If you’ve graduated in the last ten years, it won’t come as a surprise to you that we have a big problem with student debt. Currently, students in the U.S. are graduating with an average of over $28,000 in loans with many graduates owing even more than that.
That’s a considerable number of borrowers who are struggling with their repayment. Other borrowers are also having difficulties repaying their loans or are paying too much in interest.
But many graduates could save a considerable amount of money on their student loan payments if they were to refinance their loan at a lower rate. In fact, a recent report estimated that over 8 million borrowers could qualify to refinance their debt if they applied.
So, what do you need to know about refinancing your loans? Here are 3 things to consider:
- How to Qualify
When you’re refinancing your student loans, you’re taking out a new private student loan that will be used to pay off either your federal loans, your private loans, or both. Just like other private student loans, you will need to apply to refinance your loans and the lenders will look at your credit and your income in order to decide if they are willing to lend to you and to determine the interest rate you qualify for. Depending on your credit score, you might a higher or lower interest rate.
If you cannot qualify to refinance your student loans because you don’t make enough or have a low credit score or if you would like to qualify for a lower rate, you can potentially ask a co-signer to help out. Since students were often required to have co-signers on their private student loans in the first place, your co-signer on your existing loans might be willing to help. If they are, look for a lender that has something called co-signer release. This will allow you to remove the co-signer from their obligation around your student loan if you make a certain number of on-time payments.
- Variable vs. Fixed Rates
When you refinance your student loans you might have an opportunity to choose either a variable or a fixed interest rate. Federal student loans currently all have fixed rates, but many private lenders offer both options. What’s the difference between the two?
A variable interest rate means that the interest rate you pay will vary over the course of your student loan. That means that it would start at 5% but could but up to 7% or down to 4% in the future. Variable rate loans set interest rates based on current rates and so change over time.
A fixed rate loan means that you will always pay the same interest rate. If you qualify and take out a loan at 4% interest, then you will always pay 4% interest over the life of your loan – even if interest rates go up or down.
Typically, variable rate loans have lower introductory interest rates, but they carry the risk that they could go up significantly in the future. Many people opt for fixed rate loans because of the guarantee of a low rate over the life of the loan.
- Loan Terms
Many student loans have 10 year repayment periods, but when you refinance your loans, you have a number of options when it comes to loan terms. Many lenders offer you the choice of 5, 10, 15, or 20 years. These options allow you more flexibility in deciding how much you want to pay each month.
For those who feel overwhelmed by their loan payments, it might make sense to choose a longer loan term. By doing so, your monthly payments will be lower. The drawback is that by choosing that longer term, you will end up paying more in interest over the life of your loan. However, so long as your loan servicer allows you to make additional payments on your loan without penalty, you could get a longer loan and pay it off faster.
If you choose a shorter loan term, you will be saving yourself interest by paying off your loan at a faster pace and that will mean that you’ll be out of debt faster too.
The Bottom Line
Refinancing your student loans is a great way to save money on interest and to potentially pay off your loans more quickly. But before you refinance your loans, take some time to consider whether you want a variable or fixed interest rate and how long of a loan term you would prefer. You should also be aware that refinancing federal loans will mean that you will lose many of the protections that they offer like the income based repayment program and the option to defer your loans. Some private lenders do offer great benefits and protections as well – so be sure to check to see what your lender offers.