Student Loan Refinancing Isn't Right for All Borrowers

 Ryan Lane
  28th-Dec-2017

When it comes to repaying student loans, it's better to pay less. Different surveys have highlighted the great lengths to which student loan borrowers say they would go to lessen their debt, including giving up their right to vote and eating tarantulas.

A more appetizing way to save money is refinancing federal student loans with a private lender to a lower interest rate. Proponents of this option point to the tens of thousands of dollars that refinancing can shave off a borrower's debt.

But what they don't emphasize is that refinancing isn't right for everyone. In fact, it can be a big – and irreversible – mistake for some federal student loan borrowers.

How Refinancing Works

When you refinance a loan, you replace an existing debt with a new one that has its own repayment terms. For many borrowers, the benefit is a lower interest rate and the promise of short-term savings, in terms of lower monthly payments, as well as long-term savings in the total amount repaid.

But borrowers often overlook the rest of the refinancing terms, specifically what's no longer included.

Federal student loans come with a number of repayment plans, protections and benefits that private loans don't. By refinancing a federal loan into a private loan, you voluntarily and permanently give up your access to these options.

That's because a refinanced loan pays off an old loan's balance – your original loan no longer exists, and you can't recreate or regain its terms or consolidate a private loan into the federal loan program if you encounter trouble down the road.

Federal Student Loan Benefits

The biggest difference between federal student loans and their private counterparts is flexibility.

If you cannot afford your monthly payments, federal loans come with mechanisms to help you, including income-based repayment plans and the ability to pause payments temporarily via deferment or forbearance.

Current federal student loan borrowers also may be able to have their balances forgiven or discharged under certain circumstances.

These options are harder to come by with private lenders. Private student loans do not offer forgiveness, and other federal loan benefits – like a debt discharge if the borrower dies – vary by lender. And if your loan allows you to postpone repayment, you may need to pay a fee to do so.

Considering the Pros and Cons

Refinancing a federal student loan is a risk borrowers should carefully consider. That doesn't mean you should never take the leap – for some borrowers, the pros outweigh the cons.

Before refinancing student loan debt, answer some high-level questions about what your goals are, such as reducing monthly payments or decreasing the number of bills you deal with. If you plan to refinance federal student loans, ask yourself these additional questions:

• Will you never qualify for a federal student loan forgiveness program?
• Is your salary large enough that you'll never need an income-driven plan?
• Are you confident about your job security and health?
• Do you have a substantial emergency fund?

If you answered yes to all of these, refinancing your federal student loans may make sense.

Refinancing also works better for borrowers who are recently out of school or have just begun repayment, since refinancing will add more years to your repayment period.

If you're halfway through the standard 10-year repayment plan for federal student loans, for example, you may want to complete those remaining five years – and keep the federal benefits – as opposed to stretching your repayment period back to 10 or more years. The latter may reduce your payments now, but make sure the savings add up in the long run with stretching out your payment plan.

Before refinancing, you'll also want to confirm that you have steady income and stellar credit. Both can help ensure you get the best interest rate possible on the refinanced loan.

Remember that you may not qualify for the lowest advertised interest rate. That rate may also require you to pay your loans off more quickly, such as in five years instead of 10, 15 or 20 years, which could result in a larger monthly payment than your current one.

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