Nearly 45 million Americans have some kind of student loan debt, and the system for paying back those loans can be confusing. That means it's all too easy to make a mistake that costs you thousands of dollars.
One of the biggest, and potentially most expensive, issues for borrowers once they've started to repay their loans is that many assume they're in the right type of repayment plan. But that may not be the case, says Elaine Griffin Rubin, senior contributor at financial aid site Edvisors.
Lots of people get stuck in a routine when paying down student loans, she says. Instead, every time you get a raise or a bonus or some sort of boost in income, make it a priority to ensure that you're paying down your loans in the way that makes most financial sense for you.
Adam Minsky, a lawyer specializing in student loan law, agrees and suggests you "reevaluate the repayment plan at least every couple of years or so." If you're on an income-driven plan, for example, your financial situation two or three years from now may be different. You may have gotten married or divorced, or have bought a house, he says: "Circumstances change."
Your plan may need to change, too.
Federal student loan repayment plans can be divided into four general categories:
- Standard repayment plans, which spread equal payments out over the term of the loan, typically 10 years
- Graduated repayment plans, which start off with lower payments that ramp up over time
- Extended repayment plans, which generally give borrowers up to 25 years to pay back the loan
- Income-based plans, which allow for monthly payments based on your income level
Within each of these structures, there are several types of federal loans. Within income-driven plans, for example, there's the Revised Pay As You Earn Repayment Plan (REPAYER Plan), which generally caps payments at 10 percent of your discretionary income, and the Income-Based Repayment Plan (IBR Plan), which caps payments at 10 percent of your discretionary income if you're a new borrower.
"There's no one-stop shop to find what the optimal repayment plan is," Minsky says, adding that servicers don't always give out fully accurate or complete information.
As Diane Cheng, research director at the Institute for College Access & Success, puts it, "There's a wide recognition that the system is too complicated, there are too many repayment programs and it's hard for borrowers to navigate."
So it's really up to borrowers to figure out which plan is best suited for your life and goals.
There are trade-offs no matter what repayment plan you choose, but it's still important to understand the specifics. For example, for some workers, an income-driven repayment plan may allow you to make smaller monthly payments. Unfortunately, this may also mean paying off loans over a longer period of time.
The average American with student loans has a balance of $32,731. If you increased the loan term by five years, the monthly payment on a loan with 5.04 percent rate would be more than $50 cheaper — but you'd end up paying almost $4,000 more.
Graduated plans can also get borrowers into trouble, Minsky says. You start off with lower payments, but those are only going to cover what you owe in interest, and meanwhile the principal will continue to accrue new interest. Since the balance of the loan isn't going to drop, it may feel like you're running in place.
Plus, he says, the gradually increasing minimum payments may not work with your career trajectory. Law school grads, for example, may go work for a big firm for a few years and then take a pay cut to do something else, like work for the government or at a non-profit.
"Graduated plans are generally not good repayment plans for people," Minsky says. "They were really designed for another era when incomes would be increasing faster than the rate of your payments, and today, that's not really true in many cases."
It's also important to understand the requirements for each type of plan. Borrowers in an Income-Based Repayment Plan, for example, need to provide their loan servicer with info about their current income and family size every year, even if there are no changes, Minsky says. If you don't, the consequences can be severe: Your interest could capitalize, which means it gets added to the principal balance, or your payment could go up substantially.
"It can be a pain to get back on track again," Minsky says.
The Department of Education released a report in 2015 that found more than half of borrowers in these repayment plans missed the deadline.
The key takeaway here, experts say, is, Don't get stuck on autopilot when it comes to paying your federal student loans. If you find you can pay more on your loans without sacrificing your standard of living or your savings goals, it's worth looking into a different plan that could help you get out of debt faster.
In the end, this will likely save you money because you won't pay as much in interest over time.
To go about switching plans, you typically have to contact your loan servicer, or the company that handles the billing and other account maintenance. Many times, borrowers will be working with more than one. Sometimes switching requires an application, sometimes it requires a call and sometimes it can be done online.
Be careful, though: "Depending on the specifics, there can be some hoops people have to jump through, and sometimes there are negative consequences," Minsky says.
Leaving an IBR plan, for example, isn't simple. If you're in an income-driven plan and you change to any other type of plan, any outstanding interest that has been accruing can capitalize. "That's often a consequence people aren't aware of," Minsky says.
You can't go directly to another plan, either, he says: You have to go to standard repayment for a month before you can switch. If you can't afford the standard plan payment, you'll have to do forbearance, which will allow you to temporarily stop, or reduce, your payments, but to make that happen you need to apply separately through your loan servicer.
You can also make a positive change without switching plans by paying a little more every month on the loan you do have, Griffin Rubin says. Generally, there's no penalty for paying more than the monthly minimum, so if you can afford to do it, it's a good option.
If you try this, make sure to tackle one loan at a time. One of the biggest mistakes people make is trying to focus on several loans at once, Griffin Rubin says, and that doesn't usually have the same impact.
Make sure the extra money is going to pay off your balance, rather than simply getting credited as your next scheduled payment, too, she says: "If you're just moving up your payment date, yeah, you're not going to have pay it next month, but you're not going to have any financial savings from that."
In general, experts say it's crucial to keep track of your loan balance and reevaluate what you're paying based on your current circumstances. If you realize another plan could save you thousands of dollars in the long run, look at the pros and cons of switching.
"It's easy to get comfortable with [student loans] because you're paying what you need to pay and life is going on," Griffin Rubin says. "But there's always a way to make it a little bit better. If you can make some sacrifices now, you won't have this looming over your head in the future."
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