Table of Contents
- Understanding Your Student Loan Repayment Options
- How Refinancing Student Loans Works
- How Paying off Student Loans Early Works
- Comparing the Costs: Refinance vs Early Payoff
- Factors to Consider Before Choosing Between Refinancing and Paying off Early
- Pros and Cons of Refinancing vs Paying Off Early
- FAQ
If you have student loan debt, chances are you’re looking for ways to save money on your payments. You may be wondering how to pay off student loans faster, for instance. You might also be thinking about student loan refinancing as a possible option for making loan payments more manageable. However, you may pay more interest over the life of the loan if you refinance with an extended term.
Which method can help you save more? The best strategy for paying off student loans comes down to how much you owe and the specifics of your financial situation. Read on to learn how the different student loan repayment strategies work to help determine which may be the right option for you.
Key Points
• Refinancing student loans can lower loan interest rates and monthly payments for those who qualify.
• Paying off loans early reduces the total amount of interest paid on the loans.
• Student loan refinancing may be appealing to individuals who have good credit and want to change their loan terms.
• Borrowers might opt to pay off their loans early if they’re trying to put money toward other financial goals, such as a down payment on a house.
• Evaluate your financial situation and goals, along with the benefits and drawbacks of refinancing and paying off loans early, before making a decision.
Understanding Your Student Loan Repayment Options
Student loan repayment options differ by the type of loan you have. Federal student loan borrowers can choose from the following repayment plans:
• Standard Repayment Plan: On this plan, you pay off your loans in fixed monthly payments over 10-30 years, depending on the amount of the loan.
• Repayment Assistance Plan (RAP): This income-driven repayment (IDR) plan bases your monthly payments on your discretionary income and family size. Payments are a minimum of $10 a month based on a sliding scale, ranging from 1%-10% of your adjusted gross income, over a term of up to 30 years. The past IDR plans Pay As You Earn (PAYE) and Income Contingent Repayment (ICR) are closed. The Income-Based Repayment (IBR) plan is still available to those who were already in those programs.
For borrowers with private student loans, the repayment terms are set by the lender. You may have anywhere from 5-20 years to repay your loans, depending on your loan agreement.
How Refinancing Student Loans Works
When you refinance student loans, you replace your existing loans with a new loan from a private lender. Ideally, you may qualify for a loan with a lower interest rate or more favorable loan terms.
Borrowers typically start the refinancing process by shopping around to compare lenders and choose one that offers the best loan terms for their situation. Next, you apply for refinancing and tell the lender which loans you’d like to refinance. Once you’re approved, the lender pays off the old loans, and you make payments on the new loan going forward.
You can refinance private and federal student loans. However, refinancing federal loans makes them ineligible for federal benefits, including income-driven repayment, federal deferment periods, and federal student loan forgiveness, such as Public Service Loan Forgiveness.
How Paying off Student Loans Early Works
Paying off student loans early means repaying the full balance you owe before the final repayment date set by the lender. For example, say you have $20,000 in federal student loans, and you’re paying them off on the Standard Repayment Plan. You can pay your loans off early by using one of these strategies:
• Put extra funds toward the loan: By paying extra on your student loans each month, you can help shrink your debt and reduce the total amount of interest you’ll pay over the life of the loan. Just be sure to specify to your lender or loan servicer that the extra money you’re paying should be applied to the principal.
• Put found money toward your loan: Apply your tax refund or a bonus you receive at work to your loan principal to help reduce your balance.
• Round up your monthly payments: If you don’t have a lot of extra funds to put toward your loan payments, you can start on the smaller side. Instead of paying $346 per month, you can round up your payment to $350. It might not seem like much, but it adds up over time.
If you have several federal loans and they feel like a lot to keep track of, you could consider consolidating them into one Direct Consolidation Loan to streamline your monthly payments. While consolidation generally won’t save you money, it can make your payments easier to manage.
That’s one difference between student loan consolidation vs. refinancing. The interest rate of a consolidation loan is a weighted average of your previous loan rates, so the rate is not necessarily lower. With refinancing, you may be able to get a lower interest rate if you qualify, which could help you save money.
Comparing the Costs: Refinance vs Early Payoff
If you’re considering a refinance or early loan payoff, you’re probably asking yourself: does refinancing student loans save money? The answer depends on your new loan terms.
Refinancing student loans could save you money if you get a lower student loan refinancing rate or choose a shorter repayment term. Paying off your loans early will save you money by reducing the amount of interest you pay over time. To get a sense of which method might help you save more, here’s an example that shows how the two options compare.
Say you owe $30,000 in federal student loans with a rate of 6.53%. You’re enrolled in the Standard Repayment Plan, with a monthly payment of $341, and you’re debating between two options: refinancing to a new private loan with a 10-year term at 5.50% or keeping the loan you have but increasing your payments to $500 per month. This is how the math works out for each option.
| Refinancing | Early Payoff | |
|---|---|---|
| New Monthly Payment | $326 | $500 |
| Payment Savings or Increase | -$15 per month | +$159 per month |
| Repayment Term | 10 years | 6 years and 1 month |
| Interest Savings | $1,863 | $4,520 |
If you want to be even more aggressive and pay off your loans faster through refinancing by choosing a 5-year term at 5.50% instead, your monthly payments would increase to $573. You’d save $6,550 in interest, and you’d pay off your loans in half the time.
A student loan refinancing calculator can help you estimate your total savings based on different repayment terms, interest rates, and monthly payment amounts.
Factors to Consider Before Choosing Between Refinancing and Paying off Early
Refinancing student loans vs. paying them off early are two very different strategies, and one may suit your situation better than the other. There are several important factors to weigh before making a decision.
Interest Rates and Loan Terms
If you’re exploring a student loan refinance, compare loan rates and terms from different lenders to estimate your potential savings. Many private student lenders allow you to check your rates online without any impact on your credit score.
Here are some general rules to remember:
• A shorter loan term usually means a higher monthly payment but a faster payoff overall.
• A longer loan term reduces monthly payments but increases the total interest paid over time.
An ideal combination to maximize savings is a refinance loan with a low rate and a shorter term if you can qualify. Your monthly payments will be bigger, but you’ll pay less interest in total.
Recommended: A Guide to Refinancing Student Loans
Monthly Budget and Cash Flow Considerations
Paying off student loans early and refinancing can both affect your budget if your new payments are higher than they were previously. A review of your budget can give you an idea of how much of an increase you might be able to afford with either strategy.
Don’t forget to factor in unexpected events. For example, would you be able to keep up with the new loan payments if you lose your job or your roof starts leaking and needs immediate repairs?
A healthy emergency fund can act as a buffer against those types of situations, but even then your savings may eventually run out. While you can choose to stop putting extra cash toward paying off your loans early at any point, with a refinanced student loan, you have payment due dates to meet. Refinancing makes sense if your payments are affordable not just right now but for the entirety of the loan term.
Credit Score Impact
Applying for student loan refinancing can affect your credit, since lenders will generally do a hard pull of your credit reports and score. Hard inquiries factor into your credit score calculations.
Your score will usually drop a few points temporarily, although you can typically strengthen it again by making on-time loan and other bill payments. Still, you may want to consider the potential impact on your credit score if you’re planning to apply for a mortgage or another type of credit in the near future.
Recommended: Does Refinancing Student Loans Hurt Credit
Pros and Cons of Refinancing vs Paying Off Early
Student loan refinancing and paying off your loans early each have advantages and disadvantages. Here’s a breakdown of the pros and cons of both methods to help you weigh the options.
Pros and Cons of Refinancing Student Loans
Student loan refinancing may be appropriate for individuals who have good credit (or a loan cosigner with strong credit) and want to change their loan terms.
thumb_upPros:
• Refinancing student loans might lower your interest rate.
• Choosing a shorter refinance term can help you pay off loans faster and potentially save more money.
• Private lenders may offer interest rate discounts to help maximize savings. For instance, if you choose the autopay option for your monthly payments, you might save 0.25% on your interest rate, depending on the lender.
thumb_downCons:
• You’ll need good credit or a cosigner with good credit to qualify for the lowest rates.
• Refinancing to a longer loan term can lower your payments but increase your overall cost.
• You’ll lose valuable federal benefits and protections if you refinance federal student loans.
Pros and Cons of Paying off Student Loans Early
You might opt to pay off your loans early if you’re trying to put money toward other goals, such as a down payment on a house or saving for retirement.
thumb_upPros:
• If you have federal student loans, you can maintain access to federal benefits should you need them.
• You won’t have to undergo a credit check.
• Your total savings could be more with an early payoff vs. student loan refinancing, depending on how much additional money you put toward your monthly payments.
thumb_downCons:
• You’ll need to be disciplined and watch your spending to make your early payoff plan work.
• The interest rate on your student loan will remain the same.
• Any extra money you have will likely need to be directed toward your payoff goal, which means you might have to postpone other expenses, such as vacations or eating out.
The Takeaway
Student loan refinancing could give you the chance to get more favorable loan terms, including a lower interest rate, if you qualify, which could save you money. An early student loan payoff plan could potentially yield serious savings on interest if you’re dedicated to following through. While both options have their merits, the best strategy for paying off student loans is the one that fits your financial situation and goals.
Looking to lower your monthly student loan payment? Refinancing may be one way to do it — by extending your loan term, getting a lower interest rate than what you currently have, or both. (Please note that refinancing federal loans makes them ineligible for federal forgiveness and protections. Also, lengthening your loan term may mean paying more in interest over the life of the loan.) SoFi student loan refinancing offers flexible terms that fit your budget.
FAQ
Should I refinance or pay off student loans if I have extra cash?
Which method is a better choice depends on your specific situation, but there are a few things to think about. For example, if you have enough cash to pay off student loans early, that could result in substantial savings on interest, but if an emergency happens, you could end up in a tough spot unless you have an emergency fund. Refinancing may save you money over time if you’re able to get a lower interest rate, and you likely won’t have to deplete your savings.
Does refinancing student loans save more money than early payoff?
Whether refinancing student loans saves more than an early payoff depends on the loan’s refinance terms. You may save more with refinancing if you get a lower interest rate and a shorter loan term, but your monthly payments will be higher. Do the math to compare what you could save with each option to help decide which one is right for you.
How does refinancing affect my credit score?
Applying for a refinance loan typically triggers a hard credit pull, which can show up on your credit reports. Hard inquiries can temporarily drop your score a few points, but you can usually rebuild your credit over time as you pay down your new loan and make all your other payments on time.
Is it better to pay off student loans early if I plan to buy a home?
Paying off student loans early means you’ll have one less debt payment to make, which is a plus if you’re preparing to take on a mortgage. Just be sure to consider how paying off loans fits with saving money for a down payment to help decide if you can afford to do both.
Can I refinance my student loans multiple times to maximize savings?
You can generally refinance student loans as many times as you want. Whether that strategy saves you money depends on the terms you get each time you refinance. If your financial situation improves, such as if you build your credit and think you can get a lower interest rate, it may make sense to consider refinancing then.
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