Student loan debt has become an increasingly heavy burden for millions of Americans. now tops $1.7 trillion, spread out among 45 million borrowers. With rising tuition fees and high interest rates on loans, payback periods can extend 10, 20 or even 30 years into the future.
Refinancing student loans to lower interest rates is an attractive option to reduce the cost of long-term debt. By refinancing, borrowers can potentially save thousands of dollars over the full repayment term of the loan. However, refinancing federal student loans causes them to transition into private loans, which means losing certain protections and benefits offered by the federal government.
This article will explore the pros and cons of long term student loan refinancing, outline the steps involved in the process, provide tips for getting approved, and answer some frequently asked questions on this complex topic.
What is Student Loan Refinancing?
Student loan refinancing involves taking out a new loan to pay off existing federal and/or private student loans. Ideally, the new loan should have lower interest rates or better terms, allowing the borrower to reduce monthly payments, total interest costs, or the loan repayment period.
Lenders assess applicants based on credit score, debt-to-income ratio, work history and other financial factors when determining eligibility and interest rates for a refinance loan. Having a steady income or a co-signer with strong credit can improve the chances of qualifying for lower rates.
Pros of Long Term Refinancing
1. Lower Interest Rates
The main reason borrowers choose to refinance is to reduce the interest rate on their student loans. Interest can make up a substantial portion of overall repayment costs. Lower rates mean paying off the principal faster and saving money over the life of the loan. Today’s rates are at historic lows, making now an optimal time to refinance debt racked up when rates were higher.
2. Flexible Loan Terms
Refinancing opens up options beyond standard 10-year federal loan repayment plans. Borrowers can potentially customize a new loan to have lower monthly costs over an extended 15 or 20-year term, or pay more each month over a shortened 5-7 year loan. Flexible repayment structures help ease cash flow issues.
3. No Prepayment Penalties
Most private student loan lenders do not charge prepayment penalties. This allows borrowers to pay down principal faster, with extra amounts applied directly to the balance rather than going mostly to interest. Paying off high-rate debt early leads to the most interest savings over the long run.
Cons of Long Term Refinancing
1. Loss of Federal Protections
One major downside of refinancing federal loans into private loans is losing access to federal repayment assistance and forgiveness programs. Options like income-driven plans and Public Service Loan Forgiveness help those struggling financially or working in public service fields.
2. Risk of Variable Rates
Borrowers who choose a variable rate when refinancing take on risk of interest rates rising over the life of the loan. Monthly payments and long run costs become unpredictable. However, starting with a very low rate can make it still worthwhile despite future fluctuations.
3. Origination Fees
Most private lenders charge upfront loan origination fees on refinances, usually around 1-5% of the amount borrowed. These add to the total costs. Look for lenders waiving origination fees for well-qualified applicants.
4. Tax Implications
In a federal loan, interest paid is usually tax deductible. With a refinanced private loan, deductibility depends on what the funds are used for. If paying off previous student loans, the interest remains deductible on federal returns. But deductibility does not apply to new private loans used for other expenses.
When Does Refinancing Make Sense?
As a rule of thumb, refinancing federal loans only makes sense once you have a steady career and qualify for the absolute lowest rates. Recent grads with entry-level pay may not benefit as much from refinancing until their financial profile improves. Those deeper into careers with strong credit scores are ideal candidates to refinance for monthly savings.
Borrowers who utilize federal repayment and forgiveness assistance programs are wise to not refinance those balances. Doing so would cut off access to these safety nets.
For existing private loans, refinancing at any point makes sense when monthly payments can be reduced or shortened. Even a 0.5-1% rate drop generates substantial extra savings over a 10-20 year term.
Steps to Refinance Student Loans
Follow these key steps when applying to refinance student loans:
1. Review Existing Loans
Detail all current student loans by lender, interest rates, loan types (federal vs private), balance owed and minimum payment. This helps determine the overall potential monthly and lifetime savings possible with a refinance. Compile login details for existing loan accounts.
2. Check Credit Reports
Order free credit reports from Equifax, Transunion and Experian to understand your credit score and history. Lenders base decisions and interest rates largely on credit, so borrowers with 700+ scores get better offers. If your score is lower, take action to improve credit over several months before applying to refinance.
3. Research Lenders
Compare offers from multiple private lenders. Weigh interest rates, fees, loan terms, eligibility criteria, customer service reviews and prepayment policies to select the best loan provider. Online lenders often offer very low rates and convenience.
4. Complete Applications
Start applications with a few lenders to shop rates. Be ready to provide personal information, tax returns, pay stubs, existing loan data and assets/income verification. This determines preliminary loan offers showing potential new monthly payments at various rates.
5. Evaluate Offers
Carefully review preliminary offers to understand proposed interest rates and how those influence long term payoff timeframes and savings. Then decide if it makes sense to proceed and which lender provides the optimal package. Decline offers unlikely to provide significant savings over current loans.
6. Close on New Loan
To finalize, complete processing tasks required by the lender providing the chosen offer. Sign final e-documents formalizing the new loan’s rates and repayment terms. The lender then sends funds directly to existing loan servicers to pay off balances, completing the consolidation.
Tips for Getting Approved
Follow these tips to boost chances of getting approved when applying for student loan refinancing:
- Improve your credit score – Borrowers with 700+ scores get better rates. Pay bills on time and reduce credit card balances to bump up your score.
- Apply with a cosigner – Adding a cosigner with excellent credit, like a parent or spouse, can help if your score is marginal. This shares legal responsibility for repaying the loan.
- Provide all needed documents – Have tax returns, paystubs, bank records and loan details handy to verify income, assets and existing student loan data.
- Explain special circumstances – If you have application flaws, lenders may still approve you after hearing explanations, like if you had past credit issues but now have a high income.
- Apply to multiple lenders – Each lender uses different approval criteria. If denied by the first, keep applying broadly to others who may still approve you.
- Consider starting with variable rates – Products with variable rates often have lower initial interest rates. You can refinance again later into fixed rates once you build more credit history with the lender.
5 Common Questions on Refinancing Long Term Loans
1. Should I refinance federal loans into private loans?
Only refinance federal loans if you can get significantly lower fixed rates and are financially secure enough to forego federal protections. Losing flexible repayment and forgiveness options is risky for new grads or lower-income professions.
2. Where do I find the best refinance rates?
Online lenders like Earnest, Splash Financial and College Ave offer very low rates to borrowers with strong credit profiles. Banks usually don’t match online lenders’ rates. Compare multiple lenders to find the best fit option.
3. How much money can I save long-term by refinancing?
Run loan calculators comparing your current interest rate, term length, loan amount and new proposed rate from refinancing offers. Plugging in this info shows projected monthly payments and lifetime interest costs in each scenario.
4. Should I refinance Parent PLUS loans in my parent’s name?
It depends on your relative credit scores and incomes. Refinancing Parent PLUS loans into the child’s name shifts legal responsibility. But if the child has better credit and income, they could qualify for lower rates and tax deductibility.
5. Can I change loan terms when I refinance?
Yes, refinancing allows customizing terms like repayment duration. You could shorten a 10-year loan to 6 years for faster payoff, or extend from 10 to 15 years to lower monthly costs. See tradeoffs: shorter terms have higher monthly payments but lifetime savings.
Conclusion
Refinancing high-rate student debt through a private lender can provide tremendous long term interest savings and flexibility. But borrowers should carefully weigh the pros and cons before giving up protections and assistance offered by federal student loans. Shop multiple lenders and compare potential savings vs risks to decide if consolidating debt into a refinanced loan is your smartest financial move.
Refinancing high-rate student debt can provide tremendous long term interest savings and flexibility when done strategically. But borrowers should carefully weigh all pros and cons before giving up protections and assistance offered under federal student loans.
Thinking short term instead of considering the full repayment period when weighing options is one of the biggest mistakes borrowers make. While refinancing federal loans leads to losing certain safety nets, private lenders offer lower rates that save far more money over the 10, 15 or 20-year lifespan of a loan.
The amount of potential savings over the lifetime of long term debt is often underestimated. Just a 0.5-1% rate drop, when compounded over a full repayment period, generates many thousands of dollars of interest reductions. Missing out on substantial savings by not refinancing is essentially leaving free money on the table long term.
However, each borrower’s exact situation can impact the cost-benefit analysis of refinancing significantly. Those relying on federal repayment assistance options will lose out if they refinance just for moderate rate reductions. Recent grads in lower-paying fields or with high debt-to-income ratios may benefit more from protections like income-driven plans until their earnings increase.
But for the majority of student borrowers established in stable careers, refinancing high-rate debt into lower fixed rates saves far more money overall. Paying several hundred dollars less in interest each month speeds up erasing the loan principal, often by years.
To illustrate savings potential, here is a simplified example scenario. A graduate with $40,000 in federal undergraduate loans at an average 7% fixed rate would pay roughly $430 monthly over the standard decade-long term. Interest paid would total $15,560.
Refinancing that balance into a 10-year fixed loan at 4% interest instead would slash monthly costs to around $380, saving $50 per month. Even more impactful, total interest paid drops by nearly $7,000 to $8,680 over the full term by refinancing.
Now picture borrowers with $100,000 or even $200,000 in accumulated federal and private debt, like those holding advanced degrees. The lifetime interest savings and shortened payback period offered by even small rate reductions becomes exponentially higher.
The takeaway is that refinancing interest costs can no longer be viewed short-term. Borrowers must consider complete repayment periods spanning 10-30 years when weighing giving up federal benefits in return for lower rates over the long haul.
Managing high student debt is a delicate balancing act. Look closely at total balances owed, interest rates paid across all loans, projected monthly cash flow and earnings trajectories for your career field before deciding on refinancing. Utilize online calculators mapping out your current debt picture vs potential scenarios.
While recent graduates or financially strained borrowers should refrain from refinancing federal loans too hastily, those deeper into careers can realize huge savings. Being tied to high-rate debt for decades severely hampers purchasing power and accumulating retirement savings. Slashing interest payments frees up large amounts of money to apply toward other financial priorities each month.
Everyone’s situation differs. But across the board, failing to refinance burdensome student debt into lower interest costs ends up being far more expensive long term. Taking the time to research options and run projections offers clarity if consolidating into a private refinance loan is your ticket to financial freedom down the road.