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How to repay student loans: The full breakdown

At a glance:

Student loan debt is emerging as a significant issue for young adults. As total debt inches higher — today it’s more than $1.6 trillion — it’s not just the sheer size, but also the fact that wages stagnate and the economy is in recession at times.

And when one adds in rent and car payments, it's easy to see why so many graduates decide to live with Mom and Dad for a while after college.

(Graphic: David Foster)
(Graphic: David Foster)

What to know about student loans

Repayment plans have a lot of nuances. There are many options available, and some have limits or qualifications you must meet. You might find some to be perfectly molded to your economic situation.

Types of loans

There are two types of federal loans: Federal Family Education Loans, which are made by private lenders but guaranteed by the federal government; and Direct Loans, which are made directly by the federal government.

The former has a grace period of six months, while the latter offers a grace period of nine months.

There are also PLUS loans, which are for parents of students. Those with PLUS loans do not have a grace period. However, getting a deferment on paying back the loans is possible for students who are enrolled at least half-time.

The importance of making timely payments

Once your payment period begins, it is important to treat your student loan just as you would any other loan. Failure to pay has major consequences.

If you are not the disciplined type, one option that might help you is electronic payment, in which your bank or credit union automatically and regularly deducts your payments from one of your deposit accounts.

An advantage of this approach (provided that you keep sufficient funds in the account) is that it can reduce the overall amount of interest you pay. Your loan servicer can assist you with setting up electronic payment.

Want more information about your loans?

The U.S. Department of Education's National Student Loan Data System provides information on your federal loans, including loan types, disbursed amounts, principal and interest, and the total amount of all your loans. You can access the site here.

If you have difficulty repaying your student loans

Sometimes bad things happen in life. Sometimes you can't make payments on your loan.

In this case, you have options. You can change your repayment plan, you can request a deferment or forbearance on your payments, or you can change the size of the payments or the payback period. In some cases, cancellation is an option, but this comes with strict requirements.

Student debt keeps rising. (Graphic: David Foster/Cashay)
Student debt keeps rising. (Graphic: David Foster/Cashay)

Options for repaying student loans

Federal loans

If you have a federal loan, you have several options for paying it back.

  • The Standard Repayment Plan: The standard plan is the plan offered by the lender. The payments will last for as long as 10 years. This plan is the fastest method because it is shortest, but that also means higher monthly payments to make. An advantage to it is that you will pay less interest.

  • The Graduated Repayment Plan: Under a graduated plan, your payments start out low and increase every two years. The repayment period lasts up to 10 years. An advantage to this plan is that it recognizes that your income will likely be lower right after you graduate and then (hopefully, at least) increase as the years accumulate.

  • The Extended Repayment Plan: This plan allows a loan term up to 25 years, depending on the size of the loan. Your loan balance must be at least $30,000 in order to participate in this plan. Those who want to pay smaller monthly payments may find this plan to their liking because it is drawn out. A downside is that you will pay more interest over the course of the payback period.

  • The Pay As You Earn Repayment Plan: You must have a partial financial hardship. Your payments will change as your income changes. If you have not repaid your loan in full after you made the equivalent of 20 or 25 years of qualifying monthly payments, any outstanding balance on your loan will be forgiven, though you may have to pay income tax on any amount that is forgiven.

  • The Income-Based Repayment Plan: The income-based plan recognizes that some graduates go through periods of low income. This option lets you pay an amount based on your income, loan amount, and family size. It is refigured every year to reflect your income. If you pay on it faithfully for 20 or 25 years, you may qualify to have it cancelled.

  • Income Contingent Repayment Plan: This option is only for federal Direct Loans, which are made directly by the federal government. With it, your payments can't exceed a certain amount of your monthly discretionary income. Figuring your discretionary income involves subtracting an amount based on the poverty level from your gross income. If your payments are not sufficient to cover the interest portion, then any amount of interest not covered will be added to your loan principal.

    However, there are limits to this. The payment period is 25 years maximum. If you have not paid off your loan in this time, it will be canceled. But the IRS requires that you pay income tax on this canceled amount (in other words, the IRS will treat it as income).

  • Income-Sensitive Repayment Plan. Your monthly payment is based on your yearly income. Payments will change as your income changes. Like other income-related plans, this one can be an advantage to those who are not earning much money in the early years after graduating.

You have the option of switching payment plans, usually once a year. But there are some regulations involved. And if you are in default, switching plans may not be allowed for you. More information can be found here.

School loans

If your loan (e.g., a Perkins loan) was issued to you by your school, there are repayment options for it. These options differ school by school, so consult yours about options.

Private loans

Repayment for private loans varies according to lender, but in general, you should expect fewer repayment options. Consult the lender to see what you qualify for.

How to consolidate student loans

If you have several student loans, you might consider consolidating them into one loan for convenience. You can consolidate under a federal program or under a private one.

As a general rule, you can consolidate only once, so make sure you get the best deal you can.

Consolidation loans can be a big advantage to those looking to reduce their monthly payments, though they have a number of drawbacks, too.

Terms of loan

Under a consolidated loan, you will no longer be subject to a variety of different terms and repayment schedules. You won't have to pay several different lenders. You will have only one lender, with one set of terms and repayment.

Length of loan

When consolidating, you can get a new loan with a longer maturity. The longer time can result in lower monthly payments for you.

Interest

Interest rates are fixed for the life of the consolidated loan.

If your new loan stretches out over a longer period than your previous ones (it most likely will), the total interest you pay could end up being higher than that of the individual loans you started with.

Another factor to consider is the interest rate itself. Interest rates on loans change occasionally, so take into account the rates on your original loans when comparing them to the rate you get on a consolidation loan. If they are lower, it will not make sense to consolidate.

Consolidating under private programs

Private lenders also provide loans.

In general, their rates are higher than those of federal loans. Also, with private loans, you likely will not get the generous repayment options and the rights of deferment and cancellation. Compare programs carefully before making a choice.

For more information

There are additional nuances in consolidation loans. You can get more details and answers to your questions by going to the Federal Direct Consolidation Loans site here.

Summary of repaying student loans

The period right after college can be a financially daunting time, as it involves getting a job, finding a place to live, and perhaps even starting a family.

Paying off student loans can add a lot of stress to your life plans. That is why you have options available, including options that are based on your income.

There is more detailed information on loans at Federal Student Aid, an arm of the U.S. Department of Education, here. Here you can learn about all parts of the loan process.

This content was created in partnership with the Financial Fitness Group, a leading e-learning provider of FINRA compliant financial wellness solutions that help improve financial literacy.

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