Understand what makes student loans unique
In some ways, student loans are like any debt: as time passes and interest piles up, you end up paying more and more than you originally borrowed. But student loans also have some unique traits. Understanding the quirks of student loans will help you make better informed decisions.
How does interest work with student loans?
- Interest accrues daily, starting the day your loans are disbursed. If you have a subsidized federal loan, then the government will pay your interest while your loans are in deferment. Otherwise, you will be responsible for the interest.
- Unpaid interest is capitalized—added to the principal—after you pause payments with deferment or forbearance. In other words, you will pay interest on your interest unless you have a subsidized federal loan.
- Negative amortization is when the total amount you owe increases even though you are making payments. This happens when your payments are not high enough to cover your interest, which can happen on income-driven repayment plans or during periods of deferment and forbearance.
Interest rate example:
Let’s put these concepts together in an example. Suppose you borrow $10,000 for your last year of school, at an annual interest rate of 3.65%, with repayment starting exactly 1 year after you get your loan funds.
- With a daily interest rate of 0.01% (3.65% ÷ 365), you will accrue $1 in interest each day, for a total of $365 by the day repayment starts.
- If you don’t pay off the $365 before repayment starts, then it will capitalize. Your principal will increase to $10,365, and your daily interest will go up to $1.0365.
- If you stay on Standard Repayment Plan, with ten years of equal monthly payments, you will pay about $103 a month, with about $17 going to interest.
- But suppose you apply for income-driven repayment (IDR) and qualify for a $5 payment. Your payment will not cover your monthly interest charges, and the remainder will stack up in your account, causing your loan balance to grow. This is negative amortization.
How do payments and credit reporting work with student loans?
- The goal is always to make your payments on time and in full. That is the best way to protect your credit and stay on track to pay off your loans.
- Payments go to fees, then interest, then principal. This is why extra payments can save you time and interest—if you instruct the servicer to apply them to the principal.
- Each time you receive loan funds, it appears on your credit report as a new account. Your payments will be recorded this way too, even if you’re making a single payment to one servicer.
- How your payments show up will depend on whether it is a private or federal student loan. Private student lenders update your credit report monthly. However, federal student loans payment history is reported at a 90-day delay.
What happens with missed payments on student loans?
- The first day after you miss a payment due date, your loan becomes delinquent.
- If you continue to miss payments, your loan will eventually enter default. For federal loans this occurs after 270 days, or approximately 9 months. Private student loans can default as soon as you miss three monthly payments or 90 days.
- A default note will go on your credit report. Generally, this will make your credit score go down.
- Once your loan is in default, the lender can file a lawsuit against you to collect on the debt. This is because student loans are unsecured debt, meaning there is no collateral to repossess, such as a car or house.
- Defaulting on a federal student loan can have additional consequences. You will lose your eligibility for all federal student aid. You can face garnishment of your federal tax returns, wages, and Social Security payments.
- However, typically there are other options for getting out of default. If you are struggling to afford your student loan payments, reach out to your servicer immediately to ask about your options. Reliable lenders will want to work with you to help you get out of default.
- Federal loans offer rehabilitation and consolidation.
- Private lenders may be willing to negotiate a deal with you.
How can I get rid of my student loans?
Repaying your loans in full is the only way you are guaranteed to get out of debt.
If you work for a government or nonprofit employer, your student loans may be eligible for Public Service Loan Forgiveness.
- Teacher loan forgiveness
- Balance forgiven after 20-25 years of payments on income-driven repayment plans
- Death and disability discharge
- Perkins loan cancellation
- Closed school discharge
- Borrower defense to repayment
- False certification discharge
- Unpaid refund discharge
Additionally, borrowers who expect to be incarcerated for at least 10 years should inform their loan servicer.
Take control of your loans
Now that you understand the ins and outs of your loans, let’s go over some strategies for getting them paid off as quickly and smoothly as possible.
Know what you owe. Make a list of your student loans. Include whether they’re private or federal, monthly payment and due date, the current and principal balances, the interest rates, and servicer. For federal loans, it will also help to know what type of loan it is (such as PLUS, subsidized, or unsubsidized) and the name of your repayment plan. If you’re not sure, . You can look up your federal loans at .
See if your loans fit into your budget and pay schedule. Making a budget and exploring strategies for reducing debt will help you see how your student loans fit into your finances. Request a different due date if that would make it easier for you to make your payments on time and in full.
Save yourself time and money
Set up direct debit (aka autopay) for 0.25% off your interest rate. With direct debt, your payment is taken automatically from your bank account each month. All federal loans and many private lenders offer this discount.
Extra payments can get you out of debt faster and save you money on interest—if you can afford them. To get the full benefit,
Stay in touch with your servicer. Make sure your servicer has your current address, phone number, and email. Open their mail and answer their calls, so you find out about problems quickly, before consequences snowball.
Keep good records. Save all the mail from your servicer. Take notes when you talk on the phone with them: jot down the date, the name of the person you’re talking to, what you asked, and how they answered.
Claim your student loan interest on your tax return. Depending on your income and tax filing status, you may be able to claim up to $2,500 of the student loan interest you paid in a given year.
If your payment is too high, seek income-driven repayment rather than a pause on payments. Pauses, known as deferment and forbearance, are not long-term solutions. In fact, because of interest accrual and capitalization, forbearance and some deferment will increase your principal balance and monthly payments.
Stay on track with income-driven repayment (IDR)
An income-driven repayment (IDR) plan can reduce your monthly payment to as low as $0.
Renew early if your income goes down or your household grows. Your monthly payment will be recalculated.
Beware of capitalization. Leaving certain IDR plans will cause your unpaid interest to capitalize (get added to the principal). On the ICR plan (the only IDR plan available to Parent PLUS borrowers), your unpaid interest may capitalize annually. Call your servicer to understand how this could affect you.
Lower your payment by saving for retirement. Your IDR payment is based on your adjusted gross income (AGI). Contributing to a tax-deferred retirement account, like a 401(k) or 403(b), decreases your AGI and your IDR payment too. This could increase the amount forgiven if you are pursuing loan forgiveness through PSLF or IDR. Learn more about saving for retirement.
Getting income-driven repayment for Parent PLUS Loans
Income-Contingent Repayment (ICR) is the only income-driven repayment plan available to Parent PLUS borrowers. Getting on ICR is required if you want to pursue Public Service Loan Forgiveness (PSLF) for your Parent PLUS loans. Your balance will also be forgiven after 25 years on ICR.
Do not consolidate other federal student loans with Parent PLUS loans. You will lose other benefits on those other loans, like access to other income-driven plans.
Your total loan balance can grow on ICR. If your monthly payment does not cover the accrued interest, your loan balance will go up even though you’re making payments. (This is known as negative amortization.) Unpaid interest will also capitalize—get added to the principal—each year until your total balance is 10% higher than the original balance. This means you will pay interest on your interest.
Exercise your rights as a servicemember
Your service counts towards Public Service Loan Forgiveness. After you make 120 qualifying monthly payments under the PSLF program, you can apply to have your remaining loan balance forgiven, tax free.
Get your interest rate capped. The Servicemembers Civil Relief Act (SCRA) entitles you to have your interest rate reduced to 6% on all debts taken out before your service began, including both federal and private student loans. Federal student loans can be reduced to 0% when you are serving in a hostile area. Reductions in federal student loan interest should happen automatically; check your statements to make sure. Contact your private student loan servicer to request a rate cap.
Avoid scams and wasting money
Don’t use credit cards or home equity to pay off student loans. Credit cards will cost you way more in interest. If you refinance your loans using home equity and run into trouble paying your mortgage, you could lose your house. Either way, you will lose the flexible repayment options and borrower protections offered by federal student loans.
Don’t go back to school just to avoid loan payments. Even during in-school deferment, your loans will accrue interest. Carefully compare the costs and benefits of more education. Unless it will increase your earnings, more debt could make your financial situation harder in the long run.
NOTE: Loan forgiveness scams often include a president’s name, like “Trump Loan Forgiveness” or “Biden Student Loan Forgiveness.” For that reason, you may want to omit presidents’ names when you are searching for information about loan forgiveness.
Don’t pay for help with your student loans. Other companies sell services filling out forms. We recommend you put your money towards paying off your loans. Anything legal that these companies will charge you for, you can do yourself for free.
Free, qualified help is available. Credit counseling nonprofits (different from credit repair companies) can help you make a plan to get out of debt. You can look for one near you by searching “credit counseling nonprofit” with the name of your city or town. You can also search for “fair free student loan advice.
Take action when you run into problems
First, contact your servicer. Below are some questions to consider asking in different situations. If you’re unsure if the answers you receive are accurate, call back and talk to a different customer service rep, or ask to speak to the servicer’s quality assurance team.
Rehabilitation and consolidation each have pros and cons. Asking your loan servicer these questions can help you decide on the best approach for your circumstances.
- What will be my monthly payment?
- When will my first rehabilitation payment be due? When is the soonest I can be finished rehabilitating my loan?
- When will wage garnishment stop?
- Are my loans eligible for consolidation? What is required to make them eligible? (For example, you may need to get your garnishment order lifted.)
- Do I need to make payments before applying for consolidation? Can I reduce my collection fees by making payments?
- What will be my new interest rate and payoff date?
- What is my outstanding interest? (Paying this off before consolidation will help keep your debt from growing.)
- Will I lose any benefits by consolidating? (For example, you may lose progress towards loan forgiveness under PSLF or income-driven repayment.)
- How much will I owe in collection fees? What can I do to avoid or minimize those fees?
- When will I get out of default?
- When will I regain eligibility for federal student aid?
- When will this start? Do I need to make my next payment?
- How long will this last? If I still can’t afford my payments when this relief ends, can I request an extension?
- How much interest will accrue during the forbearance?
- Will interest be capitalized when the forbearance ends? ( Capitalization adds the interest to the principal balance, meaning you will pay interest on interest.)
- What’s the deadline for paying off the accrued interest before it capitalizes?
- How will the missed payments be made up? Will my monthly payment go up or will I keep making payments beyond my original payoff date?
You have other options for help
- The federal aid department of the school you attended may be able to provide guidance.
- You can about federal loans; these complaints can be escalated to the .
- If you have a problem with a student loan, you can also submit a complaint to the CFPB about federal or private student loans.
- Contact your state Attorney General to file a complaint. Your state may also have a student loan ombudsman. Search the name of your state with “student loan ombudsman.”