Should I Consolidate My Student Loans?
Private consolidation can change the interest rate and repayment term on your loan, while a Direct Consolidation Loan allows you to change your payment plan—and potentially reduce your payment—but doesn't change the rate of interest you pay.
If you have student loans, you likely have multiple loans from different lenders. You may have both federal student loans and private student loans, and each of your loans may have a different servicer who you’re responsible for making payments to.
Juggling multiple loans from different sources can be a big pain, but you don’t have to do it forever. You can look into consolidating your loans into one big loan. You can do this either with a Direct Consolidation Loan for eligible loans or with a refinance loan from a private lender.
There are pros and cons to both federal consolidation loans and private refinance loans, so you should carefully consider whether either is right for you before taking action to try to deal with your debt. For example, if you refinance federal loans, you are giving up the opportunity to take advantage of protections like income-driven repayment plans and other flexible federal repayment options.
What is Student Loan Consolidation?
In the simplest terms, student loan consolidation simply refers to the process of consolidating many loans into one new loan. Often, this new single loan will have a different interest rate or structure, but that depends on what type of consolidation you do. That’s because a Direct Consolidation Loan consolidates your debt in a very different manner than a refinance loan which is often also called private student loan consolidation.
Federal Loan Consolidation vs. Private Loan Consolidation
A Federal Direct Consolidation Loan is available only from the Department of Education. You can only consolidate eligible federal loans such as Direct Loans, and your new interest rate will be a weighted average of your previous loans.
You’ll repay all existing eligible federal loans with your new Direct Consolidation Loan, and the fixed interest rate will be equal to a weighted average of the loans you consolidated.
You can’t include any private student loans in your Direct Consolidation Loan, though, so you may still end up owing loan payments to multiple servicers if you have private loans.
Student loan refinancing, also called private student loan consolidation, on the other hand, allows you to combine multiple federal and/or private student loans into one new private loan. Like with a Direct Consolidation Loan, you’ll have one new loan to pay instead of making multiple payments with different loan servicers.
However, refinance loans can come only from private lenders, not from the Department of Education, and there’s a lot of variation in how different lenders structure your loan.
Refinance loans allow you to consolidate both federal and private student loan debt because you can use your new loan to pay off existing federal and private loans.
However, if you pay off federal student loans with a new refinance loan, you’re giving up important protections only federal loans have. There will be no more opportunity for Public Service Loan Forgiveness or income-driven repayment plans, and if you need to pause payments on your loans, your options for forbearance or deferment will likely be much more limited.
Unlike a Direct Consolidation Loan, a private consolidation loan allows you to change your interest rate. Typically, it only makes sense to refinance if you are eligible for a lower interest rate which will require you to have a good credit score and repayment history.
When to Consolidate Student Loans
Taking out a Direct Consolidation Loan with the federal government or refinancing your student loans can have a big impact on the repayment process. You’ll need to understand the effect of consolidating or refinancing so you can make the right choice about whether consolidating student loans actually makes sense in your situation.
Should I Consolidate My Federal Student Loans?
Taking out a Direct Consolidation Loan makes sense if you want to change the way you’re paying back federal student loans.
A Direct Consolidation Loan allows you to change your loan servicer if you aren’t happy with the company who is currently managing your student loans.
You can also change to a longer repayment plan with a Direct Consolidation Loan, including becoming eligible for repayment plans that last as long as 30 years. And you can take certain types of federal loans, including some PLUS Loans, that aren’t normally eligible for Public Service Loan Forgiveness or income-driven payment plans and make those loans eligible for these programs through Direct Consolidation.
If you want to consolidate your private loans too, or if you are hoping to reduce your interest rate, Direct Consolidation isn’t the right approach for you. You should instead consider private student loan consolidation.
You also need to be aware that a Direct Consolidation Loan will start the clock over if you were working towards Public Service Loan Forgiveness or loan forgiveness at the end of an income-driven plan.
In other words, if you already had 100 payments in towards the 120 payments you’re required to make for Public Service Loan Forgiveness, you’d be starting back at 0 payments if you consolidated.
Should I Consolidate My Private Student Loans?
If you have private and federal loans you want to consolidate together or a bunch of private loans you’re hoping to consolidate, you can consider a refinance loan from a private lender.
Refinance loans have much more variation in rates and terms. In fact, there’s even variation in whether you have a fixed or variable interest rate.
A fixed rate loan is one where the interest rate stays the same for the life of the loan, while a variable rate loan can come with a lower starting rate, but interest rates are tied to a financial index and can fluctuate over time. While all federal loans are fixed-rate loans, many private lenders give you the option to select a variable rate loan when you refinance—if you prefer.
In many cases, you can reduce the interest you are currently paying on your loans when refinancing, either with a new fixed or variable rate loan. You can also change the repayment term, giving yourself more or less time to pay back the loan compared with your existing debt.
Changing the interest rate and repayment timeline will impact both your monthly payment and the total interest paid. Just be aware that while reducing your rate should lower your overall repayment cost, stretching out your payment timeline will reduce your monthly payments but may mean paying more in total interest over time since you’re paying interest for longer.
While reducing your interest rate and payment may sound good, you do give up federal borrower protections if you refinance federal loans. And there’s no guarantee you’ll be approved for a refinance loan at all—much less one with a lower rate—as refinance lenders consider your credit score, income, and other financial factors when deciding whether you can borrow.
Other Things to Keep in Mind
Consolidating loans through refinancing or a Direct Consolidation Loan can have an impact on your credit score. That’s because you’ll have a new account on your credit report, which shortens your average age of credit. You’ll also have inquiries on your report if your credit is checked when you apply for a new loan—and too many inquiries can hurt your credit score. The good news is, making on-time payments to your new loan can help you boost your score again.
You’ll need to make sure you shop around carefully and explore all your options before deciding if you should consolidate and who you should consolidate with. Not all lenders have the same qualifying requirements, and loan terms can vary, so finding the best lender can take time.
Consolidating Student Loans Could Simplify Your Life
If you’re struggling with student debt, you’re not alone—it’s one of the most common types of debt in the United States. But consolidating and refinancing could potentially help make repayment easier.
If you’re uncomfortable with your current loan situation, consider the possibilities for changing to a new one. Your new loan could have better terms and could make repayment much easier—as long as you’re careful about who you refinance or consolidate with and make sure your new loan terms are good ones.
Author: Christy Rakoczy
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