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You’ve finally started to make some extra money. Wisely, you decide to put it towards your student loan payments so you can get out of debt as soon as possible. Yet even with larger payments—far more than the minimum, it feels like your balance isn’t decreasing.
When you make large payments, lenders are required to first put your payment towards any outstanding fees, then interest, and then your principal. Not only that, but if you’re stuck with a bunch of loans, your payment could be spread thin and divided among all your loans.
That’s what happened to me when I started making payments over a thousand dollars. I was paying more than the minimum, but it hardly seemed to matter. A good chunk of it went to interest first, but then the rest was spread evenly among my loans. I knew if I really wanted to make progress and actually see it, I’d have to focus on specific loans.
If you want to jump-start your student loan repayment, here’s how you can make sure that your payments are applied properly so you can make the maximum impact on them.
1. Divide and conquer
The first step is to come up with a plan to help you divide and conquer. Start by creating two lists—one with your federal loans and one with your private loans. Then write down every single loan balance plus the interest rate under the corresponding column.
Then come up with a plan of attack. Will you use the ever-popular snowball method, which focuses on paying off the smallest balance first while paying the minimum on the rest? Or will you use the avalanche method to focus on high-interest debt first?
You can test the impact of both of these strategies using a student loan prepayment calculator like this one.
Given the amount of interest my graduate-school loans accrue each month, I use the avalanche method. Once you’ve come up with a strategy, focus on paying off your private loans first. Private loans often come with less protection and flexibility than federal loans, so it’s a good idea to pay them off first.
The divide-and-conquer strategy works because it lets you focus specifically on obliterating one loan at a time, rather than just making a dent on your total loan balance.
2. Talk to your lender
Every lender is different, but if you make a payment that is more than the minimum and you don’t specify where your money should go, your lender will decide how your student loan payment is divided up unless you specify otherwise.
To ensure that your extra payments are going directly to your principal—and to the loan you want them to, given your plan of attack—you need to talk to your lender and specify where your money should go.
The Consumer Financial Protection Bureau has created a sample letter to help you get started. You can use the following template to send a message to your lender via snail mail or email:
I am writing to provide you with instructions on how to apply payments when I send an amount greater than the minimum amount due. Please apply payments as follows:
After applying the minimum amount due for each loan, any additional amount should be applied to the loan that is accruing the highest interest rate.
If there are multiple loans with the same interest rate, please apply the additional amount to the loan with the lowest outstanding principal balance.
If any additional amount above the minimum amount due ends up paying off an individual loan, please then apply any remaining part of my payment to the loan with the next highest interest rate.
It is possible that I may find an option to refinance my loans to a lower rate with another lender. If this lender or any third party makes payments to my account on my behalf, you should use the instructions outlined above.
Retain these instructions. Please apply these instructions to all future overpayments. Please confirm that these payments will be processed as specified or please provide an explanation as to why you are unable to follow these instructions.
When you make extra student loan payments, it’s critical to remember that lenders are required to pay interest first, and that interest accrues daily. So if you pay an extra $250 to your loans, a full $250 will not be subtracted from them.
3. Confirm extra payments are applied correctly
Nelnet is my loan servicer, and I can easily choose which group of loans my payments go to. Using Nelnet, I can go to the site and click on an arrow to show all the details of every loan I have. I can then direct a payment towards the loan I want to pay.
Since I’m using the Avalanche method, I’m focusing on getting rid of that last 7.9 percent interest loan, so I direct extra money specifically to that loan. Keep in mind, interest is still growing on my other loans; I just choose to pay the minimum on those loans and focus the extra on one specific loan.
Because I’ve paid so much extra, you can see that Nelnet has moved up my due date to March 2016. While I could technically not pay anything until then, I have a plan to get rid of my student loans as quickly as possible, so I’m continuing to make monthly payments.
You can also choose “Do Not Advance the Due Date” if you’re paying double or more on your loans with Nelnet. If you feel like the advanced due date might throw you off your repayment plan, I recommend choosing this option so you’re reminded to continue with monthly payments.
Be aware that if you choose to pay extra on your loans, but then you stop making payments because of the advanced due date, you could be doing more harm than good. During that time you’ll still accrue interest.
For example, even though my due date is technically not until March 2016, if I neglected to make payments until then, I’d rack up at least $1,000 in interest. So don’t let the advanced due date confuse you or convince you to stop making payments.
For other lenders, be sure to check that your payments are being applied correctly. If it’s not clear on the website, use the above template to contact your lender immediately to make sure your extra payments are going towards the principal of your highest interest loan or lowest balance, depending on what method you choose.
If you send a check in the mail, be sure to include “Apply to Principal” on the memo line to ensure that you’re putting a dent in your loans.
If you’re like me and you want to get out of debt as soon as you can, making extra payments is the only way to go. But you want to make sure your extra money is hitting the principal and working in alignment with your strategy so you can actually see some progress.
The key is to talk to your lender and set up specific instructions for all your payments going forward.