Dear Carrie: I’ve been carrying a number of both federal and private student loans for several years. While I’ve been able to keep up on payments, I’m thinking about consolidating to make things simpler. Is that a good idea? — A Reader
Dear Reader: You’re absolutely right that consolidating your student loans could make life a lot simpler. You’d have a single payment with a single due date. You could put that payment on automatic and be done with it.
But while simpler is preferable, there are other factors to consider. What will your new interest rate be? Do you want to lengthen or shorten the term? Will consolidation affect federal forgiveness or repayment plans? To me, it’s not just about simplifying your life, but also about improving your financial situation.
There are a couple of ways to go, so let’s start by looking at consolidation options, then go deeper into how to decide what’s best for you.
Ways to Consolidate
In the past, federal and private loans had to be kept separate. But as of 2014, it’s possible to combine them. Since you have both types of loans, you have a couple of choices. You could:
–Consolidate federal and private loans separately. You’d then have only two payments. You consolidate federal loans through the Direct Consolidation Loan program run by the Department of Education. Both subsidized and unsubsidized loans are eligible. You can get a complete list of eligible loans at studentaid.ed.gov.
The Department of Education doesn’t handle private loans. To consolidate those, you’d go to a private lender such as a bank. The process is a bit different because, in this case, you’re actually refinancing your loans. Different lenders offer different rates and terms, so you’d want to do a bit of comparison-shopping.
–Combine federal and private loans into one new loan. This process, in effect, pays off all your current loans and gives you one new loan, with one monthly payment. Again, you do this through a private lender.
Important Things to Consider
There are pluses and minuses to each option. To decide what is best, look at three important factors.
–Interest rates. Consolidation may result in a lower interest rate — especially if any of your loans have adjustable rates — but that’s not always the case.
When you consolidate federal loans, your new interest rate is a weighted average of your current rates rounded up to the nearest 1/8 of 1 percent. It could be higher or lower. The positive is it’s fixed, so you can be confident that your payments won’t go up over time. The downside is that if interest rates decrease, you will be left with the higher rate.
With a private lender, interest rates are more flexible. In fact, you may be able to significantly lower your interest rate, depending on factors such as your credit score (the higher your score, the better the deal), income and savings.
–Loan terms. When you consolidate, you can either lengthen or shorten the term of your loan.
Repayment schedules with the Direct Consolidation Loan program range from 10-30 years. When you lengthen the term, your monthly payments may go down, but the amount of interest you pay in the long run will most likely go up. Increase a 10-year loan to 25 years, and your monthly payment could go down about 40 percent; however, you could end up paying almost twice as much interest over the life of the loan. Of course, you do have the flexibility to pay it off more quickly.
With a private lender, you may be able to considerably shorten the term, but you’ll be tied into a higher monthly.
–Extra benefits. Are there any extra benefits attached to your loans? Some lenders offer reduced payments for direct debits or interest rate discounts when you pay on time. Take that into consideration.
Likewise, be aware of federal loan-repayment and forgiveness programs. For instance, federal Direct Loans qualify for income driven repayment plans where payments are capped at 10 or 15 percent of discretionary income. After 20-25 years of consistent, timely payments, the balance of the loan is forgiven. While not all federal student loans qualify for this program, a Federal Direct Consolidation Loan does.
Also, do you qualify for a loan forgiveness program such as the Public Service Loan Forgiveness, specifically designed for public service workers such as teachers, nurses and those in the military? PSLF offers loan forgiveness after 10 years of payments.
Private loans may not qualify for these programs. If you combine your loans into one private loan, be sure to check that out.
Before You Decide
One potential benefit of having multiple loans is that it may provide you with more flexibility for repayment. For example, let’s say that in a few years, you’re in a position to write down your balance. By paying off a discreet loan, you would eliminate that payment entirely, reducing your monthly outlay. However, if you have consolidated all of your loans, you will be committed to the same monthly payment regardless of the remaining balance.
Another strategy would be to make additional principal payments to your highest interest loan while you continue to make the minimum monthly payments on your lower interest loans. That way, you can pay off the highest interest loan first, and effectively lower your overall interest rate.
Weighing the Pros and Cons
As you can see, consolidation is not a straightforward decision. You have to think beyond simplicity to how a new loan might affect your finances over time. Make sure you understand the consequences.
With this in mind, I suggest you do a little more research. Two good resources are the Department of Education (www.ed.gov) and Finaid.org. You might also want to check with your financial advisor who can help you look at the big picture before making your decision.
Realize, too, that student loans are getting a lot of political attention, so whatever you decide to do now, keep your eyes and ears open for any new opportunities in the future.
Carrie Schwab-Pomerantz, Certified Financial Planner, is board chairwoman and president of the Charles Schwab Foundation and author of “The Charles Schwab Guide to Finances After Fifty.” Read more at http://schwab.com/book. You can email Carrie at firstname.lastname@example.org. For more updates, follow Carrie on LinkedIn and Twitter (@CarrieSchwab). This column is no substitute for individualized tax, legal or investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax adviser, CPA, financial planner or investment manager. To find out more about Carrie Schwab-Pomerantz and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate website at www.creators.com.
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Photo: Jorge Villalba poses for a portrait on Sept. 3, 2015 in Encino, Calif. Villaba is struggling to pay off student loan debt. (Brian van der Brug/Los Angeles Times/TNS)