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When you have a number of student loans to pay off, you may be wondering which slogans to tackle first. The answer depends on a number of factors, including your financial situation, the types of loans you have, the interest rates on the loans, and the repayment terms.
Read on to learn more about which student loans to pay off first, plus some repayment strategies that may help reduce student debt.
Key Points
• For borrowers with both federal and private student loans, paying off private loans first is generally recommended, since federal loans offer unique benefits like income-driven repayment and forgiveness programs.
• Direct Unsubsidized loans begin accruing interest immediately upon disbursement, making them a candidate for early repayment to prevent balances from growing significantly over time.
• The debt avalanche method prioritizes paying off the highest-interest loan first while making minimum payments on all others, saving money in interest over the life of repayment.
• The debt snowball method focuses on eliminating the smallest loan balance first, providing a psychological win that can build momentum and motivation to continue tackling remaining loans.
• Borrowers with cosigned loans may want to prioritize those first to relieve the cosigner of financial responsibility.
Federal vs. Private Student Loans: Which to Pay Off First
For many borrowers who have both federal student loans and private student loans, it generally makes sense to pay off private loans first. Here’s why.
Why Private Loans Usually Come First
Federal student loans often have better terms than private student loans. For example, federal loans have fixed rates that remain the same over the loan term, while private loans may have variable or fixed interest rates. Variable interest rates can rise or fall over time due to market conditions, creating uncertainty for borrowers.
Federal loans also come with federal programs and protections, such as income-driven repayment (IDR) plans, student loan deferment, and forgiveness, including the Public Service Loan Forgiveness (PSLF) program. Private loans typically don’t offer these benefits. If a borrower thinks they may want or need to take advantage of federal programs at some point, it generally makes sense to pay off their private loans first so they can retain access to federal benefits.
When It May Make Sense to Prioritize Federal Loans
There are instances, however, when a borrower may want to repay federal loans first. If the interest rates on their federal loans are higher than the interest rates on their private student loans, they might choose to prioritize repaying their federal loans. This way they could save money on interest.
A borrower might also want to repay their federal loans first if they don’t qualify for some federal student loan benefits. For example, if you’re a high-income earner, you might not be able to access benefits like income-driven repayment plans or federal forgiveness.
Subsidized vs Unsubsidized Loans: What’s the Difference?
There are several types of federal student loans, including subsidized and unsubsidized loans. The differences between these two loan types could factor into your decision on what student loans to pay off first. Here’s what to know.
• Direct Subsidized loans: Federal Direct Subsidized loans are available to undergraduate students with financial need. The Education Department pays the interest on Direct Subsidized loans while borrowers are in school, for the first six months after graduation (known as the grace period), and during periods of deferment.
• Direct Unsubsidized loans: Direct Unsubsidized loans are available to undergraduate, graduate, and professional students. Borrowers do not need to demonstrate financial need to receive a Direct Unsubsidized loan. They are charged interest on Direct Unsubsidized loans while they are in school and afterward.
Borrowers might want to consider paying off any Direct Unsubsidized loans they have first because these loans begin accruing interest as soon as they are disbursed, which can increase the loan balance. Repaying these loans would help them pay down a larger balance loan first thing.
However, Direct Subsidized loans will generally have a lower repayment amount compared to unsubsidized loans of the same size since the interest on these loans doesn’t begin to accrue until after the sixth-month grace period. Some borrowers may find it motivating to pay off the smaller amount of these loans first.
Repayment Strategies to Consider
As borrowers decide which student loan to pay off first, they can also consider a few different repayment strategies. One method tackles the most expensive loans first; another strategy focuses on the smallest loans first.
Debt Avalanche Method (Highest Interest First)
The debt avalanche method is a strategy designed to help you pay off your highest-interest debts first, saving you money on interest and on the loan overall. To do this method, list all your student loans ranked by interest rate from highest to lowest.
Next, make the minimum payments on all your loans, and put any extra money you have toward the loan with the highest interest rate. When that debt is paid off, move on and do the same for the loan with the next highest interest rate, and so on until all your student loans are paid off.
Debt Snowball Method (Smallest Balance First)
The debt snowball method is a different approach that involves paying off your smallest loan first. Here’s how it works: You make the minimum payments on all your student loans, and you put any extra cash you have toward the loan with the lowest balance. After you pay off the loan with the smallest balance, you work on repaying the loan with the next-lowest balance using the same process. You repeat this until you pay off all your student loans.
The benefit of paying off the loan with the lowest balance first is to get a psychological win that will motivate you to pay off your other loans.
Combination Approach
Some borrowers might want to consider taking an approach that combines the debt avalanche and debt snowball methods. For example, they could first put extra money toward paying off one or two of their smallest debts using the snowball method to get a psychological win and build motivation.
Then, they could switch to the avalanche method to pay off their highest-interest debt, and move on to the debt with the next highest-amount of interest, and so on, to save money on interest.
Other Factors That Can Influence Your Payoff Order
There are several other things that might impact which loans you decide to pay off first. Be sure to consider:
Variable vs Fixed Interest Rates
If you have private student loans, they may have variable or fixed interest rates. (As noted above, federal student loans have fixed rates). You might opt to tackle any loans you have with variable rates first in case the interest rates go up.
Loan Forgiveness and Income-Driven Repayment Plans
If you have federal student loans, it’s a good idea to consider whether you might want to pursue forgiveness and/or income-driven repayment as part of your repayment strategy. If you do, you will likely want to pay off your private student loans first so you can take advantage of these programs.
An IDR plan bases your student loan payments on your discretionary income and family size. For many borrowers, IDR can reduce student loan payments.
Student loan forgiveness is available through some IDR plans as well as the Public Service Loan Forgiveness (PSLF) program and Teacher Loan Forgiveness for those who qualify.
To qualify for PSLF, you must be employed full time by a qualifying government or not-for-profit organization, have Direct loans, and repay your loans under an eligible repayment plan. After a total of 120 qualifying monthly payments, your remaining loan balance may be forgiven.
On the Income-Based Repayment (IBR) plan and the new Repayment Assistance Plan (RAP), which are both income-driven plans, any remaining loan balance you have may be forgiven at the end of your loan term of 20 or 30 years respectively.
Cosigned Loans
If you have a cosigner on your student loans, it means that person has agreed to be responsible for your student debt in the event that you cannot repay it. The loan affects your cosigner’s credit history and is listed on their credit report.
You might decide to prioritize repaying any cosigned student loans you have, such as a private student loan, to remove this debt obligation from the other person’s credit report.
Should You Refinance Before Paying Off Student Loans?
With student loan refinancing, you exchange your existing federal and/or private student loans for a new private loan from a private lender. Ideally, you might be able to get a lower interest rate, which could lower your monthly payments. You may also qualify for more favorable terms through refinancing.
Typically, lower student loan refinancing rates go to borrowers with strong credit. If you think your credit is low enough to qualify for a lower rate, you may want to explore refinancing to help pay off your loans.
Additionally, some borrowers might be interested in combining refinancing with saving. With a flexible method like SmartStart student loan refinancing from SoFi, for instance, borrowers pay only the interest on their student loans for the first nine months, and then they can put their extra money into a savings account or toward other expenses like rent.
Just be aware that the total repayment over the life of the loan may be slightly higher with this method than it would be by making standard principal-plus-interest payments from the beginning.
As you’re exploring how to refinance student loans, it’s important to understand that refinancing federal loans makes them ineligible for federal benefits like IDR plans, forgiveness, and student loan deferment. Also, if you choose a longer repayment term to help lower your monthly payments through refinancing, you’ll pay more interest over the life of the loan.
It’s important to weigh the pros and cons before moving ahead with refinancing, including Parent PLUS loan refinancing .
Recommended: Student Loan Consolidation vs. Refinancing
The Takeaway
There’s no one right answer to the question of which student loans to pay off first. The loans to prioritize depend on a borrower’s financial situation as well as the interest rate on their loans, the types of loans they have, and their repayment options, among other factors.
In the end, the choice comes down to what a borrower is comfortable with after weighing the various pros and cons, and which method they believe might best help them reach their financial 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
What happens if I only make minimum payments on all my student loans?
Making only minimum payments on your student loans could significantly extend the amount of time it takes to pay off your loan, and it could also increase the amount of interest you pay on the loan overall. Paying more than the minimum owed each month can help lower the amount of interest paid and the overall cost of the loan. You can contact your lender and ask them to put any extra cash you pay toward the principal balance of your loan to help speed up repayment and lower the amount of interest over the life of the loan.
Can I lose federal loan benefits if I focus on paying them off early?
If you focus on paying off your federal student loans you’ll lose access to federal benefits such as income-driven repayment plans, forgiveness, and deferment once the loans are paid off. If you think you may need these benefits you could prioritize paying off any private student loans you have instead.
Does paying off a student loan early hurt my credit score?
Paying off a student loan early may temporarily cause a minor dip in your credit score. That’s because when you pay off a loan, the account closes, which slightly changes your credit mix and lowers the ages of your credit accounts — both of which are factors that help determine your credit score. However, paying off student loans may positively impact your credit in the long term by reducing the total amount of debt you owe and reflecting positively on your payment history.
What if I’m pursuing Public Service Loan Forgiveness (PSLF)?
If you’re pursuing Public Service Loan Forgiveness, you need to make 120 qualifying payments to have your remaining loan balance forgiven. Paying off your loans early means there would be no loan balance to be forgiven. Additionally, making larger payments or extra payments does not help you reach forgiveness faster on PSLF. Instead of paying off federal loans for which you are pursuing PSLF, you could prioritize paying off any private student loans you have.
Is it better to pay off student loans or invest?
There is no one right answer to whether it’s better to pay off student loans or invest. Some factors to consider include the interest rate on your loans, the type of loans you have, and your financial goals. For example, if you have loans with high interest rates, you might want to focus on repaying them to lower your debt and save money. If you have federal student loans and think you might need the federal benefits they offer you may want to keep them, and pay off private loans first.
If you are trying to make progress toward other financial goals, such as saving for retirement, you might want to consider investing. However, be aware that investing involves risk and you could lose your money. Plus, you’ll be in student loan debt longer. Carefully weigh all the pros and cons to see whether paying off student loans or investing makes the most sense for you.
Photo credit: iStock/Voronaman
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