How Does Paying Off Student Loans Work
How Does Paying Off Student Loans Work?
If you’re reading this, it’s probably because you have student loans and are wondering how to get rid of them. Well, let me tell you: it’s going to be a little bit tricky. But it’s not impossible—and it’s not as difficult as some people might have you think.
The first thing you should do is get organized. Make yourself a list of every single loan that you have and how much money each one is costing you every month. That way, when we start talking about payment strategies, you’ll know exactly what your options are and what they’ll cost.
Once you’ve got all your student loans listed out, here are some things that can help:
-Apply for a deferment
-Apply for an income-driven repayment plan
How Does Paying Off Student Loans Work
If you borrowed money to pay for school, your first question might be how best to pay off your student loans. The short answer is that there’s no magic bullet, but there are definitely things you can do to make paying back education debt easier. Student loan debt reached an all-time high of $1.6 trillion in 2022, so you’re not alone.1 A growing segment of the economy is devoted to helping Americans figure out how to pay off student debt, and there’s a lot to learn.
Start by reading this overview to understand the basics. Then learn about and consider various options, such as loan consolidation, loan deferment, or forbearance, and think about how you will work paying student loans into other financial goals, such as saving for a down payment on a home. There are even plans that allow for loan forgiveness, as you’ll see below. Now, review these nine tips to help you get a handle on your student loans—and even pay them off faster.
KEY TAKEAWAYS
Know how much you owe, to whom it’s owed, and what your monthly payment and interest rate are for each loan.
Find the best repayment schedule—one that’s either fast or slow—for your situation.
Consider making payments during your grace period—toward the total loan amount or at least the interest due. Note that interest on student loans from federal agencies and within the Federal Family Education Loan (FFEL) Program has been temporarily suspended until Aug. 31, 2022.2
Look into payment options that can whittle down your debt, such as paying more each month or making bi-monthly payments, setting up autopay, and applying windfalls such as bonuses, tax refunds, or cash birthday gifts to the principal.
See if consolidating or refinancing your loans will lower your interest rate and speed up the payoff of your loans.
- Know What You Owe
The first step in repaying student debt is knowing what you owe. If you haven’t done this yet, take the time to figure out:
The total amount you owe on all of your loans
Which student loan servicers you owe money to and the amount of each loan
Which of your loans are federal and which are private
The minimum monthly payment for each loan
The interest rate for each loan
Once you’ve done this, you can move on to the next step, which is choosing a repayment plan.
- Evaluate Student Loan Repayment Options
How you repay your loans depends on three things: the type of loans you owe, how much you can afford to pay, and your money goals.
“Financial goals are different for everyone,” says Joseph DePaulo, CEO and co-founder of College Ave Student Loans. “Some may want a longer repayment plan that allows more flexibility in their monthly budget, while others may opt for a repayment plan that allows them to pay off their student loans as quickly as possible.”
There is a range of student loan repayment options to consider. If you need flexibility and you owe federal student loans, you might look at an income-driven repayment plan. There are several choices that calculate your monthly payment based on your income and household size and allow you more time to repay your loans than you’d get on a standard 10-year repayment plan.
On the other hand, if you want to repay your loans as quickly as possible, you might want to stick with a repayment plan that has the shortest term. The trade-off is that you’ll have a higher monthly payment. The best way to evaluate loan repayment options is to use a loan repayment calculator, such as the one offered by the Department of Education.3
Income-driven repayment plans can offer loan forgiveness after a set number of years, but any forgiven loan balance may be treated as taxable income.45
- Use the Grace Period to Your Advantage
Whether you have a grace period and how long it lasts with private student loans depends on the lender. The grace period is the time frame in which you aren’t required to make payments on your loans.
With federal student loans, the grace period typically lasts for the first six months after you leave school.6 With private loans and unsubsidized federal loans, keep in mind that interest is still charged during your grace period and will be capitalized—added to the total amount you owe—after the grace period ends.7
One way to make the grace period work for you is to make advance payments against your loans. Paying down some of the principal means less interest that accrues later. At the very least, try to make interest-only monthly payments in the grace period to cut down on what you owe.
Note that interest on student loans from federal agencies was temporarily suspended until Aug. 31, 2022, which should help reduce the total amount you owe when you graduate.2 This relief was also extended to loans in the Federal Family Education Loan (FFEL) program.8 Even with federal loans, it still makes sense to try to pay down federal loan principal during this period.
- Consider Consolidating or Refinancing Student Loans
Consolidating and refinancing offer two ways to streamline student loan repayment. With debt consolidation (or student loan consolidation), you combine multiple loans together at an interest rate that reflects the average rate paid across all of your loans. This can be done with federal student loans to merge multiple loans (and monthly loan payments) into one.
Refinancing is a little different. You’re taking out a new loan to pay off the old loans, so you still end up with one monthly payment. But if that new loan has a lower interest rate compared to the average rate you were paying across the old loans, you could save some money—provided you don’t extend the term. One thing to note about refinancing private student loans is that you’ll need good credit to qualify, which may necessitate bringing a cosigner on board.
Be very careful to avoid student loan scams, which are particularly prevalent if you try to refinance your loans or investigate loan forgiveness.
You can refinance federal and private loans together into a new private student loan, but doing so will cause you to lose certain federal loan protections on your federal loans, such as deferment and forbearance periods.9
- Pay Your Loans Automatically
Late payments could hurt your credit score. Scheduling your loan payments to be deducted from your checking account automatically each month means you don’t have to worry about paying late or damaging your credit.
You could also score some interest rate savings if your lender offers a rate discount for using autopay—federal loan servicers and many private lenders do. The discount may only be a quarter of a percentage point, but that can make a difference in how quickly you pay off the loans over time.
- Pay Extra and Be Consistent
One thing that can slow down your student loan payoff is paying only the minimum due. Joshua Hastings, the founder of the personal finance blog Money Life Wax, was able to pay off $180,000 in student loans over a three-year period by taking a focused approach, which included paying extra on his loans every month.10
If you’re able to pay extra, you may want to target one loan at a time while paying the minimum on everything else. The question is, do you use the debt snowball method or the debt avalanche?
“When deciding which student loan to pay off first, it’s best to go with the one that can free up cash flow quickly. That way you can have more money to throw at the next loan,” Hastings says. “As you grow your cash flow, it’s a good idea to transition to the high-interest loans.”
- Apply ‘Found Money’ to Loan Balances
Found money doesn’t necessarily mean the change you find between your couch cushions. But it does include money that isn’t budgeted for as part of your monthly income. Using found money is another way to gain traction with student loan repayment. This includes:
Tax refunds
Rebates
Annual salary bonuses
Income earned from a side job
Cash gifts you receive for birthdays or holidays
You can apply these amounts to your loan principal to take out a chunk of your debt in one go. Other opportunities to use found money to pay down loans quickly include inheriting money from relatives or receiving a settlement as part of a lawsuit.
- Look Into Forgiveness and Reimbursement Programs
Public Service Loan Forgiveness is designed to offer student debt relief for students who pursue careers in public service. You make a set number of payments while working in a public service job and the remainder is forgiven.11
If you don’t qualify for loan forgiveness, you may be able to get help with your student loans through your employer. Talk to your HR department about whether student loan reimbursement is available as an employee benefit and what you need to do to qualify.
In some circumstances, a debt relief company can assist you in negotiating lower payments or even partial debt reduction.
The American Rescue Plan passed by Congress and signed by President Biden in March 2021 includes a provision that student loan forgiveness issued between December 30, 2020, and December 31, 2025, will not be taxable to the recipient.12
- Try Bi-weekly Payments
Another method you can try with paying off student loans is switching from monthly to bi-weekly payments. Similar to making bi-weekly mortgage payments, this tactic means you’ll have to make one extra loan payment per year. You’ll need to talk to your loan servicer to find out whether automatic bi-weekly payments are an option, but if not, you may be able to make additional principal payments at any time through your online account access.
The upside of making extra bi-weekly payments yourself, versus automatically, is that you can make the payments when it fits your budget and skip them if there’s a month when you don’t have the extra cash.
The Bottom Line
Tackling your student loans proactively is key to paying them off sooner rather than later. There are plenty of ways to manage your debt more effectively, but the worst thing you can do is nothing.
“If you find you’re having difficulty affording your federal or private student loan payments, don’t ignore the problem or assume there are no options,” DePaulo says. “Reach out to your loan servicers to discuss your situation and try to create a plan to get back on track.”
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student loan forgiveness
If you are employed by a U.S. federal, state, local, or tribal government or not-for-profit organization, you might be eligible for the Public Service Loan Forgiveness Program. Keep reading to see whether you might qualify.
To ensure you’re on the right track, you should submit a Public Service Loan Forgiveness (PSLF) & Temporary Expanded PSLF (TEPSLF) Certification & Application (PSLF Form) annually or when you change employers. We’ll use the information you provide on the form to let you know if you are making qualifying PSLF payments. This will help you determine if you’re on the right track as early as possible.
*This provision will be waived through October 31, 2022 as part of the limited PSLF waiver. Learn more.
Suspended Payments Count Toward PSLF and TEPSLF During the COVID-19 Administrative Forbearance
If you have a Direct Loan and work full-time for a qualifying employer during the payment suspension (administrative forbearance), then you will receive credit toward PSLF or TEPSLF for the period of suspension as though you made on-time monthly payments in the correct amount while on a qualifying repayment plan.
To see these qualifying payments reflected in your account, you must submit a PSLF form certifying your employment for the same period of time as the suspension. Your count of qualifying payments toward PSLF is officially updated only when you update your employment certifications.
Digital signatures from you or your employer must be hand-drawn (from a signature pad, mouse, finger, or by taking a picture of a signature drawn on a piece of paper that you then scan and embed on the signature line of the PSLF form) to be accepted. Typed signatures, even if made to mimic a hand-drawn signature, or security certificate-based signatures are not accepted.
Note: In-grace, in-school, and certain deferment, forbearance, and bankruptcy statuses are not eligible for credit toward PSLF.
Have questions? Find out what loans qualify and get additional information about student loan flexibilities due to the COVID-19 emergency.
Qualifying Employer
Qualifying employment for the PSLF Program isn’t about the specific job that you do for your employer. Instead, it’s about who your employer is. Employment with the following types of organizations qualifies for PSLF:
- Government organizations at any level (U.S. federal, state, local, or tribal) – this includes the U.S. military
- Not-for-profit organizations that are tax-exempt under Section 501(c)(3) of the Internal Revenue Code
Serving as a full-time AmeriCorps or Peace Corps volunteer also counts as qualifying employment for the PSLF Program.
The following types of employers don’t qualify for PSLF:
- Labor unions
- Partisan political organizations
- For-profit organizations, including for-profit government contractors
Contractors: You must be directly employed by a qualifying employer for your employment to count toward PSLF. If you’re employed by an organization that is doing work under a contract with a qualifying employer, it is your employer’s status—not the status of the organization that your employer has a contract with—that determines whether your employment qualifies for PSLF. For example, if you’re employed by a for-profit contractor that is doing work for a qualifying employer, your employment does not count toward PSLF.
Other types of not-for-profit organizations: If you work for a not-for-profit organization that is not tax-exempt under Section 501(c)(3) of the Internal Revenue Code, it can still be considered a qualifying employer if it provides certain types of qualifying public services.
Full-time Employment
For PSLF, you’re generally considered to work full-time if you meet your employer’s definition of full-time or work at least 30 hours per week, whichever is greater.
If you are employed in more than one qualifying part-time job at the same time, you will be considered full-time if you work a combined average of at least 30 hours per week with your employers.
If you are employed by a not-for-profit organization, time spent on religious instruction, worship services, or any form of proselytizing as a part of your job responsibilities may be counted toward meeting the full-time employment requirement.
Eligible Loans
Any loan received under the William D. Ford Federal Direct Loan (Direct Loan) Program qualifies for PSLF.
Loans from these federal student loan programs don’t qualify for PSLF: the Federal Family Education Loan (FFEL) Program and the Federal Perkins Loan (Perkins Loan) Program. However, they may become eligible if you consolidate them into a Direct Consolidation Loan.
Student loans from private lenders do not qualify for PSLF.
Under normal PSLF Program rules, if you consolidate your loans, only qualifying payments that you make on the new Direct Consolidation Loan can be counted toward the 120 payments required for PSLF. Any payments you made on the loans before you consolidated them don’t count. However, if you consolidate these loans into a Direct Loan before October 31, 2022, you may be able to receive qualifying credit for payments made on those loans through the limited PSLF waiver.