November 21, 2012 in Financial Aid
There’s no way out of it — taking out student loans means taking on future debt. Always keep in mind that student loans are an investment and your education and degree are the payoff; but still, your loans need to be repaid and can create major headaches if you don’t stay on top of them. So before you take that plunge, it’s best first to understand all your available options.
Before Taking out a Loan
• Student loans are your last resort in financial aid, after exhausting available scholarships, grants, and work-study programs.
• Take out available federal loans first, before private loans — federal loans almost always have lower interest rates and more flexible repayment options. If needed, federal loans can also be consolidated (see below).
• Don’t borrow more than you think you can afford. Estimate how much you can realistically afford to borrow and how much that will cost you each month.
MappingYourFuture.org outlines these basic steps and includes additional details and tools to help you.
Pay back early and often. For both federal and most private student loans, there is no penalty for prepayment, and over time this can greatly lower the total interest you will have to pay. Start by paying down the loan with the highest interest rate first. The quicker the better — the sooner you pay down your principal, the less interest you will be charged. This is the single most effective way to reduce the cost of your loans.
On the other hand, if you’re having trouble with standard repayment, you may be able to apply for a different option.
• Extended Repayment
Your loan can be extended from the usual 10 years to a term ranging from 12 to 30 years (depending on the amount borrowed). Your monthly payments will be lower but because of interest you will end up paying more overall.
• Graduated Repayment
Like extended repayment, this extends the term of your loan from 12 to 30 years but starts with lower payments that gradually increase every two years.
• Income-Based Repayment
There are several options for income-based repayment that require paying a fixed percentage of your income for up to 25 years. In some cases, any balance remaining after that time will be forgiven (although you will have to pay taxes on it). And if you are in public service (such as the military, teaching, or social work), you may be eligible for further benefits.
Should your financial situation change, you can switch between repayment plans once every year, with some restrictions. The Consumer Financial Protection Bureau offers more details about debt consolidation. FinAid.org also offers a quick reference guide you can download.
Contingencies for navigating student debt
• Grace Periods
You are typically given a grace period while you are in school before you have to start paying back your student loans. For federal student loans this is six months; for private loans this usually varies from six months to a year. DO NOT forget when your grace period expires; mark the date down on your calendar, tie a string around your finger… do whatever it takes to avoid getting hit with late fees and other penalties for missing payments that may otherwise sneak up on you.
• Refinancing and Consolidation
As interest rates fluctuate, you may be able to renegotiate the terms of your loan for a better rate. But probably of greater concern is what to do if you have trouble making payments. First, to refinance a private loan, you will have to talk with your loan servicer (who may not be your lender). While a private lender may or may not be willing to work with you, you’ll never know until you ask.
Federal student loans, on the other hand, offer a number of built-in options, including debt consolidation, to combine all your federal loans into one. While it helps to pay off multiple loans with a single monthly payment, you won’t pay less — your new interest rate will be adjusted to the average of your original loans (or slightly higher) and you won’t be able to pay down your higher interest loans first. Unlike refinancing, consolidation is not a means to reduce the cost of your debt; it merely simplifies your repayment schedule to reduce the chances of missing a payment and getting dinged with fees and penalties.
• Deferments and Forbearances
If you are undergoing a temporary hardship or setback (such as a medical issue or unemployment) you may postpone repayment of your federal student loans for a fixed period of time. Eligibility rules apply; the Department of Education’s Federal Student Aid office has more information.
• Loan Forgiveness
Under certain extreme circumstances (such as substantial physical disability) your federal student loans can be forgiven or discharged in full. See the Federal Student Aid website for more details.
The most important strategy in managing your student debt is simple: KNOW WHAT YOU OWE. Keep track of your outstanding loans, understand what you can afford and know your options are for repayment. Things change, and while you can’t know what the future holds, you should be prepared going into it. Then you’ll be ready with the tools you need to adapt and manage your debt as life happens.