Refinancing For Student Loans: How It Works

Refinancing is a popular solution among students looking for a way to change the terms of their loan. This is done through private lenders who have their own requirements that you’ll need to meet to get approval. If you’re approved, the lender pays off your existing loans and issues you a new loan.

The lender will calculate a personalized interest rate for you based on your credit score. But you will be able to choose the loan term. Your choice of loan term will impact your monthly payments. When you refinance, it’s crucial that you take time to determine how much you can afford to pay every month towards repayments before choosing a new loan term.

Many loan holders have taken advantage of record low interest rates in 2021 and refinanced their student loans, instantly lowering the cost of their debt. The good news: interest rates have gone up only marginally towards the end of 2021 so it’s still worth considering refinancing your student loans.

Not sure whether or not refinancing is the right solution for you? Understanding the basics will help you make a more informed decision.

Why Refinance Student Loans?

Students choose to refinance their student loans for a number of different reasons. Here are some reasons why you may want to consider:

Your credit score has improved

Your credit score is a 3-digit number that is based on how well you manage your debts. Paying off your student loans and credit card bills on time, every time, is the best way to boost your credit score. A good score will qualify you for a lower interest rate, which will save you a substantial amount in accrued interest. If your score has improved since you first took the loan, you should definitely consider refinancing.

Market interest rates are down

Rates for refinancing student loans are pegged to prevailing market rates. Market rate are rates that all financial institutions across the board use for lending money. These rates fluctuate daily, sometimes several times a day. If you refinance when rates are low, you’ll benefit from the lower rate, which is applicable till you’ve cleared the debt. Even a small drop in the interest rate can save you thousands of dollars over the life of the loan.

You can afford to increase the monthly payments

If you’re earning a high income, refinancing to increase your monthly payments is always a good idea. The higher monthly payments will reduce the total payment term. Not only will you clear your student loan debt earlier, but you’ll also save a significant amount in interest over the shorter term.

You can’t afford the monthly payments

Maybe you’re struggling financially and can’t afford the monthly repayment amounts. In this case, you should consider refinancing to extend the loan term. Spreading the payments over a longer term will lower your monthly payments, making them more affordable. You will pay more in accrued interest over the longer term but that’s far better than defaulting on your loan, which has serious consequences.

You want to change from variable to fixed rate

With a variable rate loan, your monthly payments are subject to market fluctuations. You’ll pay more when market rates are high and less when rates are down. This makes it difficult to create a long-term budget. Besides, the ever-fluctuating changes can be incredibly stressful. Interest rates are at near record lows right now. If you switch from variable to fixed rate now, you’ll be able to lock in a lower rate without having to worry about market volatility. This lower rate remains locked in until you’ve paid off the loan completely.

When Refinancing Student Loans: Be Aware…

There are no disadvantages to refinancing private student loans. These loans don’t come with any special benefits, so you stand to lose nothing when you refinance. You should definitely go ahead and refinance if you can get a lower interest rate or need to change your loan terms.

Refinancing federal student loans, however, requires more serious thought. Federal student loans come with several protections such as income-based repayment plans, forgiveness programs, and deferment and forbearance options. However, the federal government doesn’t offer refinancing. You can only refinance student loans through private lenders. When you do this, the loans become private, and you’ll lose access to all benefits associated with the original federal student loans. If your financial situation is still shaky and you think you may need these protections, it’s better to hold on to your federal student loans a little while longer.

If you want to refinance only your private student loans and keep your federal student loans, you can choose to do a partial student refinance. Through this strategy, you refinance only your private student loans and keep the federal loans as is. This will help you get the benefits of refinancing without losing access to the protections offered by federal student loans.

Is Refinancing Right for You? Your Next Steps

If you’ve reviewed your financial circumstances and decided that refinancing is a good option for you, here’s what you need to do next:

#1- Check your credit report and credit score – Your credit score is the single biggest factor that influences your interest rate. The higher your score, the lower the rate you’ll pay. It’s always a good idea to check your credit report before doing anything else. You’re entitled to one free credit report check every year and this is a good time to request a copy. If you find any errors or incomplete entries that are pulling your score down, you can dispute them and get them corrected so your score is reflected accurately. This will allow you to get the lowest interest rate possible when you refinance.

#2- Compare lenders – Lenders vary considerably in their eligibility criteria, terms, fees, and interest rates. Comparing lenders is key to finding one that’s the best fit for you. Don’t just compare interest rates. Make sure to also compare miscellaneous fees and terms of the loan to ensure that you’re getting the best deal possible.

#5- Use a refinance calculator – A refinance calculator is an online tool that helps you determine the best terms on your new loan. Most lenders have this tool on their website. You can use this online tool to calculate your monthly payments based on the lender’s quoted interest rate and different loan terms. This will help you choose a payment term that works best for you.

#4- Gather together all relevant documentation– Most lenders will ask for your graduation certificate, Social Security number, proof of employment and income, proof of residency, and documents of your original loan.

#5- Apply for refinancing – Never submit a formal refinancing application before you’re fully ready. When you submit an application, the lender will do a hard credit check, which will pull your score down by a few points. Multiple hard credit checks done within a short period of time will cause your score to plummet. This will adversely affect the interest rate you’ll pay on the new loan. Make your initial inquiries and shortlist potential lenders. Only submit a formal application when you’ve finalized your best-fit lender.

A Quick Recap

You should consider refinancing if:

• Your credit has improved and you qualify for a lower rate of interest.
• Interest rates have dropped.
• Your finances have improved and you can afford to increase the monthly payments.
• You have private student loans.
• You have federal student loans and are sure you won’t need any of the associated protections in the future.
• You’re struggling to meet your monthly debt payments and need to lower the monthly payments.

You shouldn’t consider refinancing if:

• Your credit score doesn’t qualify you for a lower interest rate.
• You have federal student loans and think you may need to use the protections they provide.
• You have federal student loans and are pursuing student loan forgiveness.