How much do you owe on your student loans? If it’s less than $30,000 consider yourself lucky. That’s because the average American with student loans has an average of $30,000 in debt with a monthly payment of almost $250. There are people who have interest rates as high as 8% and are struggling to get them reduced. The most popular way to do this, of course, is to refinance your student loans. If you were able to do this you should then have a much lower interest rate and a lower monthly payment. This would be a great way to make better progress on eliminating your debt. However, it might be just a short-term option that would cause you to have more problems going forward.
Understanding refinancing
If you have a loan at a high interest rate – whether it’s a federal or private loan – you could refinance it by getting a new loan from a private lender and then use the money to pay off your loans. This should mean a lower interest rate as well as a new repayment term.
The two options
If you believe you could save money by refinancing your student loans you have two options. You could get a private loan or a federal Direct Consolidation Loan. In either case, if you have student loans at high interest rates then refinancing them using either of these options will literally save you thousands over the life of the loan.
If you choose to get a loan from a private lender
If you think your best option would be to get a loan from a private lender you need to research your options and look at offers from a variety of lenders to make sure that you’re getting the best interest rate and terms. The site LendEDU is a great resource as it will allow you to compare multiple offers in one place so that you can find the loan that would come closest to meeting your needs.
A Direct Consolidation Loan
If you have Supplemental Loans for Students, subsidized and unsubsidized Stafford loans, Perkins loans, Federally Insured Student Loans, PLUS loans, direct loans, and just about any other kind of federal student loan you could get a Direct Consolidation Loan. Your new interest rate would be the weighted average of your current interest rates rounded up to the nearest 1/8th of a percent. You would need to do the math to see if this would actually save you money though it would definitely make things easier as you’d then have just one monthly payment.
Before you leap into a consolidation loan, it’s important to consider these four factors.
1. The term of the loan
It’s possible that if you refinance your loans, your monthly payment could be cut in half. But it’s important to understand that you will end up actually paying much more over the life of the loan. This is because in order to get such a low payment your term will almost certainly be extended from the normal 10 years to 20 years or more. This means you’ll end up paying thousands of dollars more in interest over the loan’s duration.
2. The interest rate
If you choose to consolidate your student debts with a private loan you have two options – a fixed or variable interest rate loan. It’s currently possible to get a variable interest rate as low as 2%. However, this can change every year and could eventually go as high as 8% or even 10%. The interest rate on fixed-rate loans are generally higher than variable-rate loans but the interest rate is guaranteed to not increase over the course of the loan. If you want to quickly pay off a small amount of debt then a variable rate loan might make the most sense. On the other hand, if you feel you will need five or more years to pay off the loan than a fixed interest rate will provide more security.
3. Options for deferment
One of the biggest benefits of a federal student loan is that if you run into a financial hardship, such as losing your job, you could defer your payments. You would likely lose that benefit if you refinance through a private lender as very few of them offer this option. Before you sign up for a private loan, make sure you understand the company’s policies regarding financial hardships so that you would be prepared to weather a worst-case scenario.
4. Prepayment penalties
If you get a loan from a private lender you could be hit with a prepayment penalty, which means you would owe a fee if you decide to pay off your new loan early. There are cases where this may be a small fee but with other companies you might find the penalty to be very prohibitive. Check to see if there is a prepayment penalty before signing up for a loan. If you find there is one, you might want to check out another lender.
Where to get a private student loan
If you wouldn’t qualify for a federal Direct Consolidation Loan or just feel that a private loan would be your best bet, you have some new options. Until recently about the only places you could get private consolidation loans were banks. However, there is now a thing called peer-to-peer lending. For example, the website SoFi is a social lending and peer-to-peer site that specializes in student loan refi’s. It can offer better interest rates and terms because it eliminates the traditional middle man. Instead, the money being loaned comes directly from other individuals. SoFi is a membership site and as such it offers benefits such as career coaching and unemployment protection.
Other online peer-to-peer lenders where you might be able to get a consolidation loan at a good interest rate include Upstart, Peerform, Lending Club and Funding Circle. However, be aware that with some of these lenders you will need to have a pretty good credit score in order to get a loan.
If you’re not familiar with peer-to-peer lending, here’s a short video that explains it in a light-hearted way.
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