During our webinar about Student Loans 101 (Repaying), participants asked dozens of questions about deferments and forbearances, grace periods, repayment plans, tax breaks, loan discharges, loan forgiveness and default. Here are the answers to many of the questions about repaying student loans.
I have a federal loan with an interest rate of 5%. Do you see it going any lower after this crisis? I would like to refinance after the pandemic 0% rate is lifted.
You can’t refinance a federal loan into a new federal loan to take advantage of the new rates. The lower interest rate on federal student loans starting July 1, 2020 is limited to new federal student loans, not federal consolidation loans.
The interest rate on a federal consolidation loan is based on the weighted average of the interest rates on the old loans, not the new interest rates. The use of the weighted average more or less preserves the cost of the loans. Your old federal loans will not get the new interest rate.
Borrowers can refinance their federal loans into private student loans to take advantage of the new, lower interest rates. However, when a federal loan is refinanced into a private student loan, it loses the superior benefits of federal loans, such as longer deferments and forbearances, income-driven repayment, loan discharge options and loan forgiveness options.
Borrowers who have excellent credit might be able to get a better interest rate by refinancing their student loans.
Although low interest rates will probably remain available for at least a year, they are unlikely to go any lower. The interest rates on private refinance loans are pegged to the one-month LIBOR, three-month LIBOR or Prime Lending Rate. The one-month LIBOR index and Prime Lending Rate have already adjusted to reflect the March 15, 2020 cut in the Federal Funds Rate. The three-month LIBOR will fully phase-in the interest rate drop by July 2020.
The Federal Reserve Board is unlikely to cut interest rates any further, since that would require going below zero.
When considering a private student loan, be wary of comparing fixed rates with variable rates. Variable interest rates have nowhere to go but up, and will likely increase significantly over the life of the loan. Variable rates are best for borrowers who are able to pay off the debt in full before interest rates rise too much.
Use our Loan Refinancing Calculator to see how much you can lower your monthly loan payments or total payments by refinancing your student loans into a new loan with a new interest rate and new repayment term.
Since the rate for new loans this year is so much lower, is it possible to refinance previous Parent PLUS and other federal loans at a lower rate without converting them to private?
No. A Federal Direct Consolidation Loan bases the interest rate on a weight average of the interest rates on the loans included in the consolidation loan. It does not reset the interest rate to the interest rates available on new federal education loans. A consolidation loan more or less preserves the cost of the loans.
The only option for taking advantage of the new lower interest rates is to refinance federal loans into a private student loan. The private student loan pays off the federal loans and is a new loan. The private student loan does not have the same benefits as the original federal student loans.
Is it ever a good idea to take advantage of credit card offers to transfer debt for 0% for 12 months for a portion of your student loan debt?
Using a balance transfer to repay your student loans may eventually cost you more. Despite 0% introductory interest rates on some credit cards, interest rates on most credit cards will be much higher than the interest rates on student loans.
You might be able to move from 0% credit card to 0% credit card periodically, as the introductory interest rates expire, but eventually you’ll get stuck with a very high interest rate. Refinancing your debt frequently will also ding your credit scores.
The monthly payment on a credit card is also calculated differently. Instead of a level payment, which is the same throughout the entire repayment term, credit card payments are based on a percentage of the outstanding loan balance, plus the new interest that accrued. This means that credit card payments start off high and gradually decrease throughout the loan, making it more difficult to repay the debt.
Can you go through the math of calculating weighted average interest? For example, suppose you have $25,000 in total loans of which $5,000 is at 3%. $10,000 at 4.5%, $5,000 at 6% and $5,000 at 7%.
Also, let’s say you monthly payment is $300, spread across four loans. Don’t you need to pay the five loans each month and not just pick the one with the highest interest rate?
The weighted average multiplies each loan’s interest rate by the loan balance and divides the sum by the total loans.
The weighted average interest rate in this example is
($5,000 x 3% + $10,000 x 4.5% + $5,000 x 6% + $5,000 x 7%) / $25,000 = 5.0%.
If you do not consolidate, you need to make the required payments on each loan. But, if you have any extra money, you can use it to make an extra payment on the loan with the highest interest rate.
Use our Loan Prepayment Calculator to see how much you can save and how much sooner you can pay off your loans by making extra payments.
The monthly payments on these loans are $50.00, $103.64, $55.51 and $58.05, respectively, for a total of $267.20. (The first loan would have had a $48.28 monthly payment, but the minimum payment on Federal Direct Stafford Loans is $50.00.)
If you are paying $300.00 a month across the four loans, that leaves $32.80 leftover to apply to the loan with the highest interest rate. When that loan is paid off, the extra money is added to the loan payment for the loan with the next highest interest rate, and so on. This causes the loans to be paid off almost a year and a half early, saving 17 months and about $1,308 in interest.