The key benefit to refinancing a student loan is finding one with a lower interest rate. However, there is much more to consider. As an example, certain types of student loans offer a number of protections and privileges you’ll forego if you refinance.
So, with those factors in mind, does refinancing a student loan make sense?
Let’s take a look at the details.
Key Considerations to Ponder
Student loans come in two basic flavors, private and federal. Federal student loans typically have a number of safety valves built in to give you room to build a life when you finish school.
Income-driven repayment plans tie your monthly payments to your salary. In other words, the lender sets the payment to coincide with a certain percentage of your income, rather than establishing an arbitrary amount. This leaves you cash to get a place to live and other necessities of life while comfortably servicing your loan.
Loan forgiveness programs such as the Public Service and Teacher Forgiveness options render loans paid in full after a certain time period of continuous service and a good payment history. This can add up to a great deal of money, not to mention make part of your education free of charge.
Loan deferment and forbearance options are also provided for recipients of Federal Student Loans. These features allow you to suspend payments under certain circumstances, within which making them will create a financial hardship.
Refinancing from a federal into a private loan will usually strip you of most, if not all, of those options. Plus, there’s no going back once you’ve done so.
Let’s say you have a federal student loan of $30,000 at eight percent interest with a ten-year term. If you can find a lender willing to take on that loan at five percent over the same period, you’ll save over $5,000 and your monthly payment will be just under $50 a month less.
That’s a pretty significant sum to pay to get the protections a federal loan offers. Further, federal student loans cannot be discharged under bankruptcy. They are also usually exempt from debt settlement programs like those offered by Freedom Debt Relief if you run into serious money problems and need to negotiate fee reductions and interest rate adjustments.
The Smart Way to Do It
On the other hand, refinancing your federal student loan could set you up for trouble without those safety mechanisms in place. You must be absolutely certain you’ll be able to repay the obligation. You’ll also need a very strong credit history to qualify for the lowest rates available with a private loan.
What’s more, when you apply for the refinance, your credit history will be examined as if you’re applying for any other type of loan. This means your payment history, debt-to-income ratio, and credit utilization will all come into play. You’ll also need to show a history of on-time payments on the loan you’re refinancing.
Know Your Lender
Student loan refinancing is a burgeoning industry. As a result, there are solid players and there are those of nefarious intent. Carefully vet any lender before agreeing to take a loan.
Check out their reputations with the better Business Bureau and peer review sites like Yelp. What are people saying about the way these lenders do business? What kinds of concessions are they willing to make if you hit a rough patch and need additional time to pay?
With all of that in mind, does refinancing a student loan make sense for you? That’s a question only you can answer. However, you’re in a much better position to do so now that you know the pros and cons.