Tonya Rapley is a paid influencer for Citizens Bank, N.A. All opinions and/or advice are her own.
The common game plan for adulthood sounds simple. Attend a good college or university, party a little (or a lot), learn all about the field you plan on working in for the next few decades, get a degree, make tons of money, and live the good life.
While life after graduation can and should be a very exciting time, the stress and anxiety about the future can quickly become crippling. For many young adults, the transition from college to the “real” world includes the looming, dark cloud of owing thousands of dollars in student loans.
The good news is that if you know all of the available options, you can pay off your student loans without too many sleepless nights. Here are four things to consider that can help you avoid costly mistakes when paying your student loans after graduation.
First things first: Prioritizing Repayment
Going from eating Ramen noodles to having extra cash in your account will definitely give you a sense of financial freedom (cue Bruno Mars 24k Magic). The temptation to purchase a new car, new home, or eat out every day might be high, especially if you have just landed a new job. However, giving those student loans first dibs on your priority list will help you immensely in the long run.
Often times, people build their postgraduate life around their salary, not their responsibilities. Develop an action plan as soon as possible. Cut costs where you can and use those funds to chip away at loan payments every month. If you have multiple loans and feel overwhelmed, try the snowball method. Choose one loan to pay extra on every month (typically start with the smallest loan amount) until is paid off and then move on to the next loan you want to tackle.
Want a few more options? We discuss loan repayment strategies in our Banish The Balance e-course.
Consider Different Repayment Plans
Income-driven repayment plans were created to offer more affordable options based on income and your family size. One of these four options could be a suitable plan for most graduates:
- Income-based repayment (IBR) – Once your loan enters repayment status, your monthly payments are calculated based on a default plan called the Standard Repayment Plan. This plan assumes that once you graduate you will be in a position to pay back your loans within ten years. However, if this plan does not fit your budget straight out of college there are other options to choose. The income-based repayment plan bases monthly payment amounts on 10 to 15 percent of your discretionary income or money you have left after paying for rent/mortgage, food, and clothing. Generally, you have to owe more than what your annual salary is.
- Pay As You Earn (PAYE)– with this plan, monthly payments never exceed 10 percent of your discretionary income and will never be higher than the Standard Repayment plan payments.
- Revised Pay As You Earn (REPAYE)– this plan is similar to PAYE because payments are calculated according to 10 percent of your discretionary income. One major difference is that there is no set maximum on payment amounts if there is an increase in income—meaning that if your income goes up your payments will too. More borrowers will also be eligible for this plan.
- Income-contingent repayment (ICR)– Any borrower with federal direct student loans can qualify for this plan, but it is not always the best option for everyone’s situation. If you have Parent PLUS loans, ICR is the only plan that you can use if you are searching for an income-driven plan. With this option, monthly payments are capped at 20% of your discretionary income, which is higher than the 10% and 15% max of the other three income-driven plans. However, if you are a brand spanking new graduate in a field that has high future earning potential and can afford to pay more per month, then ICR can save you money on interest in the long run. An added plus is that your loan term goes from the standard ten years to twenty-five years. Contact your servicer today to find out what type of repayment plan you are currently on and if there is one better suited for your income and situation.
If you have found yourself in the valley of indecision about income-based repayment plans and loan forgiveness is not an option, consider refinancing. If your current interest rate is 4% or higher, choosing to refinance could put thousands of dollars back in your pocket by lowering your interest. Another benefit of refinancing is if someone was gracious enough to cosign on a student loan for you, refinancing is a good way to say thank you and relieve him or her from this financial responsibility.
Refinancing could also mean better financial management of your loans. Having one lender, one account, and one payment you can easily keep track of balances and terms. When choosing a company to refinance with, decide whether you want a lower interest rate or a lower monthly payment. Also look into the other options the company may offer. Some lenders even offer unemployment assistance and mentorship. With the influx of banks and startup companies entering the loan refinance arena you have options and it is critical that you do your research!
One thing to keep in mind about refinancing is that in order to receive the best rate possible your credit needs to be in good standing. If you think you will want to refinance down the line, make sure you’re paying your other responsibilities in a timely manner so that you can qualify for the best interest rate possible.
Forbearance and deferment
When financial setbacks arise, forbearance and deferment are two options that could be explored. Still in school at least half time? On active military duty? Or maybe you are in a health residency program or working in public service for an organization. Applying for a deferment would temporarily suspend any loan payments anywhere from a few months to a few years.
One thing to consider is that private and unsubsidized federal student loans continue to accrue interest during a deferment. Making interest-only payments would keep the principal balance from ballooning once the deferment is over.
In cases of illness, unemployment, or financial hardship, you might be eligible for forbearance. Like a deferment, interest continues to accrue but a forbearance period is generally for a shorter period of time.
For millions of college grads, student loans are a scary thought, but learning how to navigate them is the best defense against feeling like a victim to this common form of debt. Knowing the ins and outs of your current loans and looking into each of the available options for repayment can give you peace of mind and set you on the right track financially.