Got Grad-School Loans? Here's a Smart Alternative to the Federal Student Loan Repayment Program

Katie Taylor Updated on February 11, 2020

When it comes to student loans, it's often a question of whether you should pay more now or later. If you pay more now, you'll be out of debt faster and pay less in interest. If you opt to pay less now in favor of having a more-comfortable monthly payment, you'll end up paying more interest over the life of loan. 

But there may be a way to have your cake and eat it, too. Get this: 
Refinancing rates are incredibly low right now (like do-not-miss-this-low), which means you may have an opportunity to score manageable monthly payments and save a good chunk of money at the same time. Let's look at three examples of how this can play out. 

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Quick primer: how federal student loan repayment works

Before we get into why refinancing can let you have it both ways, let's talk about how federal student loan repayment generally works.

When you start making payments on your federal student loans, you're placed on the standard 10-year repayment plan.

But you don't have to stay on that plan. The federal government offers a variety of repayment plans, from simply extending your loan term to going on a repayment plan that takes your income into account. And they let you change your plan whenever you'd like, but no matter which type of plan you pick, you're almost always deciding between two big things:

Do I pay more now? Or do I pay more later?

You can make big payments now and be done in 10 years, or you can stretch smaller payments over 20 or 30 years and pay a lot more interest. 

So how do you beat the system? The answer may be surprisingly simple: Look into refinancing. 

Let's look at three scenarios grad-school loan holders have for making their loan payments more manageable. 


Example #1: The comp-sci grad paying $444/month

Meet Jasmine.

She graduated with her master's in May, got a job at a software company, and got a big shock when she saw her monthly student loan payment. Sure, she had a good job, but $444 a month? Yikes. 

With a $40,000 loan at 6% interest, that's what she'd have to pay each month for 10 years, and at the end, she'd have paid $53,289.84. Jasmine's coworker suggested she look into refinancing, so Jasmine researched lenders and applied with a few.

She was delighted to see that because of her good credit, she was able to get an interest rate of 3.5% and a 15-year term. That lowered her monthly payments to $286— saving her $158 every month—and decreased what she'd pay over the life of the loan by $2,000. 

See also: Should You Refinance Your Federal Loans Through a Private Lender?

The key: a lower interest rate

Refinancing with a private lender isn't magic. It's just math.

The interest rates on federal student loans are set by statute, and once you've taken that loan out, the interest rate can't be changed—not if you improve your credit or get a better job or even if the Federal Reserve lowers interest rates. 

Your federal loan servicer can change your loan term (i.e., make it longer) or graduate your payments so you're paying less at certain times and more at others. They may even be able to forgive your loans. But they can't change the one thing that has the biggest impact on how much a loan actually costs you—the interest rate. 

When you refinance with a private lender, that new lender pays off your existing federal loans and then issues you a new loan. You get to negotiate new terms with them and take advantage of things like your excellent credit score. With a lower interest rate, you can pay less each month and pay less over the life of your loans. 

And right now, interest rates for refinancing with a private lender are crazy low—which means the math is in your favor. 

So what happens if you don't refinance—or you wait until interest rates have gone up?

 

Example #2: The theater grad with the dream job and the tiny salary

Let's see this question in action.

Maggie got her dream job working on-set construction at a New York theater. The $40,000 salary wasn't ideal, but she figured she could manage if she lived with roommates (lots of them) and cut expenses. Then she got her first student loan bill. There was no way she could pay $222.04 per month, but that's what she'd owe on the 10-year plan with her $20,000 in loans at 6% interest. 

Maggie contacted her loan servicer, and they suggested an income-driven repayment plan

On an income-based repayment plan, Maggie got her payment down to a somewhat-manageable $99 per month. She knew changing plans meant she'd end up paying at least $10,000 more over the 20 years she'd be paying the loan—around $39,000 in total—but she thought that was her only option. 


Capitalized interest makes payoff feel impossible

After 10 years on the plan, Maggie couldn't believe she'd been making diligent payments every month and still had so much left to pay. 

The problem with income-based payment is that the monthly amount due may be less than the interest owed for the month. Unpaid interest capitalizes (that is, it gets added to your loan balance), so it can be hard to get ahead. In fact, some people on income-based plans find that their balance actually increases in over time, due to accumulated interest. 

See also: The 1 Big Reason You're Not Making Progress on Your Student Loans

 

Example #3: The Ivy Leaguer with six-figures to repay

Sam graduated from a prestigious Ivy League University. He got a pretty good entry level job, but he was shocked when he opened his first student loan bill for $1110.21. That's what he would have to pay monthly on a standard 10-year repayment plan for his $100,000 in loans at a 6% interest rate. Once he paid the final bill, he would have paid $133,224.60 in total. 

Sam looked into an extended repayment plan. By extending his term to 25 years, he could lower his monthly payment to $644.30. But Sam was disheartened to see that when he finally paid the loan off, he would have paid $193,290.42—$60k more than if he stayed on the standard plan.

Sam just couldn't stomach the idea of paying that much in interest, so he decided to take a second job and scrimp for those 10 years. He did it, but in those 10 years, he never took a vacation, rarely ate lunch out with his coworkers, or even bought a new blazer for the office.

He was happy that he'd paid off his loans, but he felt like he'd also missed out on all the fun of his 20s. 

Staying the course

There are definite benefits to just buckling down and whacking away at your debt until it's gone. However, that approach doesn't have to be quite as arduous as our friend Sam made it. If he had refinanced his loans, he couldn't enjoyed the same benefits that Jasmine did as the result of getting a lower interest rate. 

See also: Refinancing Student Loans: What You Need to Know

 

The smart choice

Repaying your grad-school loans doesn't have to be a trade-off between paying more now or paying more later. 

When you refinance your student loans, you can have a lower monthly payment now and pay less in interest over the life of your loan. In fact, the average borrower saves over $250 per month and more than $16,000 over the life of their loan. 

Life is full of situations where you can't have both of the good things you want. Every so often, we can embrace those times when we don't have to choose. And this is the perfect time to grab these super low interest rates. Hop onto our refinancing calculator and see how much you could save—now AND later. 

 

Published in: Refinance, Student Loan Debt

About the Author
Katie Taylor

Katie Taylor is a content writer and editor with expertise in law and policy, finance, and entrepreneurship. She writes for startups and small businesses about everything from bookkeeping to telecom. Her work has been featured in The Washington Post and SheKnows.com. She is continuing to pay off law school loans and lives in Richmond, Vermont with her wife, son, and an unruly dog. Read more by Katie Taylor

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