If you have student loans, you have probably received multiple offers to refinance your student loans. Private lenders are getting into the $1 trillion student loan market because student loans enjoy a special status: They cannot be discharged in bankruptcy. That makes them particularly attractive to private lenders.
If you’re wondering whether you should refinance your student loans, consider the following:
Student loans aren’t usually discharged in bankruptcy
Although individuals who declare bankruptcy can have financial obligations discharged or reduced, the bankruptcy code provides an exception for “an obligation to repay funds received as an educational benefit” or “an educational loan.” If a borrower is overwhelmed by debt and goes through the bankruptcy process, his or her student loans typically emerge from that process unscathed. Unless there are extremely extenuating circumstances, they must still meet their full obligations under their student loan promissory notes.
Federal Student Loans Have Flexible Repayment Options
Federal student loans have a variety of repayment options that you can choose to tailor to your needs, including income sensitive options. Income sensitive options assess your monthly repayment to be a percentage of your disposable income, and change annually based on your income. Unlike private loans, which have fixed monthly payments, federal student loan borrowers can change the amount of their monthly payments by switching to an income sensitive or graduated payment plan. Federal loans even offer deferment for economic hardship. So, if you have the Peace Corps planned for your near future, you may need to keep your federal loans for a little while longer — until you’re earning enough to make regular, monthly payments.
Loan Forgiveness is Only Available for Federal Loans
If you decide to refinance your loan with a private lender, your loan will no longer be eligible for the Public Service Loan Forgiveness Program (“PSLF”) and other forgiveness programs. PSLF is one of the most popular forgiveness program. If you make eligible payments over 10 years, your qualifying federal loan will be forgiven. There are stringent guidelines for this, and other, loan forgiveness programs. If you qualify, however, you will be giving up an enormous benefit if you refinance.
You May Qualify for a Lower Interest Rate if you Refinance
The biggest benefit to refinancing is that you may be able to lower your interest rate, thereby lowering the total amount you will pay over the life of your loan. If you took out your student loan when interest rates were higher than they are now, you may find a better rate at private lender. A few percentage points could mean the difference of a few thousand dollars over the life of your loan — no small change!
After processing your loan application, some lenders will offer you a few loan options — variable or fixed rates and longer or shorter repayment terms. These options can lower your monthly payments and/or lower your total repayments. Unlike federal loans, however, you’re stuck with your choice unless and until you refinance again. To add further complications to the matter, if you find yourself in difficult financial straits, you may not be able to qualify for refinancing if you lost your job or have poor credit.
There is no one-size-fits-all answer to the question of whether you should refinance your student loans.
It’s important to weigh the pro’s and con’s before refinancing. If you are a Massachusetts or New York resident, I am happy to help you make a decision about whether or not to refinance your student loans. Give me a call or send me an email.
Editor’s note: A helpful reader pointed out that saying that student loans “can’t” be discharged in bankruptcy is misleading, because there is a procedure for discharging them. That procedure, however, is infrequently invoked and rarely results in a full discharge of student loans. Although it can be done, it’s not typical. – 6/26/15