Wondering about student loan consolidation? You’re not alone. Thirty-eight million Americans have student loan debt, and many of them juggle more than one loan. It’s not uncommon for graduates to have five or more loans at a time! The notion to consolidate student loans has no doubt crossed your mind, but if you’re like most graduates, you may be unsure of where to start. This guide will give you an overview of the ins and outs of consolidating student loans including the different types of loan consolidation, the benefits and disadvantages to the process, and step-by-step instructions on how to consolidate student loans painlessly. Let’s get started.
The Case for Student Loan Consolidation
There are many reasons why Americans turn to student loan consolidation for the answer to their student loan burden. Common sense dictates that managing one student loan as opposed to two or even more is logistically simpler and psychologically less burdensome as well. For busy professionals, remembering to make one larger payment a month rather than several smaller payments is much less of a hassle, meaning there’s less of a chance for missed payments, unnecessary compounding interest, and late fees. Assuming that you’re currently trying to manage more than one student loan payment a month, you already know how overwhelming it can be. How many times have you procrastinated on paying your student loan notes simply because the mere thought of sitting down to make all those payments causes anxiety? Replacing several monthly payments with a single payment simplifies the process of paying back your loans, and makes repayment less arduous. For your sanity and for organization purposes, student loan consolidation may be worth it.
Are there other monetary benefits to consolidating student loans, though? Great question. Combining smaller loans into one larger loan can open up opportunities for alternative repayment plans that you may have been unable to access with an unconsolidated loan such as income-based repayment, graduated repayment, and extended repayment. These options can reduce your monthly payment considerably—by up to 50% in some cases—but it’s important to consider that interest accumulates over the life of the loan, meaning your total repayment will be higher than with a standard repayment plan. This can cost you several thousand dollars by the time the loan is finally paid off. Even so, for millions of Americans struggling to balance the budget each month, student loan consolidation can provide significant financial relief in the short term.
If you’re in a serious financial slump, you may be familiar with the concepts of deferments or forbearances, which can hit the pause button on your student loan repayment schedule, giving you time to breathe and recover before resuming payments. When you consolidate student loans, more deferments and forbearances become available since the lender looks at the consolidated loan as a new loan. That is, if you’ve already used up all of your available deferments and/or forbearances on your unconsolidated loans, you can hit the reset button so to speak by consolidating student loans. If you’re considering student loan consolidation for the purpose of accessing deferments and forbearances, it’s important to know the difference between these two options. Although both will postpone payments for a specific amount of time, deferments and forbearances are not the same things. If you qualify for a deferment, you’re not only postponing payments, you’re putting interest on hold as well, which means it doesn’t cost you anything to defer your loans. Keep in mind that this only applies to subsidized loans however, such as a direct subsidized loan or a federal Perkins loan. With a forbearance, however, interest will accrue at the normal rate on your subsidized loans even though you’re not required to make payments during your forbearance period. In this way, deferments are far superior to forbearances, but it may be more difficult to qualify for a deferment. For example, you may have to prove that you’re currently unemployed or that you’re experiencing an economic hardship. The requirements for a forbearance are more lenient, but the drawback is that interest will continue to accumulate, and it may be added to your principal balance, increasing your total payoff. You do have the option to pay the interest only during your forbearance period, however.
Types of Student Loan Consolidation
When contemplating student loan consolidation, it’s important to know what types of student loans you have. This will help you determine what options you have when deciding exactly how to consolidate student loans for the maximum benefit. For example, you may have both private and federal student loans as well as subsidized and unsubsidized loans to consider.
Federal Student Loan Consolidation
The whole idea behind federal student loans is to make college more affordable. Therefore, these types of loans don’t typically have high interest rates, and these lower rates are fixed, not variable, meaning they don’t change from month to month or year to year as do the rates on many private loans. Therefore, the reasons for consolidating student loans are often different when these loans are federal loans. For example, a consolidated federal loan may have an extended repayment term (i.e., up to 30 years!), meaning monthly payments can be lowered significantly. As we’ve mentioned previously, however, an extended repayment plan does mean that you’ll make more payments, accrue more interest, and therefore, pay more over the long term.
Federal loan holders are eligible for a Direct Consolidation Loan, which allows them to combine multiple federal loans into a single consolidated loan. These loan holders can apply for a Direct Consolidation Loan directly through the U.S. Department of Education at StudentLoans.gov, and there is no application fee. This type of student consolidation loan does not require a credit check, and you can apply any time after graduation, if you decide to leave school, or if you are taking less than a half-time schedule of classes. If you have any of the following types of federal loans, student loan consolidation via a Direct Consolidation Loan is a possibility:
Direct Subsidized Loans
Direct Unsubsidized Loans
Federal Stafford Loans
Federal Perkins Loans
Direct PLUS Loans
Supplemental Loans for Students (SLS)
Federal Nursing Loans
Health Education Assistance Loans
Federal Family Education Loan (FFEL) PLUS Loans
If you have already consolidated some of your student loans, it may be possible to reconsolidate. Typically, you will have to add another loan in this reconsolidation, however.
To qualify for student loan consolidation under the Direct Consolidation program, you must have one or more of the above types of loans that is either currently in a repayment program or a grace period. It is also possible to consolidate student loans that are in default, but you will have to agree to a specific repayment plan such an income-based repayment plan, an income-contingent repayment plan, or a pay-as-you-earn payment plan. The interest rate you will pay on a Direct Consolidation Loan will be based on the weighted average of the individual loans being consolidated.
One of the benefits of consolidating student loans under the Direct Consolidation program is that it may open up doors to different types of repayment plans that were not available to you through your original, individual loans. One such plan is the Pay As You Earn plan, or PAYE. Under this plan, loan holders pay a certain percentage of their income (i.e. no more than 10%) towards their student loans, and after 20 years, any remaining balance is completely forgiven. Another benefit of PAYE is that even if you get a raise or your income increases for any reason, your monthly payment will never be higher than it was on the standard 10-year repayment plan for federal loans. Not everyone will qualify for PAYE, however. In addition to certain income requirements, eligibility is determined based on when you borrowed your original student loans. More specifically, if you first took out a federal student loan after Sept. 30, 2007 and took out another loan after Sept. 30, 2011, then you’ll likely meet the requirements for PAYE.
If you took out your first federal loan prior to 2007, you may find another repayment option in REPAYE—or the Revised Pay As You Earn program. This program was unveiled by the federal government in December of 2015 and allows anyone with federal loans (despite when they were first originated) to take advantage of income-contingent repayment.
REPAYE is also more flexible in that you don’t have to demonstrate financial hardship in order to qualify. This means it may be a good option if you’re currently doing well financially, but expect that your situation may change in the near future. For instance, you may anticipate that your income will decrease or your financial responsibilities may increase. REPAYE will ensure that you’re never expected to pay more than 10% of your income towards your student loans each month, and your family size is taken into account as well. After 25 years of payment under REPAYE, any remaining balances on your student loans will be forgiven. Only direct federal loans are eligible for REPAYE, but if you have different types of loans such as Perkins loans or Federal Family Education loans, for example, you may want to consider student loan consolidation. By consolidating these loans into a direct federal loan, you can become eligible for REPAYE. Remember, though, you could lose some of your original loan benefits if you opt for student loan consolidation, especially with Perkins loans, so be sure to do your due diligence before making this important financial decision.
If you started borrowing after July 1, 2014, you may have another repayment option than PAYE or REPAYE, depending upon your individual situation. More recent loan holders are eligible for IBR, or income-based repayment if their student loan payments exceed 10% of their income. Those who qualify for IBR can have their loans forgiven after just 20 years of payments as opposed to 25 under REPAYE. Keep in mind, however, that you will be required to pay income tax on the amount forgiven on your student loans. This could add up to a huge tax burden for those borrowers with a substantial remaining balance, so be sure to weigh this potential drawback against the benefit of loan forgiveness under IBR. If you decide that IBR is still worth it, you can decrease your future tax burden by paying more on your loan whenever you have extra funds. Alternatively, you could start stashing cash away now for that future tax bill.
Also note that loan forgiveness may not be a benefit for you to even consider if your student loan debt is relatively light. If you’re set to pay off your loan in under 20 years, then there may be no advantage to IBR.
Please note that private loans are not eligible for student loan consolidation under the Direct Consolidation program, nor are loans that were taken out on your behalf, such as by your parents, for instance.
Private Student Loan Consolidation
If you have private student loans and are considering student loan consolidation, you will have to consult a private lender. These lenders will typically only allow student loan consolidation of private loans, but ask around because some may allow you to combine federal and private loans. Be sure to weigh the benefits and drawbacks of this route, however, as you may lose some of your federal loan benefits such as rate discounts, forgiveness options and alternative repayment plans when you consolidate them with private loans.
Unlike federal loan consolidation, private loan consolidation will most likely require a credit check. This can be a problem for many students and recent graduates who have yet to find their footing in the workforce or those just starting to build a credit history. If you find yourself in one (or both) situations, private student loan consolidation may be more difficult, but it’s not impossible. If you can find a cosigner for your loan (i.e. someone who is willing to foot the bill if you can’t), then you may still be able to consolidate student loans with a private lender. If you decide to go with a cosigner, try to find one with good credit, as this will impact the interest rate you’re able to secure on the loan. In essence, the better the credit score, the lower the interest rates on your consolidated loan.
More and more student loan holders are older these days, however, which means that they may have a more solid credit history. By some reports, over half of loan holders are over the age of 30. This increases the likelihood that these individuals have reliable incomes and a history of making payments on time and paying off accounts—all of which increases an individual’s credit score. If this describes you, check your credit score, and if it’s above average, then private student loan consolidation may be a good option for you. The higher your credit score, the more leverage you’ll have with lenders, and the lower your interest rate will be on your consolidated loan.
Student Loan Consolidation: Interest Rates
As we’ve mentioned, interest rates are fixed when consolidating student loans from the federal government, but if you’re wondering how to consolidate student loans from a private lender, you will have to shop around for the best interest rates and decide whether a fixed or variable-rate consolidation loan is right for you. Let’s look at each type of loan in more detail.
A fixed-rate consolidation loan will likely have a higher interest rate, at least at first. The advantage, though, is that you can be secure in the knowledge that this rate won’t change. You’ll always know exactly how much you’re paying in interest—throughout the life of the loan. This is a good option for those students and graduates who try to stay within a budget, or for those who find it difficult to pay for unexpected expenses. With a fixed-rate loan, your payments will never change.
Although variable-rate consolidation loans may boast a lower interest rate initially, it’s important to keep in mind that this rate can—and likely will—change. This is because the loan is attached to an interest-rate index such as the federal prime rate, for instance, that fluctuates with the economy. Variable-rate loans are not ideal for those who wish to consolidate student loans and stay within a monthly budget since these rates can cause monthly payments to spike from time to time. However, if you plan to pay off the loan within a short period of time, then you may come out better financially than with a fixed rate loan. It is also possible to find variable-rate loans with a rate cap that can provide some sense of security that your loan payments won’t skyrocket.
Troubleshooting Student Loan Consolidation
There may be some drawbacks to consolidating student loans, depending on your individual situation. For example, if you’re currently in a grace period, it may not be the best time to consolidate. In most scenarios, you’ll have to begin repayment as soon as your loans are consolidated, meaning you will lose the grace period you were enjoying with any unconsolidated loans. Some lenders may be willing to work with you regarding the grace period on these original loans, however, so don’t hesitate to ask.
If you have a Perkins loan, you may encounter other troubles when considering student loan consolidation. This is especially important to note if you are a teacher. Those who teach (or plan to teach) public school, special education, or math and science may be eligible for Perkins loan cancellation. Other public servants such as police officers, nurses, firefighters, and military personnel may also receive loan forgiveness. If you consolidate your Perkins loans, however, you will not be eligible for this ultimate benefit! Perkins loan holders may also lose student loan discounts when consolidating.
If you’re not in immediate need of monthly payment relief, there may be other valid reasons to keep your student loans separate. For instance, if you go forward with consolidating student loans, you may lose the opportunity to pay off loans with a higher interest rate. By making extra payments on the highest interest rate loan—a technique called debt avalanche— you’ll save more money than you would if you consolidated the loans, even if you were able to make extra payments on this consolidated loan.
Will Student Loan Consolidation Affect My Credit Score?
Many people considering student loan consolidation fear that the process will negatively affect their credit score. This is an important consideration for all borrowers, but especially those looking to buy a home in the near future. Although the notion that student loan consolidation will hurt your credit score is largely a myth, there are some things to consider regarding your credit before consolidating student loans. As mentioned above, private lenders will almost always perform a credit check prior to approving you for a loan or quoting you an interest rate. Any formal credit check such as this is referred to as a hard inquiry, which will likely lower your credit score a few points, but this should be a temporary dip, not a long-term problem. You do want to make sure that there aren’t several different banks performing these checks at the same time as this can exacerbate any potential problem.
On the upside, some of the benefits of student loan consolidation, such as lower monthly payments and convenient bill-pay can make it easier to pay your student loans on time. Over the long run, these timely monthly payments will actually improve your credit score.
Student Loan Consolidation Tips
Most people consider loan consolidation for one reason—to make paying off student loans less financially burdensome. There is no one silver bullet for how to consolidate student loans and actually save money, however. As you’ve probably realized, it all depends on your individual situation and the types of loans you have. There are some tips and strategies, though, for making the most out of consolidating student loans.
Tip#1: Select the shortest possible repayment period.
The repayment period is possibly the most important thing to consider when contemplating student loan consolidation. Most people consider consolidating student loans in order to save money in the short-term. This makes sense if you’re struggling to pay your monthly bills, but it’s always wise to factor your long-term finances into the equation as well. In fact, the biggest mistake people make when trying to figure out how to consolidate student loans successfully is that they place too much importance on monthly payments and not enough on the total payouts of their loans. While negotiating a reasonable payment plan that doesn’t place too much of a strain on your budget is certainly important, failing to think about the long-term payout on your loan can cost you thousands of dollars in unnecessary interest fees. Many people are tempted to select the longest possible repayment term available to them when consolidating student loans because stretching out the loan this far is the best way to dwindle your monthly payments down to nearly nothing. This is great news in the short run, but rest assured, you will pay for it later! Let’s look at an example:
Let’s say you have three separate student loans each totaling $10,000. For the sake of simplicity, we’ll assume you’re paying a 6.8% interest rate on each loan. Under the standard ten-year repayment plan, you’ll be paying $115.08 a month for 120 months on each loan. By the time the loans are payed off, the total amount of interest you’ll pay on each loan will be $3,809.66. Cumulatively, if you keep each loan separate, you’ll pay $345.24 a month and $11,428.98 in interest over the ten years it takes you to pay off all three loans.
If you decide to consolidate these loans into a single loan with a 30-year repayment plan, the numbers will look much different. Your interest rate won’t likely change significantly, so let’s assume you’ll still be paying 6.8% on this new loan. Although your monthly payment will drop to just $195.58 as opposed to the $345.24 you were paying for the three original loans, you end up paying a lot more interest! How much? Over the life of your new 30-year consolidated loan, you’ll have paid $40,405.93 in interest. That’s over $10,000 more than the value of your original three loans and nearly $30,000 more in interest than you would have payed if you had stuck with your ten-year repayment period!
The wisest course of action is to choose a repayment plan that reduces your monthly payments to a manageable amount without adding too much onto the total payout amount on your loan. In other words, as you consider student loan consolidation, aspire to a monthly payment that represents as much as your budget will allow for your student loans each month.
Tip #2: Take care of high interest debt first.
Contemplating student loan consolidation is almost always a good idea, especially if you have several loans that represent a significant amount of debt. Whether or not the time is right for you to act on the notion to consolidate student loans is another issue. It’s just as important to consider other types of debt that you may be responsible for. Student loans, although they can certainly be burdensome, tend to have lower interest rates than other types of debt like credit card debt, for instance. This is especially true if your student loans are federal loans as opposed to private student loans. Therefore, allocating your financial resources to these high-interest loans first will save you more money in the long-term. You can always reconsider consolidating student loans after this high interest debt is paid off.
Tip#3 Pay more than you have to each month.
It’s a no-brainer that paying more money towards your student loan payment each month will help you pay down the loan faster, but many people don’t realize how much money this can save in interest over the life of your loan. While student loan consolidation is practical in many situations, consolidation alone won’t likely decrease your total loan payoff, at least not significantly. In fact, the opposite is true in most cases. The best way to reduce the overall cost of the loan is to pay on the principal of the loan so that less interest is being calculated. Student loan interest is typically calculated according to a simple daily interest equation. This means that the amount of interest that accumulates on your loan each month depends on your interest rate factor—the interest rate on your loan divided by 365 days—and how many days have passed since your last payment . It’s important to keep in mind that the amount of your payment that goes towards the principal on your loan can vary from lender to lender, so be sure to inquire before you implement this strategy. Also, keep in mind that some lenders have limits as to how many payments can be made each month, so this is another factor that should be discussed directly with your bank.
Tip #4 Consider filing separate tax returns.
If you’re married and one or more of you have substantial student loan debt that is causing strain on your finances, then you may want to consider filing separate tax returns as opposed to filing jointly. Why? Because your income can be an eligibility factor for many repayment plans that could help you extend your loan and qualify you for certain discounts and benefits, including loan forgiveness.
Tip #5: Reapply for repayment programs every year.
Many of the repayment programs we discuss in this guide require borrowers to reapply for the repayment option each year, even if their circumstances haven’t changed. Although most lenders will notify you of your upcoming re-application, it’s a good idea to mark your calendar for this important date. If you miss the deadline to re-apply, your student loan payments may spike significantly, causing you unnecessary financial problems.
Frequently Asked Questions on Consolidating Student Loans
Q: Who is eligible for student loan consolidation?
A: Most all borrowers are eligible for student loan consolidation, but private loans are typically harder to consolidate than federal student loans. This is because private lenders will run a credit check before approving borrowers for consolidated student loans.
Q: What types of student loans can be consolidated?
A: Both federal and private student loans can be consolidated, but in most cases, private loans cannot be consolidated with federal student loans. This is because federal student loans are consolidated through the federal government whereas private student loans are consolidated through private lenders.
Q: Are there restrictions on student loan consolidation?
A: Yes. There are certain restrictions on student loan consolidation. For instance, private student loans and federal student loans usually cannot be consolidated together. In addition, you cannot consolidate a loan taken out in your name with a loan taken out on your behalf by a third party—your parents, for instance.
Q: Should I consolidate student loans?
A: There is no one answer to whether or not student loan consolidation is a good idea, since every borrower’s situation is different. There are things you can consider, however, to help you decide whether student loan consolidation is right for you. Some of these considerations include your monthly student loan payments, any current student loan benefits you’re enjoying, repayment plans available through student loan consolidation, the repayment period of a consolidated loan, and the total payout of your consolidated loan.
Q: Can I reverse student loan consolidation?
A: No. Once you consolidate your loans, your original loans are paid off and no longer exist. This is why you should weigh the pros and cons of student loan consolidation carefully before proceeding.
Q: Where can I find out more about student loan consolidation?
For more information on private loan consolidation, you will need to contact individual lenders.
Last Words on Student Loan Consolidation
Student loan consolidation can provide peace of mind. Most of us are familiar with the feeling of having bills pile up, and the anxiety that ensues. Even if you don’t save a significant amount of money by consolidating your loans, having just one student loan payment a month instead of four or five can make things seem less overwhelming. As an added bonus, you’ll be much more likely to make consistent and timely payments on a single loan, and your credit rate will improve over time as a result.
Federal loan consolidation and private loan consolidation are two different animals. Federal loans and private loans are very different, so when considering student loan consolidation, you’ll need to determine what types of loans you have before you can make an informed decision. Interest rates, in particular, will vary widely between federal and private consolidated loans. Repayment terms will also differ depending on whether you have federal or private loans.
Student loan consolidation may not save you money in the long run. When you consolidate student loans, you may feel like you’re saving money because your monthly payment might go down. Most often, this is because the payment period for the loan is extended, however. With interest compiling, this means that you’ll actually be paying thousands of dollars (or even tens of thousands!) more over the life of the loan than with a standard 10-year repayment plan.
Imagine A Life Without Student Debt Payments
Erase Your Student Loans
Through student loan refinancing, borrowers can refinance high-interest student loan debt and potentially score a lower rate, saving thousands of dollars in interest over time. Those savings can then go toward extra payments to get out of debt even faster. Additionally, borrowers can select a longer term to obtain a lower monthly payment as well.