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Why You Should Think Twice Before Refinancing Your Student Loan

Why You Should Think Twice Before Refinancing Your Student Loan

Thanks to a historically low interest rate environment, student loan refinancing rates are as low as they’ve ever been. While it’s tempting to consider refinancing the loan to reduce monthly payments, it would be important to take a long look into your future to see whether it might actually make your situation worse.

Refinancing Can Leave You Exposed

Although federal student loans can be refinanced by a private lender, once they are converted, you lose all of the protections available with federal student loans, such as loan deferment, forbearance, and forgiveness. Deferment and forbearance allow student borrowers to postpone or reduce payments during periods of financial hardships.

Your biggest consideration in exploring the use of refinancing should be whether you see yourself ever needing to use a federally authorized income-based repayment plan which can lower your payments by extending your payment term. While lowering your interest rate can provide some immediate relief in the form of lower payments, you leave yourself exposed should your financial situation change in the future.

When Refinancing Might Make Sense

Not every borrower is a candidate for refinancing. There are several factors to consider in determining whether you would be better off refinancing or preserving your federal loan repayment options and protections.

When you have a good credit score: If you don’t have a credit score of 650 or higher, you should probably not consider refinancing. The likelihood is you wouldn’t qualify for an interest rate low enough to reduce your payments substantially. Unless your refinanced interest rate is 1.5% to 2% lower than your student loan debt, it is probably not worth it. However, you could consider using a cosigner who has excellent credit.

When you have a good job and steady income: If you are confident in your job security and are earning a good steady income, you may not have to worry about repayment options. However, life could change on a dime, so give it some serious thought.

When you don’t think you will ever need an income-based repayment plan or loan forgiveness: If you can see into the future and figure you won’t even need access to an income-based repayment plan, then go for it. But it’s tough to have that much certainty in your future. Also, if you don’t plan on going into public service, you won’t need the federal loan forgiveness program.

When Refinancing Doesn’t Make Sense

If you are currently experiencing or think there is a possibility you will experience any of the following, you probably shouldn’t consider refinancing:

  • Job insecurity or poor job prospects
  • Unstable or irregular income
  • You’re considering a career in the public sector, such as teaching, nursing, or law enforcement, that qualifies for federal loan forgiveness
  • Your credit standing is questionable
  • The interest rate on your student loan debt is already low
  • You think there is a possibility you might need to access an income-based repayment plan in the future
  • You would do just as well using a federal consolidation loan

Just remember, if you think you might need income-based repayment in the future, you must be able to show a partial financial hardship. To qualify, your monthly bill on a 10-year standard plan must be more than what you would pay with an income-based repayment plan. If you don’t meet the income-based plan threshold, you can still lower your payment to 10% of your income using the REPAYE (Revised Pay As You Earn) plan, which doesn’t have a financial hardship requirement.

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