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How Refinancing Student Loans Saves Money
By Stephanie Colestock MONEY RESEARCH COLLECTIVE
The majority of today’s college graduates will walk the stage with a cap, gown, and student loan debt to their name. In fact, according to a recent College Board study, the average student borrower is saddled with upwards of $28,400 in student loans at the time they earn their bachelor’s degree, though many borrowers may owe significantly more.
Depending on the type of loans you have and your current student loan repayment terms, you could find yourself paying off those student loans for years (or even decades) to come. But what if the loan terms you agreed to as an 18-year-old college student aren’t the right fit anymore? And what happens if you’re now finding it difficult to juggle due dates and payments for eight semesters’ worth of loans?
In either case, refinancing your student loans can be a great way to cut costs on your educational debt, while also simplifying the process. Here’s a look at just how to refinance student loans and all the ways that refinancing your student debt can save you money over the life of your loans.
Table of contents
Why refinance student loans?
Taking out student loans is imperative for many college students, who otherwise might not be able to afford their high (and growing) educational costs. Paying for college means bearing the cost of tuition, fees, labs, books, housing, transportation, and more, all of which can be covered by the right federal and/or private student loans.
These loans can have repayment options ranging from five to 25 years, depending on the type of loan and the individual lender. However, you may find managing all of those loans to be a challenge later on. And you might discover that you actually qualify for better loan terms than you did a decade ago. That’s where taking out a refinance loan comes into play.
Refinancing is the process of taking out a new, private loan to pay off the remaining balances on your current loans. Your loan payments will now be made to your new private lender, according to the new loan’s terms and agreement. Refinance loans are offered by many financial institutions, such as banks, credit unions, and online lenders.
Some reasons you might want to refinance student loans include:
- Saving money on interest by reducing a high interest rate
- Simplifying multiple loans
- Releasing a co-borrower from your debt
- Reducing monthly payments with a new loan term
Notes for refinancing federal student loans
Federal student loans provide a number of benefits and features that aren’t included with private loans. Such features include:
- Income-driven repayment (IDR) plans — These allow you to adjust your monthly payment obligation according to your family size and monthly discretionary income to ensure that your loan payments don’t account for too much of your available funds. After a prescribed number of years, any remaining balance is forgiven.
- Public service loan forgiveness (PSLF) programs — If you work in qualifying fields (such as teaching in a low-income school or working for certain government agencies), you may be eligible to have a portion of your federal student loans forgiven. You’re generally required to make at least 120 qualifying on-time monthly payments to your original loan servicer before you are considered eligible for loan forgiveness, though this monthly payment requirement can sometimes be reduced with the help of an IDR plan.
- Loan forbearance and deferment — If you experience financial hardship and are unable to make your monthly required payments, federal loans offer forbearance and deferment options. These allow you to temporarily pause your payments without defaulting on your loans.
Federal student loans can be consolidated with a Direct Consolidation Loan. This loan simply combines all of your federal loan debt into one account with one monthly payment. The interest rate on this consolidation loan is a fixed rate that’s calculated as an average of the rates on the loans that were consolidated.
However, if you choose to refinance your federal debt — either on its own or in combination with your private loans — you would be replacing these federal loans with a private refi loan. You’d be bound to the terms of the new loan, but would lose access to federal IDS, forbearance, deferment, and forgiveness programs in the process.
Before refinancing federal student loans, carefully consider the benefits you’re giving up and whether the savings are worthwhile.
Benefits of refinancing student loans
There are many reasons that a student loan refinance might make sense after graduation. Here’s a look at some of the biggest benefits and why they matter.
Shorter repayment term
Refinancing your student loan debt into a shorter repayment term can help you get out of debt faster than scheduled. If you can also manage to reduce your interest rate at the same time, you may be able to shorten your term without increasing your monthly payment requirement. Many refi loans also offer lower interest rates on loans with shorter terms, so you’ll usually save even more money in the process.
Lower interest rates
Since most students have a limited credit history and income in college, they don’t always qualify for the lowest rates and best loan terms. As your credit report improves after graduation, refinancing can help you save money on your loans’ interest charges.
If your credit is better now than when you borrowed your loans, and you have a reasonable debt-to-income ratio, refinancing may help lower your interest rates and save you thousands on your overall repayment.
Reduced monthly payments
In some cases, you may find it difficult to make your monthly student loan payments work for your budget. As a 20-something, you might even be forced to choose between paying student loans or saving money for retirement.
By refinancing into a lower-rate loan, opting for a longer repayment term, or both, you can reduce your monthly payment obligation and loosen your budget for other important financial goals.
This helps to free up funds for other important expenses. Plus, if you ever have extra cash lying around and want to contribute more toward your loans, you can usually do so without penalty. This can further help to reduce your overall costs and get you out of debt sooner.
Loan consolidation
Rather than managing multiple loan balances, due dates, and payment amounts, refinancing can simplify your repayment. A student loan refi can combine one or more loans into a new balance, with one interest rate, loan servicer, monthly payment and due date. This makes it easier to manage and track your debt and helps to ensure that you don’t overlook a payment.
Co-borrower release
The majority of undergraduate borrowers will need to add a co-signer in order to take out student loans. Rather than keep this co-borrower on the hook for your student debt, you can refinance those loans into a new refi loan, releasing your co-signer from their obligation. This is especially the case with Parent PLUS Loans, where the parent borrower cannot be released unless the loan is paid off or refinanced.
FAQs
What is the best way to pay off student loans?
While each student is different, arguably the best student loan repayment is the one where you pay less and clear your debt the fastest. For some borrowers, this may mean taking advantage of income-based repayment plans and loan forgiveness offered on federal student loan balances. For other borrowers, refinancing into a new interest rate loan can make the debt more manageable and reduce the overall cost.
Does refinancing student loans actually help?
Refinancing your student loans can simplify your repayment, reduce your overall interest charges, lower monthly payments, release a cosigner, and get you out of debt faster. With the right refi loan, you could even accomplish all of those at the same time and save even more over the life of the loan!
Why are student loans so expensive?
Student loans begin to accrue interest from the day your school receives the money. Even if you're still in school (and not required to make payments), that interest will continue to build. Considering that most students have a limited credit history and little (or no) income, their student loan terms aren't usually the most favorable, which makes their loans more expensive. By refinancing, you can snag better loan terms and pay less for your educational debt, especially if you have good credit now.
Does it save money to consolidate student loans?
Student loan consolidation may save you money, but it depends on the loan. Direct Consolidation Loans are available to federal student loan borrowers, but they are designed to simplify repayment, not save you money in interest. Student loan refinancing, however, can both consolidate your existing loans and potentially save you money on interest charges along the way.
Stephanie Colestock is a DC-based personal finance writer with nearly 11 years of freelance writing experience. She covers a wide range of finance-related topics and is currently working toward her CFP®️ certification. Her work appears on sites such as Business Insider, MSN, Fox Business, CNET, Investopedia, and more.