changes, such as a growing family or job changes, and your cash flow is not stable.
Student loans can be intimidating. You may hear terms such as refinancing, consolidation, income-driven repayment plans and their confusing acronyms and wonder if you should also do whatever it was that your friend did. But questions like “Should I refinance?” or “Should I consolidate?” are not the questions you should be asking first. They are simply tools for managing your finances to live the kind of life you want.
It is very important to explore your student loan repayment options to figure out what is best for your situation. If you are not sure what to do with your student loans, contact a professional with expertise in student loans.
Saki Kurose is a Certified Student Loan Professional (CSLP®) and a candidate for the CFP® certification. As an associate planner at Insight Financial Strategists, she enjoys helping clients through their financial challenges. Saki is particularly passionate about working with clients with student loans to find the best repayment strategy that aligns with their goals.
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