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If you have student loans and are considering refinancing your debt, recent interest rate hikes may have you nervous about missing out on historically low rates. But before rushing into refinancing, consider some significant downsides to refinancing federal student loans.
While student loan refinancing may make sense for some borrowers, it’s not something you should do without understanding the pros and cons.
Why Refinancing Your Student Loans Could Be Risky
Can you refinance federal student loans? Yes, most lenders will allow you to refinance federal debt. And if you have a mix of private and federal loans, refinancing allows you to combine them into one.
The bigger question is whether you should refinance federal loans—and the answer is a bit more complicated.
Refinancing can help you secure a lower interest rate, reduce your payments and save money. But refinancing federal loans has several potential downsides.
1. You Will No Longer Be Eligible for Federal Repayment Plans
As a federal loan borrower, you can take advantage of alternative payment options like income-driven repayment (IDR) or graduated repayment plans. With these options, you can dramatically reduce your monthly payments to make them more affordable.
Once you refinance, your loans are private and they are no longer eligible for federal repayment options. That means you’re limited to the payment options offered by your refinance lender, which are often less flexible than federal plans.
2. You Cannot Qualify for Federal Loan Forgiveness
If you work for a nonprofit organization or government agency and have federal loans, you could qualify for Public Service Loan Forgiveness (PSLF) after making 120 monthly payments and working for a qualifying employer for 10 years.
However, only federal loan borrowers are eligible for PSLF and other forms of federal loan forgiveness. Once you refinance, you’ll no longer be eligible for loan forgiveness, even if you meet the program’s other criteria.
3. You Can’t Take Advantage of Federal Forbearance or Deferment
As a federal loan borrower, you can take advantage of federal forbearance or deferment programs to pause your payments in certain circ*mstances. For example, you can postpone your payments if you return to school, are deployed in the military, lose your job or experience a medical emergency.
Once you refinance, you’ll no longer be eligible for federal forbearance or deferment programs. Although some private student loan lenders offer temporary hardship forbearance, the requirements tend to be stricter—and the duration much shorter—than federal forbearance.
4. You Won’t Be Eligible for the Federal Payment Freeze
Since March 2020, the government has paused federal student loan payments and set the interest rate to 0%. Currently, the student loan forbearance period is expected to end on August 31, 2022; however, it could be extended again.
If you refinance your loans, you will no longer be eligible for the payment freeze. With your refinanced loan, your payments will be due soon after disbursem*nt and interest will accrue on your loan.
5. You Won’t Qualify for Future Federal Forgiveness Measures
During President Biden’s campaign, one of his proposals was partial student loan forgiveness. In recent months, there has been renewed discussion over loan forgiveness measures.
However, any of Biden’s student loan initiatives will likely only apply to federal student loans. If you refinance, your debt will be transferred to a private lender and you won’t qualify for any potential loan forgiveness provisions.
When Refinancing a Federal Student Loan Could Make Sense
Despite the disadvantages of refinancing federal loans, there are some scenarios where it can still make sense.
1. You Have Very High Interest Rates
Depending on the type of loans you have and the year you took them out, your federal loans may have high interest rates. In the past, loans for undergraduate students have had rates as high as 6.8%, while parent and grad PLUS loans have had rates as high as 7.9%.
If you have loans with high rates, refinancing may be worthwhile to secure a lower rate and save money.
2. You Want to Transfer Parent Loans to the Student Borrower
Parent PLUS loans are federal loans parents take out to pay for their child’s undergraduate education. Unlike other federal loans, there are no caps on how much you can borrow and they can have much higher interest rates and fees than other loans. The parent is solely responsible for the loan’s repayment; the child has no legal obligation to make payments.
The federal government doesn’t offer a way to transfer responsibility for the loan to the student. But there are some student loan refinancing lenders that allow parents to transfer student loans to the child borrower if they meet the lender’s criteria—and the child consents.
Once you refinance, your child is responsible for the loan, and the debt will no longer be your responsibility or impact your credit.
When You Shouldn’t Refinance Federal Student Loans
Although student loan refinancing can be an effective way to manage your loans, it’s not for everyone. While there’s no one right way to handle your loans, if you are in one of the following situations, refinancing may not be a good idea:
- Your income or finances may change: If you are planning a big change, such as having a child, leaving your job or switching career paths, you may want to take advantage of federal IDR plans. IDR plans base your payments on your discretionary income and family size, so it can be a good option if your income is changing. But once you refinance, you’ll no longer qualify for IDR plans.
- You work in a volatile industry: If you work in an industry that is volatile and frequently experiences layoffs, you may need the protection that federal loans and economic hardship deferments provide. If you refinance your loans, you’ll lose that option.
- You work for a nonprofit or a government agency: If you have federal loans and work full-time for a nonprofit organization or government agency, you may qualify for PSLF. You could have a significant portion of your loans forgiven, so refinancing could be a costly mistake.
Alternatives to Federal Student Loan Refinancing
The drawbacks to refinancing federal student loans can be considerable. If you decide against student loan refinancing, there may be other ways to achieve your goals and make your debt more manageable:
If You Want to Lower Your Payments
If your current monthly payments are too high, there are several ways you could reduce them without refinancing your debt, including:
- Income-driven repayment plans. Federal loan borrowers can enroll in IDR plans that extend your repayment term and calculate your payments based on your discretionary income.
- Forbearance. If you’re ill or lost your job, you could qualify for a federal forbearance period and temporarily pause your payments.
- Alternative payment plans. If you’re ineligible for IDR plans, you can opt for an alternative payment plan like extended repayment or graduated repayment.
If You Want to Adjust Your Repayment Term
The standard repayment term for federal student loans is 10 years. Extending your repayment term can lower your monthly payments, but you may pay more in interest over the life of the loan. Here’s how you can adjust your repayment period:
- Enroll in an income-driven repayment plan. When you enter into an IDR plan, your term will be 20 or 25 years, depending on which plan you choose.
- Consolidate your debt. If you consolidate your loans with a federal direct consolidation loan, your repayment term can be as long as 30 years.
- Opt for extended repayment. Under an extended repayment plan, your repayment term can be as long as 25 years.
If You Want to Save Money
If you want to save money and cut down on the interest that accrues on your debt, consider the following tips:
- Sign up for autopay. When you sign up for automatic payments, you reduce the risk of missing payments and racking up late fees. And there’s another benefit: Federal loan servicers will reduce your interest rate by 0.25%. Over time, that discount may help you save hundreds of dollars.
- Make extra payments. If you only pay the minimum required each month, you’ll be in repayment for the entirety of your loan term. To pay off your debt faster (and reduce interest costs), you have to pay more than the minimum. Even small changes of $10 to $50 per month can make a big difference over time.
For example, let’s say you have $20,000 in student loans at 4.99% interest—the current rate for federal undergraduate student loans. Here’s how much you’d save by enrolling in autopay and adjusting your monthly payments:
| Original loan | Autopay discount | Autopay discount + $10 extra payment | Autopay discount + $25 extra payment | Autopay discount + $50 extra payment | |
|---|---|---|---|---|---|
| Interest rate | 4.99% | 4.74% | 4.74% | 4.74% | 4.74% |
| Time in repayment | 10 years | 10 years | 9 years 5 months | 8 years 8 months | 7 years 8 months |
| Monthly payment | $212 | $210 | $220 | $235 | $260 |
| Total interest | $5,444 | $5,152 | $4,826 | $4,424 | $3,887 |
| Total repaid | $25,443 | $25,151 | $24,826 | $24,424 | $23,887 |
| Savings compared to original loan | N/A | $292 | $313 | $715 | $1,252 |
By making those small changes, you could save over $1,000 in interest charges and pay off your loans more than two years sooner.
If You Want to Streamline Your Payments
You likely needed to take out several loans to cover your college education. Juggling all of those loans, payment due dates and loan servicers can be confusing. Refinancing can be appealing because you can combine your debt into one loan.
However, there’s another way to accomplish that goal: federal loan consolidation. You can consolidate your federal student loans with a direct consolidation loan. Once your loans have been combined, you’ll have just one loan to manage and one easy payment.
