Whether you’re part of the 92% of borrowers with federal student loans, or you hold private student loans, refinancing could be a savvy option to reduce your student debt. This is an especially relevant strategy as interest rates in 2022 are still low which isn’t expected to last forever.
If you’ve been wondering whether now is a good time to refinance student loans, here’s how to make this timely decision.
5 signs that now might be the best time to refinance student loans
A lot of knowing when to refinance your student loans comes down to your own money reality. Here’s how to know if now is the right time for you.
1. You plan on working in the private sector, long-term.
If you’re working for a private company and are happy in your industry, niche, or role, this could be a stroke in favor of refinancing.
If your career path includes the potential of working at a nonprofit in the future, you might want to hold off on refinancing so you don’t lose eligibility for student loan forgiveness programs, like Public Service Loan Forgiveness (PSLF).
Loan forgiveness is a major consideration
Eligible borrowers receive loan forgiveness on their remaining debt balance, after making 120 timely payments while working for a qualifying employer. Professionals at 501(c)(3) employers or those who work for the government typically qualify for PSLF, but you’ll have to confirm that your specific employer is eligible.
If you’re not sure if it’s worth staying in the private sector or switching to a PSLF-eligible job, use our PSLF calculator to compare different repayment scenarios.
Remember, once you refinance you won’t be eligible for PSLF in the future. If you’re confident that you’ll never PSLF, then it could be the right time to refinance. If you have doubts, it’s time to crunch the numbers.
2. You have a solid emergency fund.
Saving for an emergency fund is one of the first steps toward financial wellness, but the Federal Reserve’s statistics show 36% of Americans would struggle with a $400 out-of-pocket emergency. Ideally, it’s smart to have three to six month’s worth of money saved to cover your expenses (including your loan payments).
When you refinance your student loans, your emergency fund becomes crucial. You’ll lose federal protections during refinancing, such as access to income-driven repayment plans, or “IDR”. These repayment options are designed to limit your monthly payments to a small percentage of your discretionary income, based on your annual gross income and family size.
If you lose part or all of your income, IDR can be a lifesaver. Conversely, a private lender is unlikely to offer a similar plan so you’ll need to rely on your personal savings fund to weather financial hardships and continue making loan payments.
3. You earn more money than your student loan balance.
If you’re earning a substantial annual amount — more than you owe in student loan debt — refinancing your loans to obtain a lower interest rate could save you money. If you have a high income with strong cash flow above your basic living expenses, you might qualify for a lower rate through a private lender than your current rate.
By directing extra funds in your budget to repaying the principal of your loan, you can further speed up your repayment process.
We surveyed student loan borrowers and found 85% of borrowers worried about refinancing due to potentially losing their job, facing a recession, or experiencing a life event like having children.
To mitigate the risk of refinancing, consider the student loan refinancing ladder strategy. Using this method, you’ll start with a longer term loan and continue refinancing to a lower term as you repay more of the principal.
4. You’re comfortable losing federal student loan protections.
Refinancing student loans is a major commitment; you can’t decide you don’t like your new, private loan and revert back to a federal loan. With federal student loans, you have access to income-driven repayment options and several protections such as forbearance, deferment periods and loan forgiveness. Not all private lenders offer these same options.
That said, many private lenders do offer similar alternatives to the federal programs. For example, although your lender might not offer a deferment period, they might offer a period where you can opt for interest-only payments to reduce your monthly obligations. And although a private lender might not have forbearance options as robust as the government, many do have an option to apply for economic hardship forbearance if you need extra support.
If the federal protections for student loan borrowers are deeply valuable to you, now might not be the best time to refinance student loans. But, if you think you can make do with the alternatives offered by your private lender of choice, this could nudge you toward refinancing.
5. Your credit score qualifies you for low interest rates.
Qualifying for a lower interest rate is the main reason people choose to refinance their student loans. A lower monthly interest rate frees you up to have more money in your monthly budget. You can direct this extra money toward repaying the principal of your loan.
If you have good credit or your credit has improved since you first obtained your student loans, you might qualify for a lower interest rate now. Your credit might’ve improved, for example, if you’re earning more or have repaid other debt.
There’s also a chance that interest rates are lower now than they were when you first obtained the loan. Even if your credit didn’t improve drastically you might still qualify for a reduced interest rate, based on market factors.
Sometimes, people choose to refinance even if they don’t qualify for a major change in their interest rate. Other reasons to refinance student loans could be:
- Switching to a servicer with better customer service.
- Seeking a cosigner release, if your original lender doesn’t offer it.
- Consolidating several student loans into one monthly student loan payment.
Benefits of a student loan refinance
When you refinance a student loan, you obtain a new loan with better terms. Using the funds from the new loan, your refinancing lender repays your original loan, and you repay the new loan over time.
Typically, you’ll want your new loan to have a lower interest rate. You might’ve decided to refinance to release a cosigner or reduce your monthly payments by opting for a longer term.
Those are the advantages to refinancing, but there’s also a big disadvantage to consider. When you refinance federal student loans you’ll lose any federal protections and perks such as forbearance, income-driven repayment, and loan forgiveness.
Even after factoring in that drawback, many borrowers still opt to refinance their loans based on their personal financial situation.
How the expiring student loan payment freeze impacts refinancing
When the COVID-19 federal student loan payment and interest freeze expires on August 31, 2022 many federal borrowers who benefited from about two years of $0 payments and 0% APR will be wondering, “is now a good time to refinance student loans?”
Student loan refinancing rates are still relatively low, so it might make sense to refinance your loans after the freeze, especially if you don’t need the federal protections.
The bottom line
Refinancing your loans is an incredibly personal choice. A lot of it has to do with how secure your current financial reality is, how much you earn, and what risk level you’re comfortable with.
Determining the best time to refinance student loans can be complicated. If you need support to determine if this is the right path for you, schedule a one-hour consult with our team of student debt experts.