After procrastinating/analyzing the decision for almost a full year, I finally decided to pull the trigger on refinancing my student loans. I have to say, making that decision was much more challenging than I would have thought. I have spent hours upon hours learning about student loans, but it wasn’t until my wife and I were convinced that refinancing made sense for our situation that we went ahead with refinancing.
To help keep this post short (this is already going to be a long one), I will defer a discussion about what I’ve learned about how student loans work for another time.
What is refinancing?
From what I understand, student loan refinancing is in some ways similar to refinancing a mortgage on a house – essentially you are taking out a NEW loan with different terms and/or interest rate. Term length refers to the amount of time to pay off the entire loan. That new loan is for the current principal, and pays off the original loan. Some loan companies will provide refinancing services on their own loans or other loans, many don’t.
This is different from student loan consolidation, which is when you take all of your current student loans (with potentially many different interest rates) and mash them all together into one giant loan with a weighted-average interest rate. It doesn’t change the term on the loan, nor does it actually change the interest rate (the new interest rate is entirely based on the current interest rates on the loans).
In any case, I had essentially 3 groups of student loans with different interest rates, which I arranged for payment based on the Debt Avalanche method promoted by ReadyForZero.com. This method, in contrast to the Debt Snowball method promoted by folks such as Dave Ramsey, arranges paying off loans based on paying down the loans with the highest interest rates first, rather than paying down loans with the lowest balance first.
My loans (as of May 5, 2015):
|Loan||Principal||Interest Rate||Years Left On Loan|
When should I refinance?
For me, this was the more challenging question to answer. Not everyone will find refinancing beneficial. After several hours of research and discussion with various loan servicers, there were basically 3 cases when refinancing made sense for me:
- When the refinanced interest rate is lower than the current interest rate.As I was looking at my options for refinancing, I shopped around different loan companies and found that they would provide competing rates for the loans, ranging from 3.5% to 4.625%, which were all less than my lowest current rate (5.447%). It doesn’t take a math degree to recognize that 4.625% < 5.447%, (thanks SAT!), but a lower rate in and of itself wasn’t enough to convince me that refinancing was the best choice.
- When the length of the loan term makes sense for your financial plans.
As with most student loans, the term length on my loans was 10 years (120 months). While I had borrowed the loans many years ago from medical school, I foolishly decided to put my loans in deferment and forbearance (see below) and didn’t pay anything on the loans for over 5 years, as I went through residency and fellowship. That meant that when I finally started repayment on my student loans, I still had 10 years left to go on the loan.
So as I began considering refinancing, one of the appealing options was reducing my term to 5 or 7 years, so that even if I were to pay only the minimum amount, I would be done paying off my loan in 5 or 7 years. While shortening the term means that my minimum loan payment amount would increase (my total minimum payment on the loans was about $1,400/month, with a 5-year loan at 4.625% that minimum payment increased to about $1,750/month), getting debt-free faster is a pretty high priority for us. Still, this was not enough to make me pull the trigger on refinancing.
- When federal student loan benefits are not going to be used.
Federal student loans actually have several benefits that private student loans do not have. For this reason, some financial gurus (such as Suze Orman) do not advocate private student loans (with higher interest rates being another compelling reason). Deferment means that my required payments are suspended for various reasons (going back to school, not making enough income, certain internships/fellowships, etc.), with some loans NOT accruing interest (subsidized loans), and others continuing to accrue interest (unsubsidized loans). Forbearance is a different type of payment suspension, where interest continues to accrue regardless of subsidized/unsubsidized status, and can only be used for a total of 36 months. While some private student loans will also allow for deferment and/or forbearance options, this is not universal.
Income-based repayment (also called a graduated repayment option) is a type of repayment option offered pretty much only by federal student loan servicers, which starts out payments at a lower monthly amount and increasing the minimum payment based on your income. The term is extended to 30 years, and if there is a balance remaining at the end of 30 years, the remaining balance owed is forgiven (though that forgiven amount is counted as taxable ordinary income on your taxes – so if $50,000 was forgiven, your reported income on your taxes that year will be $50,000 more). Public service forgiveness programs are also available only through federal student loans, which will forgive the balance of your loans after 120 months (10 years) of on-time payments on a 30-year term loan, if you commit to working in some public service area (such as a government-sponsored program, some non-profit organizations, or underserved area) for a specified amount of time. The tax caveat remains – so there can still be quite a tax burden at the very end.
I had taken advantage of the deferment and forbearance options on my student loans while I was in residency and fellowship (in retrospect, I wish I had used income-based repayment during that time so that I could at the very least pay down a little bit of the principal, if not preventing interest from accruing and capitalizing (the accrued interest will be added to the total principal if the status of the loan changes – an example would be from forbearance to repayment, or vice versa). For this reason, I was a bit nervous about losing those benefits when refinancing to a private student loan. However, many private student loans actually do provide deferment and/or forbearance options, and some private student loan services (such as SoFi) will provide “unemployment help,” where the loan company will actually work with you to find a job should you end up being unemployed for some reason. I was not planning on using the public service forgiveness option, and since I was planning on paying off my loans in 2.5 years, a 30-year, income-based repayment option was not really appealing. So with the reassurance that should I have some options available to me if I lose my job for some reason and combined with the previous reasons, I felt a lot more comfortable switching to a private student loan.
How do I refinance?
So once I felt comfortable with the idea of refinancing my student loans, I started looking at options for student loan refinancing. There are several options out there – SoFi, CommonBond, DRB, and LendKey are just some of the options. Student Loan Hero and Magnify Money have articles that detail the options you have for student loan refinancing, among the many personal finance blogs that are now all over the Internet.
After looking at several of these options, I personally decided to go with SoFi. SoFi had the lowest interest rate offer for the term I was looking for (5-year fixed) and had the unemployment help option that I alluded to previously. While I don’t plan to be unemployed any time soon, I can’t predict the future. As such, having some unemployment options was important to us (and might not necessarily be as important to others). An added bonus is that many of these loan servicers have pretty decent web interfaces these days, which makes the application process far less painful than it used to be.
SoFi, like several of other loan servicers I looked at, has live chat. I had a very helpful conversation with one of their chat specialists for over an hour (probably frustrating the poor guy with as many questions as I had), that ultimately gave me tons of info about how their products work, what option might work best for me, etc. I would highly recommend using the live chat option if there are any lingering questions about student loans, etc.If anyone is interested in using SoFi specifically, I have a referral link that you can use if you like – if you register for a loan and refinance your loan through that link, both you and I will get some money back – you get a $100 “welcome bonus,” and I will get a referral bonus as well that I can use towards paying off my loans faster.
Well, I hope that helps explain student loan refinancing a little bit more. What has been your experience with student loan refinancing? Leave a message!