Income-Driven Student Loan Repayment Plans

As discussed in a previous blog post, federal student loans are eligible for a number of income-driven repayment plans. These plans can lower initial payments, ease the burden of interest, and even forgive all outstanding debt after a certain period of time.

The four income-driven plans that most federal student loans qualify for are the ICR, IBR, PAYE, and REPAYE plans. These plans set a monthly income-based payment amount, which is unaffected by the balance of the loan. After a certain number of years, called the Repayment Period, any remaining loan balance is forgiven. At that point, the forgiven balance is taxed as income.

To learn more about each income-based repayment plan, click on their name below.

Income-Contingent Repayment Plan (ICR)

This is the easiest income-driven repayment plan to qualify for, but often provides the least benefit. In this plan, the payment amount is set to the lesser of 20% of discretionary income or what you would pay on a repayment plan with a fixed payment over the course of 12 years, adjusted for income. Any borrower with eligible federal student loans may make payments under this plan.
Repayment Period: 25 years

Income-Based Repayment Plan (IBR)


To qualify for the IBR plan, the payment you would be required to make must be less than what you would pay under the Standard Repayment Plan with a 10-year repayment period. If the payment is more than this amount, you won’t benefit from using an income-based repayment plan. The payment amount is set to 10% of discretionary income if you are a new borrower on or after July 1, 2014, or 15% otherwise.* This monthly payment will never be more than the 10-year Standard Plan amount.
Repayment Period: 20 years if you are a new borrower on or after July 1, 2014, otherwise 25 years
*For the IBR plan, you are a new borrower if you had no outstanding Direct or FEEL Loans when you received a Direct Loan on or after July 1, 2014.

Pay As You Earn Repayment Plan (PAYE)


To qualify for this plan you must meet the same eligibility requirement as the IBR plan, must be a new borrower as of October 1, 2007, and must have received a disbursement of a Direct Loan on or after October 1, 2011. Payments are set to 10% of your discretionary income, and are capped by the 10-year Standard Repayment Amount.
Repayment Period: 20 years

Revised Pay As You Earn Repayment Plan (REPAYE)


The newest income-based repayment plan, REPAYE, is often the most beneficial. Any borrower with eligible federal student loans may make payments under this plan, and the payment amount is set to 10% of your discretionary income. This makes REPAYE a good option for those seeking loan forgiveness under the PSLF program.
Repayment Period: 20 years if all loans you are repaying were for undergraduate study, otherwise 25 years

To determine which repayment plan is best for you, or if you have any questions about a specific plan, contact your loan servicer.

To apply for an income-driven repayment plan, you must submit an Income-Driven Repayment Plan Request. This can be obtained from your loan servicer, or submitted online at StudentLoans.gov.

Public Service Loan Forgiveness Program (PSLF)
A final consideration concerning repayment plans is the Public Service Loan Forgiveness Program. PSLF only applies to full-time employees of certain public service employers, but can forgive all remaining loan balance in as little as 10 years. Unlike the other income-driven repayment plans, any balance forgiven under PSLF is not taxed as income.

This program stipulates that any qualified employee who has made 120 qualified, monthly payments toward a qualifying loan will have the remining balance on their eligible loans forgiven tax-free. These 120 payments must be under one of the above plans, the 10-year Standard Repayment Plan, or a similar Direct Loan repayment plan with a monthly payment at least equal to those of the 10-year Standard Plan.

Public service sectors that qualify for this program include military, public schools, any federal, state, local, or tribal agency, law enforcement, public safety, and not-for-profit tax-exempt 501(c)(3) organizations. For a comprehensive list of government agencies and departments, visit USA.gov.

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Managing your Student Loans

Student loan debt is quickly becoming the fastest-growing epidemic in American economics. The national student loan debt totals $1.3 trillion, grows at a rate of $3,000 per second, and shows no signs of slowing. Student loans are unwieldy, issued at interest rates that should be confined to Orwellian satire, and are one of the only forms of personal debt that cannot be discharged in a Chapter 13 bankruptcy. Even aside from seemingly endless monthly payments that can consume a sizeable portion of a recent graduate’s salary, student loans can plague a borrower’s credit score for years after they graduate. So, in a culture where an increasing emphasis on postsecondary education makes student loans seem like a necessary evil, what can a prospective student do to avoid being swallowed by their debts?

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As is often the case, the first step in managing student loan debt is to do your research. An estimated 65% of high-debt student loan borrowers don’t understand the terms of their loans, leaving them susceptible to massive interest accruals and nightmarish credit spirals. In fact, according to a 2015 Government Accountability Office report, about 70% of those who have defaulted on their federal student loans had incomes low enough to qualify for an income-driven repayment plan. Almost all federal loans are eligible to qualify for these plans, which can reduce initial payments, ease the burden of interest, or even forgive all outstanding debt after a certain period of time. For those not already versed in the intricacies of loan debt, though, it can be hard to find a plan to fit their needs. Thankfully, in a field where a lack of knowledge can be dangerously expensive, there are a few simple tips to keep in mind when deciding how to deal with student loans.

Whenever possible, it is better to take out a federal loan than a private loan. Federal loans have fixed interest rates around 3.76%, are eligible for interest subsidies, and can qualify for any one of many repayment plans. Private loans, on the other hand, have variable interest rates averaging 9-12%, which can potentially increase over the life of the loan. Private debtors have no obligation to offer repayment plans, and often require payments to start immediately after the loan is signed. Essentially, private loans are more expensive, less forgiving, and completely unsubsidized.

Once you have student loans, the next step is to consider consolidation. Consolidating multiple federal loans into one loan agreement can simplify the repayment schedule, lower monthly payments by extending the repayment period, and qualify loans for new payment plans. Consolidation also often allows variable interest rate federal loans to be combined into a fixed rate agreement. This may seem fantastic, but there are some downsides. While an extended repayment plan may ease the immediate financial burden, it will likely increase total interest payments over the life of the loan. You may also lose any discounts or benefits associated with the original loans, which could have potentially saved thousands of dollars. Consolidation is also permanent, so if you are only seeking short-term relief in a time of financial trouble, deferment or forbearance may be better options. Finally, under no circumstances should private and federal loans ever be consolidated; since private loans cannot be federally subsidized, the consolidated loan will be ineligible as well.

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The last point to consider is whether or not to make prepayments on a student loan in times of financial surplus. Following the Higher Education Opportunity Act of 2008, it became illegal to charge any sort of penalty on the prepayment of a federal loan. It also established that any borrower has the right to make a prepayment against their outstanding principal, rather than simply making an early payment for the following month. This means they can make a payment on the principal of a loan, reducing the amount of interest accrued, with no immediate drawback. Of course, it isn’t always that simple. While it is usually a good idea to make a prepayment in times of true excess, making an early payment with money that is then needed for other expenses can be disastrous. In a worst-case scenario, hastily prepaying an existing loan can force a borrower to take out another loan in order to pay for other expenses.

In the world of student loans, one misstep can have serious financial consequences for years to come. Without proper debt management techniques and an adequate understanding of its terms, even the smallest student loan can grow into an unmanageable beast. However, with the right mindset, thorough research, and a willingness to make sacrifices, that beast can be tamed.

Home Equity Lines of Credit

Following the 2008 housing market crash, many Americans are wary of any loan collateralized against their homes. While this is an understandable concern for some, many Americans would actually benefit from acquiring a Home Equity Line of Credit for use in times of financial need. Providing a quick, relatively large cash pool, HELOCs tend to outperform credit card loans in terms of debt management when utilized properly.

To understand the potential benefits of HELOCs, it is important to note how they differ from typical mortgages. Home Equity Lines of Credit are, as the name suggests, lines of credit rather than loans. This means that there is a maximum allowable loan, often no minimum draw, and interest is only paid on money borrowed. If you do not end up drawing against the line of credit, you do not pay any interest expense. Most HELOC’s have a variable interest rate, rather than the fixed rate of a typical mortgage. This rate is tied to the market interest rate, which can mean trouble if interest rates rise. Finally, if the money is used for home repairs and upgrades, the interest accrued on it is tax deductible.

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That is not to say that a HELOC is right for everybody. They have some of the same closing costs as a first mortgage (application and appraisal fees, attorney’s fees, etc.) which can add up quickly. This means that HELOCs are probably not right for anyone unable to make a fairly large initial payment, or who are seeking to borrow a relatively small amount of money. They are also a bad choice for anyone who cannot afford for interest rates to rise, or who does not expect to be able to keep up with their monthly payments. In a worst case scenario, the issuer of the HELOC can force the homeowner to foreclose on their home if they borrow too much and fail to pay it back.

Debt consolidation is also a terrible reason to take out a HELOC, especially without a strict debt management plan. While the idea of debt consolidation may appeal to many borrowers, the true change needed to reduce debt is usually behavioral. Without a strict behavioral plan for reducing debt, paying off other loans with a HELOC does nothing to lessen the burden; it only shifts it. Furthermore, if the existing debts are not related to the acquisition or maintenance of the home, the HELOC interest paid may even lose its tax-deductible status. For more information on the deductibility of HELOC interest, consult a tax preparer.

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For anyone else, however, especially those looking to take out a loan to do maintenance on their house, a HELOC might be perfect. Since the credit uses your home as collateral, the initial interest rate is usually much lower than the rate on a typical credit card. A HELOC that is arranged in a time of prosperity can also serve as an emergency backup fund if a homeowner’s financial situation takes a serious turn for the worse. By opening a HELOC when their credit score is high, a homeowner can usually receive a low initial interest rate. They can then borrow at that rate later if they need emergency funds, rather than borrowing at outlandishly high credit card interest rates. While the rate is variable, and will likely be adjusted upwards in a time of financial struggle, there are periodic and lifetime caps on how high it can increase.