Should I Refinance or Consolidate My Student Loans?

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Refinancing or consolidating student loans can allow you to bundle all your loan payments into one—and in the case of refinancing, potentially save money on interest. Which option you go for, though, depends on the type of loans you have and how much you stand to save. You may also want to do some research to find out if you have a forgivable student loan.

Before moving forward, you'll also want to consider what you might lose in the process. Here's what you need to know.

How Do Refinancing and Consolidation Work?

If you're having trouble affording your student loan payments, loan refinancing and consolidation are two options you might be exploring. Both can simplify your loan repayment and reduce your payments, but they share few similarities beyond that. There is another option you can explore, and that is checking is you have a forgivable student loan.

Refinancing replaces one or more existing loans with a new one through a private lender, while consolidation goes through a program with the federal government and is only available for federal student loans. Here's a quick summary of how they differ:

Student Loan Refinancing vs. Consolidation
Can simplify monthly paymentsYesYes
Can result in a lower monthly paymentYesYes
Can qualify for a lower interest rateYesNo
Can result in a higher interest rateYesYes
Keeps access to federal loan benefitsNoYes
Can pause payments in the futureYesYes
Can still qualify for loan forgivenessNoYes
Requires a credit checkYesNo

Consolidating Federal Student Loans

The Direct Loan Consolidation program through the U.S. Department of Education is only available for federal student loans. In contrast, you can refinance federal loans, private loans or even both together if you have a mix.

With the Direct Loan Consolidation program, you can replace one or more existing federal loans with a new one. Some of the benefits of consolidation include:

  • Borrowers with loans from the Federal Family Education Loan (FFEL) program, parent PLUS loans and other loan programs can consolidate into direct loans, which can provide access to certain benefits that wouldn't otherwise be available, such as loan forgiveness programs and income-driven repayment plans.
  • People with defaulted student loans can get them out of default through consolidation.
  • Borrowers can extend their repayment term up to 30 years.

Because there's no credit check required, federal loan consolidation doesn't affect your credit score.

Keep in mind, though, that there's no way to get a lower interest rate through the federal consolidation program. Instead, the federal government will take the weighted average interest rate across all of your federal student loans and round it up to the nearest one-eighth of a percent. If the interest rate on all your loans is the same, the best-case scenario is that the rate will stay roughly the same.

Federal and Private Loan Refinancing

You can refinance both federal and private student loans with a private lender. Depending on the situation, here are some potential benefits:

  • Borrowers with good credit may be able to get a lower interest rate.
  • People who want flexibility can choose a shorter or longer repayment period.
  • Parents who borrowed money to help their children get through school can transfer the debt to them after they graduate (as long as both parties agree).

There are a couple of caveats with refinancing, though. First, there's no guarantee that you'll be able to get better terms than what you have now. To get the best terms, you typically need a high credit score and income, though you may still see an improvement if your credit is simply better now than it was when you opened the accounts. You can get a creditworthy cosigner to apply with you, but that can be difficult.

Also, if you refinance federal loans, you'll lose access to loan forgiveness programs, income-driven repayment plans and generous deferment and forbearance options provided through the government. Private lenders may offer some similar benefits, but they're no guarantee.

Is It a Good Idea to Refinance Federal Student Loans?

Private student loans don't offer the same flexibility federal student loans do. Because you'll lose access to all of the benefits that come with federal loans, refinancing federal loans can be a big gamble.

But it could be worth refinancing if you have a strong income and job security and know you won't have to rely on federal loan benefits. Plus, if you have both federal and private loans, you could just refinance your private loans only. An honest evaluation of your whole financial picture will help you make the decision that's right for you.

Final Considerations Before You Decide

There are currently some special considerations to make before you refinance federal student loans.

The first is that federal student loan payments are paused until at least September 30, 2021. During that time, no interest will accrue and there's a moratorium on collection attempts for people in default. If you have eligible federal loans, refinancing now may not be in your best interest.

Second, the Biden administration is considering forgiving $10,000 or more in student loan debt for federal borrowers. While it's still unclear if and when this will happen, and what the eligibility requirements will be, the benefits of refinancing pale in comparison to that prospect.

So if you're thinking about refinancing, consider holding off until there's more clarity about the future of federal student loans.

Build Credit Before You Refinance

If you end up deciding to refinance your private student loans or at least a portion of your federal student loans, it's important to make sure your credit is ready. Again, the best rates are reserved for people with high credit scores and incomes.

Check your credit score to see where it stands. If it needs some work before you apply, review your credit report to pinpoint areas you can address. That can include paying down credit card balances and taking other actions that can help improve your credit score.

This process can take time, but if it helps you score even a slightly lower interest rate, it could save you hundreds or even thousands of dollars, depending on how much you owe. As you make an effort to improve your scores, closely monitor it for changes to see how effective your actions have been.