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When you refinance your student loans, you combine your federal or private loans into one private loan with a single monthly payment. In the right situation, refinancing can save you money in the long run, but it only makes sense if you qualify for better terms and a lower interest rate.
If you choose to refinance, consider these pros and cons before signing on the dotted line:
Top 5 Considerations Before Refinancing Student Loans
Look at your entire financial portfolio, compare lenders, and consider the pros and cons of refinancing before making a final decision so you don’t take on more debt later.
1. Pros: You can save money with a lower interest rate
If your goal is to save money in the long term, make sure the new private loan has a lower interest rate than your original loans. A lower rate means you’ll pay fewer interest changes over the life of your loan and may reduce the likelihood of interest capitalization – when unpaid interest accumulates and is added to your principal balance.
Most lenders offer prequalification, which allows you to see your eligibility scores and expected loan terms without affecting your credit score. When you apply for a refinance loan, the lender does a thorough review of your credit report, called a rigorous credit check, which lowers your credit score by a few points. To find the loan with the best rate, it’s important to shop around and compare lenders through prequalification to minimize the impact on your credit score.
2. Advantage: a longer repayment period can reduce your monthly payment
Another benefit of refinancing is the ability to extend your repayment schedule to reduce your monthly payment amount. Although a longer repayment will end up costing you more in the long run, it can provide immediate relief to your budget and help stretch your money a bit further.
If you are able to make a larger payment later and want to further reduce your balance, you can simply choose to make a larger payment. However, you cannot choose to make a lower payment unless you qualify through refinancing.
3. Pros: One payment is easier to manage
For those with loans from multiple lenders, it can be difficult to keep track of every payment and loan details. Since refinancing involves consolidating multiple loans into one loan with one payment, it’s much easier to control your monthly payments.
For those with both federal and private student loans, refinancing can be a great simplification tool when communicating between lenders, especially because private and federal lenders operate differently and have different regulations. However, only refinance if you have a more competitive rate than your federal loans and don’t plan to use the Department of Education’s federal relief programs.
4. Downside: You lose all federal benefits and protections
Federal Student Loans have specific forgiveness and repayment benefits, including programs such as Civil Service Loan Forgiveness, Closed School Discharge, Total and Permanent Disability Discharge, and Life Defense. borrower against repayment.
The Department of Education also offers hardship payment relief—temporary deferment and forbearance periods—to all federal borrowers, which can help reduce the risk of default on your balance. Private lenders do not offer uniform benefits and some offer more relief and repayment options than others. If you think you qualify for federal debt or payment relief, put off refinancing for a while to explore available options.
5. Disadvantage: it can be difficult to qualify for better conditions
If you have a lower income or a credit score below 650, it may be difficult to qualify for a lender without a co-signer. Most lenders require proof of stable income which usually starts at around $20,000 per year. Although there are lenders that cater to borrowers with income, most still require a good credit score and a relatively low debt-to-income ratio (between 30 and 36%).
When looking for a loan that meets your needs, always consider interest rates. Loans that cater to borrowers with less than stellar financial records often come with higher rates and less than optimal terms. Instead of borrowing a loan on uncompetitive terms, take the time to audit your budget. Examine your credit history and repayment tendencies to see what can be done to improve your creditworthiness.
Most of your credit score is based on paying off debt, so prioritize paying off high-interest debt each month on time and in full if possible. Making at least the minimum payment each month can dramatically improve your credit over time.