With the new federal coronavirus relief on student loans, don’t rush to refinance

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This article was updated on March 28, 2020.

The Federal Reserve cut rates to near zero on March 15, making it cheaper for consumers to borrow money to limit the impact of the coronavirus on the economy. That means your credit card’s APR will likely get cheaper, as will the interest rates on mortgages, auto loans, and student loans.

If you are currently paying off student loans, several private lenders offer the option to refinance them at a lower interest rate if you qualify. That may sound tempting right now, as rates are set to fall across the board.

But depending on your credit, income, and job situation, refinancing – especially if you have federal loans – could be a risky move. This is especially true now that the Congressional stimulus package has granted federal student loan borrowers a six-month grace period and fixed interest rates at 0% during that time. When you refinance federal loans, you cannot take advantage of this relief.

Here you can find out whether refinancing is right for you.

What is Student Loan Refinancing?

When you refinance a student loan, a lender will assess your finances and, if you meet the requirements, replace your previous student loan with a new one at a potentially lower interest rate. This can save you money over time, especially if you also opt for a shorter repayment period and can pay off your loan faster with less interest.

Not everyone will qualify for student loan refinancing. Lenders typically require a good or excellent credit score, which is 670 or higher on the FICO credit rating model’s 850-point scale. You will also want to see strong income and low debt to income ratios to make sure you can make your payments.

Related: Compare student loan refinance rates for 2020

Federal Loan Benefits You Lose If You Refinance

While refinancing can mean big savings – especially on high-yield personal loans taken out at a time when interest rates weren’t that low – there are some significant drawbacks.

The biggest is that by refinancing federal student loans, you will be excluded from extremely beneficial federal repayment programs that you may need now more than ever. Only private lenders offer student loan refinancing, which means that all federal loans go private when you refinance them.

That means you will lose access to:

  • Generous deferral options including the ability to defer or trim loans for up to three years in some cases. Also, if you’ve subsidized federal loans, the state pays the interest accrued during the forbearance. This means that when you start making payments again, the amount you owe will not have increased.
  • Income-oriented repayment plans that are crucial if you have concerns about the long-term sustainability of the student loan. You lower the monthly student loan payments to 10 to 20% of your disposable income, depending on the plan, and grant the balance after 20 to 25 years of payments. You must meet income requirements to be eligible for some plans, but one – Revised Pay As You Earn – is open to all federal borrowers.
  • Student loan waivers, which can be tax-free if you qualify for the federal government loan program. Depending on your job and the type of loan you have, your federal loan may be waived after a period of time. For example, Public Service Loan Forgiveness offers tax-free waiver after 120 monthly payments if you meet the requirements. Perkins teachers and borrowers also have access to dedicated forgiveness programs.
  • A relatively long time until the student loan defaulted. If you fail to pay your federal loans for 90 days, they will be reported to the credit bureaus as overdue and you will see late payments on your credit report. Your loans will revert to default status after 270 days of inactivity, a longer period than private student lenders typically offer. Failure to pay leads to serious consequences, such as ruined loans and loss of access to government grants. But federal loans give you nine months to address affordability concerns and prevent default. This is important because the default will show up on your credit report for seven years, which will affect your ability to borrow and get lower interest rates on loans and credit cards in the future.
  • Federal student loan relief in connection with the economic impact of the coronavirus. The US Department of Education charges 0% interest on federal student loans that are currently being repaid, and all federal borrowers are granted an automatic six month deferral on their payments. When you refinance federal loans, you lose these benefits, even more of which may be foreseeable.

What to consider before refinancing student loans

While it is natural to look for ways to save money in the environment we find ourselves in, you shouldn’t be refinancing too quickly just to get yourself a lower interest rate. First, ask these questions:

What kind of student loans do you have?

First, determine if you have federal loans, private loans, or a mix. You can find out by logging into your federal student aid account. (You’ll need an FSA ID; create one if you don’t already have one.) Once logged in, you can review your pending federal student loans and other important information, including the company that collects your payments on behalf of the government.

You can find your personal student loans by checking your credit report; It lists all of your current credit accounts, including student loans, along with their balances and original lenders. All student loans on your credit report that aren’t listed on your federal student aid account are private loans.

How secure is your income?

While the economic impact of the coronavirus won’t last indefinitely, it could have a short-term impact on your income, making it more likely that you will need federal student loan protection. Before refinancing, consider your individual financial situation for the next three months to a year:

  • Do you or a partner work in an industry that could limit your working hours or initiate layoffs?
  • Would a possible illness or quarantine affect your ability to make money?
  • Are you working towards federal student loan issuance, or are you thinking of excluding you from refinancing?

If you are concerned about job security or your ability to afford other bills and loan payments, avoid federal loan refinancing. You may need to take advantage of income-based repayment, deferral, or deferral, and losing these options could mean falling into arrears. Right now, it is more important to limit the potential impact of lost wages than to benefit from an interest rate cut.

Could you get better terms on a new loan?

While federal loans may not be safe to refinance right now, personal loans are a different story. You could save money at a lower interest rate without the risk of losing federal credit protection, and your new lender may also offer better terms than what you received before.

Related: Compare student loan refinance rates for 2020

For example, some private lenders require borrowers to sign up for a deferral, says Persis Yu, director of the National Consumer Law Center’s student loan aid project. If your current lender does this, you could be able to refinance to a new lender who has fewer fees or more flexible forbearance options.

Or you could independently refinance a private loan that currently includes a co-signer. That would make you the only borrower of the new, refinanced loan and relieve your co-signer of the responsibility to potentially cover payments when you can’t. For example, parents who co-signed your student loans and are in or about to retire – with their own concerns about the affordability of bills – could benefit.

Either way, make sure you can make payments to a new lender as planned before refinancing. You save the most money in interest if you can refinance the repayment term as short as possible; five years, for example, is a common refinancing offer from lenders. But now is not the time to take risks with your money. There’s no rush to refinance, this week or in the future – focusing on your health, protecting your emergency fund, and making sure you can meet necessities like living and dining could be your better reputation right now.

Continue reading: Your Money and Coronavirus: A Guide to Financial Protection

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