Should I Refinance My Student Loans?

Last week in the Gen Y Planning blog, I discussed what you should consider if you’re thinking of refinancing your mortgage. This week, let’s look at another form of debt keeping millennials up at night: student loans.

When you refinance your student loans, you trade your federal or private loans for a private loan with different terms. The potential switch from a federal to a private loan means there are some important things to consider as you make your decision.

Don’t refinance your student loan if …

You’re still within your loan’s grace period or you’re currently in grad school. If you have a federal student loan, you get a six-month grace period after you graduate before you’ll need to begin making payments. You can also defer your payments on your undergrad loans if you go to grad school at least half-time.

You qualify for loan forgiveness and plan to use it. There are student loan forgiveness programs geared toward public service workers, federal government employees, nurses, teachers, and more. You will lose access to these programs if you refinance.

You need an income driven repayment plan. These plans can make affording your monthly student loan payment less of a financial hardship. They cap the amount you pay to a small percentage of your income and extend your repayment period to 20-25 years (depending on the type of repayment plan), after which your loans will be forgiven. (It’s only 10 years for Public Service Loan Forgiveness!)

Your financial situation makes it hard to qualify. Your credit score and income can affect how likely you are to be approved for a student loan refinance without a cosigner. If you have a short credit history or poor credit, continue making on-time loan payments and try to get your credit score above a 700, which can help you qualify in the future.

Consider refinancing if …

You want to lower your interest rate. This not only helps you save money over the life of your loan, but it can also lower your monthly payments, freeing up your cash for other bills or savings goals. You can also use the savings to overpay your loans each month, meaning you’ll be debt-free more quickly, or redirect this cash to other goals like saving for retirement. You may be able to keep your payments similar to your old monthly payment but shave a few years off the life of your loan.

You want to simplify your loans. It’s common to have several small loans, each with different interest rates. Refinancing could streamline them all into one loan with one interest rate. If you’re also able to cut your interest rate, you could cut a few years off your loans in the process.

You want to pay off your loans faster. Instead of paying extra on all your loans, you may decide to refinance a portion of your student loans. This is a great way to lower the interest rate on only your highest interest rate loans while paying the minimums on your other student loans without losing the great rate you have on those. For example, I’ve had clients with interest rates ranging from 3%-7%. We may decide to refinance all the loans with interest rates above 5%, and move them to a five-year repayment plan, while leaving the loans under 5% on a 10-year repayment plan. This allows us to attack the highest interest rate debt first as well as free up cash flow at different points in the future.

Your financial situation makes you more likely to qualify. If you have a stable source of income and good or excellent credit, you may be more likely to qualify for a lower interest rate. 

Things to keep in mind

Interest rates can be variable. A variable-rate loan is going to have a really enticing lower rate, but if interest rates go up again in the future, you’ll pay more. Try to lock in a fixed-rate loan when refinancing.

You may end up paying more interest overall if you try to lower monthly payments by refinancing to a longer timeframe. I caution you against doing this.

Where to go to refinance your student loans

Many different lenders offer student loan refinancing. Student Loan Hero has an article comparing different banks for refinancing your student loans. I’ve had clients refinance with companies like Earnest, Sofi, and CommonBond, and all of them were able to lower their interest rate and cut the term of their loans resulting in thousands of dollars of interest saved.

Interest rates continue to change, so if you do want to refinance and the new terms will save you money, it’s important to act quickly because the rates may increase in the future.