How to start paying student loans – best practices guide
[This is the first installment in a series examining repaying student loans. Part II will discuss an alternative payment plan, Revised Pay As You Earn or REPAYE.]
As someone who started off her debt reduction journey on Get Rich Slowly with some pretty astronomical student loan debt, I've learned the hard way about the repayment process. And with school starting up again and many feeling tempted to borrow, I wanted to share some of that retrospectively gained wisdom.
A staggering number of college grads start their careers with student loan debt, and many of them struggle to get ahead as a result.
But whether you're just starting your college journey or you're a recent graduate with monthly payments looming on the horizon, here's what you need to know about how to start your student loan repayment off right.
Reduce your overall debt
If you've already graduated, there's no way to go back in time and borrow less money. But, if you're still in school, then this is the tip to take to heart: Don't borrow more than you need while in school. The less you borrow as an undergraduate, the less you'll have to pay back later.
If you're contemplating a graduate degree, read how to minimize your grad school debt.
Yes, a new computer, a car, travel, and other aspects of lifestyle inflation may be calling you, especially when the money's so easy to come by. However, living frugally while you're a student means being able to use more of your hard-earned money later, whether it's to build your savings account to buy a house or meet other financial goals. Don't put yourself in a situation where you'll be a slave to your former lifestyle.
Know how much you owe
Since borrowing happens incrementally over several years, all too many graduates have no idea how much they owe. Additionally, since the originator of your loan (who cut you the check) may not be the same entity as the servicer (who you make payments to), and since servicers can sell loans to other servicers, knowing who you owe how much to can be tricky.
Here's how to find out how much you owe
Enter the Department of Education's National Student Loan Data System (NSLDS). This system will tell you about Title IV loans and grants that you were awarded.
If you acquired non-Title IV loans (i.e., private loans), they may not be listed on the site, so make sure you track those down as well. Servicers will find you if you don't find them, but you don't want things to get to that point! Plus, having all the information at your fingertips can help you plan your repayment strategy.
Pick a repayment plan
The default repayment plan is the standard plan, in which you have a fixed payment, or in other words, you pay the same amount each month for 10 years. However, other plans are available, and something else may be a better fit for your circumstances. Repayment plans for federal loans also include:
- Graduated repayment plans, in which monthly payments start out small and gradually increase over the repayment term. You'll pay more in interest but have lower monthly obligations when you're just starting out (and earning less money than you probably will later, after your career progresses).
- Extended repayment plans, which can be fixed or graduated in terms of monthly payment and which extend the repayment term from 10 to 25 years. This option also increases the amount you'll pay in interest.
- Income-based repayment, or IBR, which extends the repayment term and caps your monthly payment at 15 percent of your discretionary income if you meet the eligibility criteria. While any remaining balance at the end of the repayment term will be forgiven, it will be taxed as income.
- Pay as you earn, or PAYE, which is similar to IBR except the cap is 10 percent of your discretionary income. There are additional eligibility criteria.
- Income-contingent and income-sensitive plans that are similar to IBR and PAYE but with slightly different eligibility criteria and repayment formulas.
Confused? The Federal Student Aid repayment estimator can help you determine eligibility and projected monthly payments before you contact your servicer to ask to be put on a plan.
One thing that's important to remember is that you can switch payment plans if you need to. Also, I believe that once you qualify for an income-driven plan, you can't be kicked off and your monthly payments will never be more than they would be under the standard plan. So if you qualify, it may be a good idea to get on one of those plans before you're making too much to meet the criteria.
Decide whether to consolidate at all — and if so, which loans to include
Federal loans can be consolidated into a Direct Consolidation Loan or a private consolidation loan. Private loans can only be consolidated into private consolidation loans.
Tip: If you are consolidating, you don't need to include every loan. It is almost always a bad idea to consolidate a federal loan into a private loan, since federal loans come with benefits that are lost if they “turn into” private loans. Those benefits include clear policies on deferment and forbearance, fixed interest rates, and income-driven repayment plans.
Beyond that, it's worth mentioning that consolidating loans generally results in an interest rate that is the weighted average of the consolidated loans (usually the average interest rate of all the loans plus 0.25 percent). While having fewer payments a month decreases the likelihood that you'll miss one by accident, you will pay more for the privilege.
Make payments on time, every time
This goes for any bill or debt, obviously. However, not paying student loan debt can have some pretty nasty consequences. Not only is student loan debt not dischargeable in bankruptcy; if you don't pay, then your federal income tax returns or even your wages can be garnished.
Automating your monthly payments can help you avoid these consequences, and most servicers will give you a modest (~0.25 percent) interest rate reduction for setting it up. Just make sure there is always enough money in your bank account to cover the bill.
What to do if you can't make payments
This cannot be emphasized enough: If you're having trouble making your payments, tell your servicer. Don't stick your head in the sand. You don't want to let things progress to the point where your tax returns or wages are being garnished and/or your credit is ruined.
You may qualify for a deferral or forbearance, or your servicer may have other hardship options not advertised on their website. You'll never know if you don't ask. Again, since student loan debt isn't dischargeable in bankruptcy, ignoring the problem won't make it go away.
If you feel that you are being mistreated or given the runaround by your servicer, consider submitting a complaint to the Consumer Financial Protection Bureau (CFPB), a federal agency that will work with you and your servicer to address the issue.
Maybe #StudenLoanDebt is trending, but believe me, you want it to be a thing of the past as soon as possible!
What advice would you give to someone as they start repaying their student loans?