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What’s up my friends!? Andy here! We have a new guest post from Drew Cloud who hails from The Student Loan Report which provides unbiased coverage on the latest student loan news. Today, Drew is teaching us about student debt refinancing. With student loans slowing taking over the world, this is a good read for everyone. Enjoy!
Nearly 70% of graduating students have some form of student loan debt. The majority of it is made up of federal student loans funded from the government’s coffers. With the average balance sitting just over $35,000 per borrower, it is not surprising that most look for ways to make the repayment process easier over time.
Federal student loan debt can be consolidated into a single loan, still backed and serviced by the government, which offers one solution.
Private lenders offer student loan refinancing. This effectively pays off some or all of a borrower’s student loan debt through a larger, privately-funded loan. Refinancing is becoming more popular as more lenders join the market, but borrowers should understand the advantages and disadvantages of refinancing student loan debt before making that choice.
How Refinancing Works
Student loan borrowers typically tap into federal funding to finance their higher education dreams. For years, the federal government has directly lent to borrowers who do not have the cash on hand to pay for college, regardless of their creditworthiness or level of assets at the time of borrowing. Over a four-year degree program, students may amass tens of thousands of dollars from the federal government’s direct loan program which is then paid to the school of their choice. The government sets the interest rates applied to these direct loans, and borrowers are expected to begin repayment shortly after graduation.
Refinancing through a private lender effectively pays off the remaining balance of federal (or other private) student loans. The student loan lender offers to create a new, larger, single loan in place of the original loans, giving borrowers an opportunity to take advantage of a potentially lower cost of borrowing. This is an option that many consider, but it is something that requires some shopping and research if the pros and cons are to be understood.
— Andy Hill (@AndyHillMKM) March 20, 2017
The biggest draw to private student loan refinancing is a borrower’s ability to lower the cost of the loan of its lifetime. Private lenders are not beholden to the interest rates set by the federal government, and instead, assign a new loan interest rate to a borrower based on his or her credit history and score. Some lenders also evaluate the income potential of recent graduates to help understand how much risk they are taking on by funding a new, sometimes large loan. A reduction in the cumulative interest rate can save borrowers thousands over the duration of the repayment term.
In addition to a lowered cost of borrowing, private lenders also help with the organization of student loans. Federal loans are dispersed at different times in various amounts based on borrower need throughout his or her college experience. This ultimately leads to a handful of student loans by the time graduation comes around. Refinancing creates a single loan which covers all of the outstanding loans previously dispersed, giving borrowers a simple view of their student loan debt. With a single loan comes a single payment which creates a more streamlined process for repayment over time.
Student loan refinancing with a private lender has its merits, but borrowers should be aware of the drawbacks inherent to the process. First, because private lenders want to understand the risk fully they take on with a new borrower, a credit pull and in some cases, income verification are necessary before a loan can be approved. Borrowers who have a strong credit profile may not face any challenges in securing a private loan for refinancing, but those who have a spotted credit history or low-income may not easily quality. This could mean a co-signer is necessary to help offset the risk the lender takes on, or it may mean the interest rate applied to the new loan is higher than what is available through direct lending with the federal government.
Borrowers also need to be aware of the limitations of student loan refinancing when it comes to repayment and loan forgiveness. Under the federal student loan program, nearly all borrowers have an opportunity to select an income-based repayment plan which has the potential to reduce the amount of money due each month for their student loan debt. Similarly, should a borrower face financial hardship, federal loan servicers are obligated to provide a period of relief from repayment, although interest may continue to accrue on the loans.
Some borrowers also have access to a forgiveness program through the federal government, given that a certain number of payments are received for a specific period of time. Private student loan lenders do not offer these options to borrowers, and instead, require a payment based on the original terms of the loan agreement with no promise or offer of forgiveness at the end of the loan term.
Is it Right for Me?
Student loan refinancing is a smart option for borrowers who owe a smaller amount or who have a high-paying, stable job once repayment begins. Because the loan terms are somewhat rigid, refinancing is not appropriate for those who are unsure about their income potential or who have a large amount of debt to repay. It is important for borrowers to understand the advantages and disadvantages of private student loan refinancing before signing on the dotted line.
Drew Cloud started The Student Loan Report when we found it difficult to find student loan news and information in one place. In his free time, you can find Drew playing basketball, reading other blogs, or playing with his Great Dane named Rudy.