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If you’re feeling overwhelmed by your student loans, you can take comfort in the fact that you’re not alone: Over 44 million Americans have student loan debt today.
You might have a mix of both federal and private loans and have several different loan servicers. This can make keeping track of your total debt, minimum payments, and monthly due dates confusing. Sometimes it might even cause you to miss payments.
In cases like this, consolidating your student loans could help you manage your loans more efficiently. But it’s not a one-size-fits-all strategy. Here’s what to keep in mind before you dive into student loan consolidation.
What is student loan consolidation?
If you have multiple federal student loans and want to simplify your payments, consolidating can be a smart strategy. One way to consolidate your debt is to apply for a federal Direct Consolidation Loan.
With this method, the Direct Consolidation Loan is used to pay off your old debts. You’ll get a new loan equal to the combined amount of your old loans. It will have a fixed interest rate based on a weighted average of the loans you consolidate.
By taking out a Direct Consolidation Loan, you can minimize the stress of your debt while retaining your federal loan benefits. Often, Direct Consolidation is required in order to enroll in federal programs such as income-based repayment.
The difference between consolidation and refinancing
While the terms are sometimes used interchangeably, consolidating your loans is different than refinancing them. Because the interest rate is a weighted average, rounded up, consolidation is unlikely to save you money. Consolidation simply makes keeping track of your loans easier since you’ll have just one loan to manage and one payment to make each month.
Refinancing is a completely different process. If you refinance, you can consolidate several loans into one. However, you can refinance both federal and private loans. Plus, refinancing is only available through private lenders, so you lose the federal benefits associated with any federal loans you refinance.
The new, refinanced loan can have completely different terms, too. For instance, you might be able to get a much lower interest rate and shorten your repayment term.
When student loan consolidation makes sense
Although consolidating won’t save you money, it can make repaying your loans easier. Here are three situations when consolidating your student loans might make sense for you:
1. You want to extend your repayment period. If you’re struggling to make your payments under a 10-year, Standard Repayment Plan, consolidation can help reduce your monthly payments. When you take out a Direct Consolidation Loan, you can extend your repayment term to up to 30 years and get a smaller payment.
While extending your payment term can make your payments more manageable, keep in mind you’ll pay more in interest over the length of the loan.
2. You want to qualify for an income-driven repayment plan. If you consolidate loans other than Direct Loans, you can become eligible for income-driven repayment plans. Under these plans, the government extends your repayment term and caps your payments at a percentage of your income. That can help give you more breathing room in your budget.
You’ll pay more in interest over the length of your new repayment term, but an income-driven repayment plan can make keeping up with your payments possible on a small salary. Plus, if you have debt left over when the repayment term is up, it will be forgiven (but taxed as income).
3. You want your loans to have a fixed rate. If you have older federal loans, you may have some with variable interest rates. That means the interest and monthly payment can change according to market conditions. If you want the stability of a fixed-rate loan with steady payments, consolidating can help.
Switching to a fixed-rate loan may give you a slightly higher interest rate, but it will remain the same for the duration of your loan.
When refinancing your student loans makes sense
If your goal is to save money on your student loans, refinancing may be a better option for you than consolidation. Here are some reasons you might consider refinancing instead:
1. You want to lower your interest rate. When you refinance, lenders will offer you different loan terms. Depending on your credit score and income, you may qualify for a loan with a lower interest rate. Lowering your rate can save you a lot of money over time and allow you to pay off your loan faster.
Use our calculator to see if refinancing can save you money.
2. You want to secure a fixed interest rate. If you currently have private loans, you may have a variable interest rate. That means your interest charges could increase over time.
By refinancing, you can get a new loan with a fixed interest rate and guarantee a consistent rate for the life of your loan.
3. You want to reduce your monthly payment. If you’re on a tight budget and your loan payments eat up a big chunk of your salary, refinancing can help.
In addition to getting a lower rate, you can choose a new repayment term. By opting for a longer repayment period, such as 10 to 20 years, you may be able to reduce your minimum payment. That approach can give you more breathing room.
Keep in mind that refinancing has some drawbacks, though. If you have federal loans and refinance them, you will lose out on benefits like access to income-driven repayment plans, deferment and forbearance, and some forgiveness plans. In addition, if you opt to extend your repayment term, you could pay back more in interest over time.
If you want to compare the immediate benefits of consolidating vs. refinancing for your situation, check out the calculator below:
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Consolidation vs. Refinancing Calculator
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Refinancing is the only way to lower your interest rate but you may lose some of the safeguards associated with having federal loans, so make sure you are fully educated on the decision by reading our recommended resources below:
Beware of consolidation and refinancing scams
In recent years, many scams have arisen that prey on borrowers struggling to keep up with their payments. For a fee, many companies will offer to consolidate your loans for you. But consolidating your federal loans is completely free, and you can apply online in less than 30 minutes.
If you decide to refinance instead, you can also shop around and compare offers from lenders on your own. You can also complete the application online, without ever paying an application fee.
When it comes to consolidating or refinancing your loans, avoid companies that try to charge you fees to get started.
Should I consolidate my student loans?
The answer to that question depends on several factors, including whether you want to simplify your payments or save money with refinancing.
The most important aspect in making this decision, as with any financial decision, is being aware of all of your options. Weigh the benefits and drawbacks carefully to choose the best path for you and your finances.