Student Loan Refinancing: Lengthen, Shorten, or Keep Your Repayment Term the Same?
If you have a lot of student loan debt, you may be worried about how to pay it all back. This is something that many students worry about, but it is not something that you need to run yourself into the ground about. There are many options for students who have student loan debt and refinancing is one of them.
Unfortunately, the amount of debt a student graduates with is high and in 2015, the average amount was $35,000 give or take some. When you are looking for ways to better afford your student loans, you may be looking for ways to minimize your payments. Refinancing is one route to go, but how do you determine whether you should lengthen, shorten, or even keep your repayment length the same?
Many students find this question boggling, but we will go over the answers below and some considerations to keep in mind.
What is Student Loan Refinancing?
Many people often confuse the terms refinancing and consolidation or they use them interchangeably, but there is a difference. Refinancing your student loans involves working with a lender who will pay off your current loan or loans and then create a new loan for you with the new terms.
Refinancing often involves a lower interest payment and better terms overall on your student loan. Most students who are unhappy with their current loan terms will look to refinancing to help solve the problem.
Learn to Budget Your Money Wisely
If you find that you are having trouble affording your student loan payment, it is important to seek out methods to make your student loan more affordable. Unfortunately, some students may not qualify for refinancing and this means that they do not have the option to receive a lower interest rate or payment.
If this happens and you find that you are not able to refinance, it helps to work on a budget that will allow you to afford your monthly student loan payments. If you have federal student loans, you do have quite a few options that are quite flexible. For instance, the income-based repayment plan will take your monthly income and household size into consideration when formulating a monthly payment amount. Students who are below the poverty line often have a $0 payment due each month.
Lengthening Your Student Loan Term
If you do qualify for student loan refinancing, you have the option to extend the length of your student loan term. What this means is that if you are setup on the 10-year payment plan, you can extend the loan to 20 or 25 years.
This option makes sense for many students who want a lower monthly payment, but it is important to note that you may actually end up paying more in interest payments over the extended time.
To help give you a better idea of what we mean, let’s take a look and see.
NO Extension on the Loan
For this example, we will estimate the amount of the loan at $25,000 with a 5.5 percent annual interest rate and a 10-year term. In this case, you would pay $271 per month and the total amount of interest paid on the loan would be $7,557.
Extension on the Loan
Now, if we leave the loan amount the same, but decrease the interest rate a bit and extend the loan term to 25 years, let’s see what happens.
Your new monthly payment would be $131 per month, but the total amount of interest paid on the loan would be $14,587.
Shortening Your Student Loan Term
Just like you can lengthen the loan, you can also shorten it as well. This often means that you pay a lot more per month, but you pay off your student loan quickly and you will save thousands of dollars in interest over the course of your loan period as well.
Let’s take a look at an example of an original loan and then shortening that same loan with a slightly lower interest rate and cut the term in half.
The amount of the original loan is $30,000 with a 6 percent interest rate and the loan term is 10 years. The monthly payment amount is $333 and the total amount of interest paid on the loan is $9,967
Shortening the Loan
Now, let’s use the same amount of $30,000 and decrease the interest rate to 4 percent. We will also cut the number of years in half on the term to 5 total years. Let’s see what happens.
The total monthly payment is $552 per month and the total amount of interest paid on the loan is $3,149.
Keeping Your Current Student Loan Term
When you choose to refinance your student loan, you may have the option to keep your loan term the same. Even if you keep the rate the same, you will often pay a bit less due to the lowered interest rate whether or not you change the term of the loan. Let’s see it in action.
For the original loan, we will start with a total loan amount of $35,000. The interest rate on the loan will be 6.5 percent and the loan term will be 15 years.
The total monthly payment on the loan is $304 and the total interest paid over the term of the loan is $19,879.
Original Loan with Lower Interest Rate
We will keep the same loan amount and the same term for this example, but we will assume you refinanced the loan and received an interest rate of 3.92 percent. Here is the outcome.
Your monthly payment will be $257 and the total amount of interest paid over the term of the loan is $11,348.
Final Thoughts on Refinancing and Changing Your Loan Term
When it comes down to it, you are the one who needs to make a decision on whether or not to change your loan repayment term. As you can see above, sometimes it makes sense to lengthen the loan and sometimes it makes sense to shorten it or even keep it the same. Before you choose to refinance, make sure you crunch numbers and determine the best route to take for your situation.