Student Loan Consolidation

Ask college students and they’ll probably tell you they aren’t concerned about how they’ll repay their student loans. Then graduation rolls around and it hits them: They have multiple student loans to pay off and either no job or a low-paying one.

Fortunately, repayment typically doesn’t start until about six months after graduation. This gives them some time to figure out their finances and look into consolidating their student loans into a single payment.

Consolidation options

The type of student loans you have affects how you can consolidate. First, you need to determine whether your loans are through the federal government, from private lenders, or a combination of the two.

  • For federal student loan consolidation, you contact the U.S. Department of Education through the StudentLoans.gov website. This move combines all of your individual federal loans into one Direct Consolidation Loan. This consolidation is free, and the interest rate is an average of your outstanding loans. If you have multiple federal loans, you will need to consolidate to be eligible for some federal repayment programs, such as income-driven repayment and public service forgiveness plans.
  • Private student loan consolidation, also known as student loan refinancing, means you replace multiple private student loans with one loan obtained through a private lender. You must qualify for such a loan based on credit and income history, which also determine your interest rate.

As a general rule, you should not consolidate your federal loans through a private lender, because you lose your eligibility for relief under the Student Loan Forgiveness Act or any other current federal relief programs.

Whatever combination of outstanding student loans you have, there are specific factors you should know about student loan consolidation:

  • Effective 2006, federal student loans carry fixed interest rates instead of variable interest rates.
  • You can consolidate most federal students loans such as Stafford, PLUS and Perkins.
  • Federal loans offer borrower protections that private loans don’t offer.
  • Federal loans generally have lower interest rates than private loans.
  • You can consolidate a consolidation loan only once.
  • A consolidation loan may decrease the monthly payment but you will pay more in interest over time with a longer term.
  • There is no prepayment penalty on consolidated federal student loans.

When it comes to private student loans, the private lender dictates the terms and interest rates, not the government. Be sure to shop around if you want to consolidate your private college loans. There are several sources for private student loan consolidation, each offering differing terms. Whichever you use, make sure to ask about:

  • Fees
  • Charges
  • Prepayment penalties
  • Total debt cap
  • Maximum interest rates
  • Life of the loan

Benefits of obtaining a consolidation loan

If you can afford to continue to make your monthly payments on your student loans, you might want to consider doing so. The only reasons for seeking a consolidation loan are because:

  • You want one easy monthly payment
  • You can get a lower interest rate
  • You’re in default
  • You want your Federal Family Education Loans (FFEL) to be eligible for Public Service Loan Forgiveness

Keep in mind that while consolidating your student loans may help lower your monthly payments, you typically add a few thousand dollars of interest onto your total loan.

Access to alternative repayment plans

Since July 2006, the federal government has offered graduates an income-based repayment (IBR) plan, which lowers your monthly payments based on a percentage of your discretionary income. As a general rule, you qualify if your federal student loan debt is higher than your annual discretionary income or represents a significant portion of your annual income.

Only certain federal loans qualify for an income-based repayment plan. Your monthly payment will be:

  • Based on your income and family size and capped at the 10-year standard repayment amount
  • Adjusted each year, based on changes to your annual income and family size
  • Usually lower than they are under other plans
  • Paid over a 25-year period

The benefits of an income-based repayment plan include:

  • Repayment based on your earnings. Your payment is no more than 15% of your discretionary income.
  • Interest payment benefit. Your payment must cover the interest on your Direct Subsidized or Subsidized Federal Stafford loan or the government pays it for up to three consecutive years.
  • Capitalized interest. Accrued interest not covered by your loan payments is not capitalized (which is the process of adding interest charges to your existing loan balance).
  • 25-year cancellation. If you follow your repayment plan for 25 years and meet certain other requirements, you may be able to cancel the balance.
  • Public service loan forgiveness. If you make 120 on-time full monthly payments while working full-time for a public service organization, you may be eligible to receive forgiveness of the balance.

Next steps

For more information about consolidating federal student loans read this article. To compare private student loan lenders’ rates and services, SuperMoney’s student loan reviews page is a good place to start.

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