I recently asked my pediatrician how she was dealing with her student loans. She said, “slowly and painfully.” There are a few simple but powerful techniques you can use to pay off student loans faster and save a significant amount of interest. One of the best is to establish biweekly student loan payments.
The easiest way to do this is to divide your monthly payment in half and pay that amount every two weeks. For example, if your monthly payment is $500, make biweekly payments of $250.
The standard payoff schedule for a loan is via monthly payments. Interest on the loan is based upon a 360-day year, and the daily interest is added to the principal each day during the month. Even though months are divided into four weeks, there are 52 weeks in a year, not 48. This means that if you were to make biweekly instead of monthly payments, you would be effectively making one additional monthly payment each year.
This will have a powerful impact on your payoff schedule: your loan will be paid off sooner, and you will pay less interest. For example, if you apply biweekly payments to a 10-year loan (the traditional repayment schedule), your loan will be paid off in about nine years instead of 10. And the longer your original repayment schedule, the more years you will remove from your original schedule.
However, know that lenders are not set up to accommodate a biweekly payment schedule, and even if you make these payments, the lender will not likely adjust the interest to accommodate a biweekly payment. Instead, the interest will be calculated based upon the principal balance at the beginning of the monthly cycle.
Hence, making biweekly payments does not automatically result in a reduction of the interest during that month; instead, it has the effect of making one extra monthly payment over a year, which will ultimately reduce the payback period of the loan, as well as the total interest paid.
Guidelines for Setting up Biweekly Payments
Check With Your Lender
See if they can accommodate biweekly payments via autopay. Lenders are usually not set up to accommodate automatic biweekly payments, but this could change in the future if biweekly payment arrangements become more frequent. What is more likely is that you will need to do this manually, and set up a reminder to make one-half of the monthly payment amount every two weeks.
From the lender’s perspective, you are simply making partial payments more often, and they will generally accept partial payments. The loan will still accrue daily interest based upon the loan balance at the beginning of the monthly payment cycle, regardless of when payments are made during the month.
Note: some loan servicers offer a small discount of 0.25% for setting up monthly auto-payments, so if you decide to make manual biweekly payments, you may lose this benefit.
Check the Due Date of Your Monthly Payments
Ensure that both biweekly payments arrive before the monthly due date of each loan. Otherwise, you could be penalized for failing to pay the minimum amount due. One simple way to do this is to begin your biweekly payments at the beginning of the next payment cycle. That way, you can be sure that your payments will fall within the timeframe.
Allocate Your Payments To the Loan Balance
Make sure that your payments are being allocated to pay off the principal (the loan balance), and not to future payments. Note: you cannot instruct the lender to allocate funds to pay the interest, but you can instruct that your payments are treated as current payments against the principal.
Synchronize Biweekly Payments with Paycheck
Many employers pay their employees on a bi-weekly basis, so if your lender will accommodate this, then time your payments to coincide with your paycheck. That way, you will ensure that the money is in your bank account when your biweekly payment is deducted. Also, bear in mind that there will be two months during the year in which you will receive three paychecks, hence there will also be three loan payments in those months.
If You Have More Than One Loan
Set up biweekly payments for each of your loans if you’re looking into paying off your debt faster. If this is not feasible, then you might consider paying off the one with the highest interest first.
As long as the money from the loan was used for qualified education purposes, up to $2,500 of interest paid on refinanced loans is eligible for a tax deduction if you have a low enough income. However, if you refinance more than the original value of your student loans, you could lose your tax deduction for the entire amount of the interest.
Also bear in mind that if you refinance with a private lender, you could lose most of the protections offered by federal loans such as Public Service Loan Forgiveness, death and disability discharge, and forbearance.
Examples of Biweekly Student Loan Payments
Below are examples of how this might work (note: the examples used in this article are based upon a 360-day year, with interest accruing daily, and rounded to the nearest dollar):
Loan Principal: $50,000
Loan Interest: 5.7%
Time saved using bi-weekly payments: 1 year
Interest saved over repayment period: $1,553
In this case, the interest saved over the life of the loan is roughly equivalent to three monthly payments.
Here is what the same loan would look like for a 15-year repayment plan:
In this case, the interest saved over the life of the loan is equivalent to nearly seven monthly payments.
Let’s see what this same loan would look like for a 20-year repayment plan:
Time saved using bi-weekly payments: 2.6 years
Interest saved over repayment period: $4,549
Bear in mind that, the longer your loan period, the more interest you will pay over the life of the loan, regardless of whether you make biweekly payments. What you are doing is shortening the life of the loan and saving interest over the standard repayment schedule.
Consolidating Loans and Using Biweekly Payments
It may also make sense to consolidate or refinance your loans. The traditional repayment schedule for student loans is 10 years. This is the standard repayment plan for loans from the William D. Ford Federal Direct Loan (Direct Loan) Program and Federal Family Education Loan (FFEL) Program. For consolidation loans, the repayment period can be up to 30 years.
Let’s say that Dorothy attended college, then graduate school, and finally medical school. During this time, she took out several loans as follows (standard 10-year repayment schedule):
For a recent graduate from medical school, a monthly payment of more than $2,200 is quite a burden. So, she decides to consolidate the loans and stretch out the payments. The illustration below shows 15 and 20-year repayment schedules at 5.5% interest, and the monthly payments. We’ll keep the interest rate the same to isolate the biweekly payment effect.
Either scenario will lower Dorothy’s monthly payment by a significant amount (but remember that she will pay more interest over the life of the loan). Now, if she applies for biweekly payments, the results are shown below.
The first example shows the impact of biweekly payments on a 15-year refinance the loan at 5.5% interest (all amounts are estimates; actual results will vary):
The next example shows the impact of applying biweekly payments to a 20-year refinance loan:
As you can see, stretching out her loans over a longer period decreased her monthly payments, but resulted in an increase in the total interest paid. However, by applying a biweekly payment schedule, she can save significant amounts of interest as well as decrease the payoff time for her loans.
A Realistic Application of Biweekly Student Loan Payments: 7 Year Fixed Vs 15 Year Fixed
There are various ways to make use of this biweekly payments technique. For example, let’s consider a scenario in which the former student has $300,000 in total student debt. If the loan is at 4% and amortized over a 7-year period, this is the result:
What if the student takes out a 15-year loan at 5.5% for the same amount, but makes biweekly payments of $2,050 (half of the original $4,100 monthly payment per the 7-year loan)? Here are the results:
In this case, the student has stretched out the loan repayment period to 15 years, which requires a monthly payment of only $2,451. This decreases the monthly burden and gives the borrower some leeway in his or her monthly budget.
However, if he or she is able to make biweekly payments of $2,050 toward the loan, then it could be paid off in only 5.2 years, and the borrower would save more than $3,700 in interest versus taking out a 7-year loan at 4% and making monthly payments. These savings exist despite the higher interest rate.
When Using a Biweekly Payment Strategy is Not a Good Idea
Always bear in mind that, the longer you take to pay off a loan, the more interest you will pay. This is as true for a biweekly payment plan as for a monthly payment plan. Hence, you should always make your focus toward paying off your loans as early as possible.
If you are fortunate enough to get an annual bonus at your job, you might consider allocating a portion of it toward paying off your loan. The interest is always based upon the remaining principal balance, hence the lower the principal, the lower will be the interest charged.
Biweekly payments help from a psychological perspective. They are more complicated and not as easy to set up automatically. Hence, many borrowers will find choosing a shorter repayment term preferable. You can always pay more than you owe to shorten your repayment period.
You also need to be careful if you decide to use biweekly payments that you do not lose the autopay discount, which is frequently 0.25%.
If You Need to Align Your Payments with Your Paycheck with Biweekly Student Loan Payments, You Shouldn’t Refinance
If your budget requires you to line up student loan payments with payday, you need to cut your expenses. Setting up biweekly payments can be a fun strategy and trick to get out of student loan debt faster.
However, you need to make sure that refinancing is the right approach in the first place. You also need a plan, not a payment strategy. If you need assistance, we’re here to help with custom student loan plans.
Ever consider making biweekly student loan payments? What’s your opinion of this strategy and would you consider using it?