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A student loan refinance is when you apply for a new loan to pay off your current student loan. low Student loan refinance rate And the possibility of paying less can make it an attractive option.
Refinance is not always the best move. And if you have federal student loans, that means giving up on valuable benefits. Understand the process and potential risks before making a decision.
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Things to consider before refinancing
Refinance is not necessarily the best option. You can refinance federal student loans, but you will need to go through the process of consolidating them into private loans and getting a new loan. For Courtney Mihoshik, senior editor at Bankrate, refinancing her federal loan was not a good option.
Mihocik also wanted another benefit that seemed possible with federal loans at the time – massive forgiveness. Of course, we now see the unlikely forgiveness under the Trump administration, but that was something Mihosik took into consideration when deciding to refinance.
How does refinance student loans work?
Refinancing a student loan combines multiple student loans into a new private loan with one interest rate and monthly payments. This means you will need to go through the application and approval process, just like you did for your current student loan.
If you are refinancing a federal student loan, the process will be different as you will be applying for a private loan this time. There is no need to fill out the FAFSA and your credit profile will be considered for your new loan.
Once you determine that refinance is the best option, follow these steps to refinance your loan.
- Compare private student loan rates: You’ll want to compare lenders. Because there are different offers. You will prequalify with several different lenders to obtain fees and terms based on a specific credit score and loan.
- Submit the application: Please fill out the application online or directly depending on the lender you choose. You will need information about your finances, your current loan, and your personal contact information. Mihocik recommends keeping your account number handy from your original lender. You may also be asked to provide specific documents such as licenses, bank statements, and W2.
- Transfer payments to your new lender: Your new loan will repay the balance of your old, consolidated loan under refinance. Please confirm with your previous lender that your account has been paid and closed.
- Start paying off your new refinance loan. Once the loan is approved and you pay off your existing student loan, you will begin paying off your new refinance loan.
Refinance Student Loan: A Good Idea?
Mihocik has experienced no drawbacks in refinancing student loans. “I call it the best decision for my early 20s,” she says.
But for some borrowers, refinancing student loans may not be a one-size-fits-all solution and may not even be the best option. It is important to understand when it helps you reach your debt wage goals and when it can hinder them.
Refinance is a good idea
Borrowers with high interest rates on private loans are the best candidates to refinance as they can save the most money. Even without a better rate, refinancing to shorter terms can also help you save money overall despite having a higher monthly payment.
Below are examples of how savings collapse if you refinance to a lower rate or maintain the same rate but refinance to a shorter term.
| Key Points | Original loan | Refinance to a lower rate | Refinanced for a short period |
|---|---|---|---|
| amount | $50,000 | $50,000 | $50,000 |
| interest rate | 12% | 6% | 12% |
| semester | 10 years | 10 years | 5 years |
| Total interest paid over the loan period | $36,082.57 | $16,612.30 | $16,733.34 |
Other situations where refinancing a student loan might be a good idea:
- I have problems managing multiple loans and want to combine them into one.
- You are struggling to offer your large monthly payments and can extend your payment period.
- I would like to release Cosigner from an existing loan.
- You earn a higher income or a better credit score than when you pulled out your original loan.
By refinancing seriously, Mihoshik was able to choose her term based on how much she wanted to pay each month, and refinanced for a repayment period that allowed her to repay the loan five years earlier than the original payment date. She was also able to set up biweekly payments, allowing her to narrow down her extra payments each year, further reducing her payoff time.
When refinancing is a bad idea
In particular, borrowers with federal student loans should be considerate of their shortcomings, as they may lose benefits such as loan forgiveness, income-driven repayment options, and tolerance.
Why refinance often:
- It offers higher interest rates than what you are currently paying.
- It offers a longer repayment period than your current loan term and can afford to buy your current monthly payment.
- You are near the end of your loan term and the loan will be repaid immediately.
How refinancing your student loan affects your credit score
Refinancing your student loan can have a positive effect on your credit or negative score, depending on how you manage your loan. Factors that affect your credit score include:
- Payment history
- Credit use
- Credit history length
- New Credits
The two biggest factors are payment history and credit usage. Paying on time for at least the minimum required payments indicates that you are a responsible borrower, while low utilization rates indicate that you are successfully managing the debt you have.
Other factors that affect your credit score are the length of your credit history and new credits. An established credit history indicates that you have experience in managing debts and debts, but new enquiries may indicate that you need credit, and pose risk to your lender.
Refinance will help you with your credit score
Refinancing your student loan gives you the opportunity to increase your score by building a strong payment history and reducing credit usage.
- It’s easier to manage your loan payments than a few people and help you make payments on time.
- You can lower your monthly payments, making it easier to make monthly payments required.
- It may help reduce your credit utilization rate as it may cut your loan faster.
When refinancing hurts your credit score
Refinance temporarily lowers your score, but doing the right thing can help you recover relatively quickly. On the other hand, if you misunderstand a new loan, it can hurt your credit score.
- To qualify for a loan, you will need to take a hard credit check. This can cause temporary dips in your score.
- You’ll replace your old debt with new loans, close those old accounts, and reduce the average age of your credit.
- If you missed your new loan payment, your score could drop significantly.
Conclusion
If you think a refinance is appropriate, compare rates, conditions and rates from as many lenders as possible. Refinancing a student loan can help save money by allowing some borrowers to exchange existing loans at a lower fee for their new private loan.
That said, it’s not the right choice for everyone. If you have a federal student loan, consider that refinance means waiving access to benefits, such as federal tolerance and student loan forgiveness programs.
