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When it comes to student loans, it seems like nothing is ever easy. In some cases, it almost appears they went out of their way to make the process as confusing as possible. So, it should come as no surprise that there are hidden risks involved consolidating your student loans. Here’s what you need to know before you combine student loans into a single consolidated payment.
There is only one debt relief option that allows you to combine both federal and private student loans together. It’s called private student loan consolidation.
This kind of full consolidation allows you to simplify student loan repayment as much as possible.
None of the above are guaranteed if you use federal repayment plans. If fact, if you keep your federal and private loans separate, the best you can hope for is two payments.
In addition, if you use a hardship-based program like an IBR, you must certify your income to enroll. Each year, you must recertify your income and family size to stay enrolled. What’s more, if your income changes then your monthly payment requirement may change, too.
Another strong reason to convert federal student loan debt into a private loan is to achieve a lower interest rate. If you use a federal repayment plan, credit score doesn’t factor into the rate you pay. Instead, the servicer sets the rate by taking a weighted average of your existing rates. So, you don’t get any benefit from rate decreases by consolidating through the federal system.
This means that borrowers with good credit have good reason to convert their federal student loan debt to private. Just be aware of the consequences…
In a word: eligibility.
The federal government offers a range of consolidation, repayment plan and forgiveness programs. They have the Federal Direct Consolidation loan, as well as affordable repayment plans, like Pay as You Earn. There’s also the prized Public Service Loan Forgiveness program. This forgives the remaining balances of public servants after 120 payments on a hardship program.
All these programs only apply to federal student loan debt. So, if you have federal student loans and private student loans, you must keep them separate to use these options.
When you combine both types of student loans with a private consolidation loan, federal debt converts to private. The money from the private lender goes to your federal loan servicers to pay off those debts. So, federal student loan debt becomes private student loan debt. Now, this debt is no longer eligible for any federal programs.
That may seem fine now, but if your situation changes, you may miss that eligibility.
The private lender will help you make sure you can afford the consolidation loan when you apply. However, your financial situation can change. If you lose your job or have a medical emergency that reduces the hours you can work, your income decreases. Extended income loss means you may have difficulty making your monthly payments.
If you use a federal repayment plan for your federal student loans and your situation changes, you can switch plans. You can easily switch between programs to get into a repayment schedule that works for your reduced budget. However, if you consolidated privately, you can’t use federal programs. Ever.
In addition, you may have trouble using deferment and forbearance. Some lenders offer these options on student loans, but they’re usually more limited than federal deferment and forbearance. As a result, you may end up with a debt in collections if you can’t recover and catch up with your payments.
If you work as a firefighter, police officer, nurse or teacher in the public sector, consider combining student loans carefully. PSLF can be extremely beneficial. It can significantly cut the amount of debt you have to repay; in many cases, you pay less that what you borrowed – that’s according to a GAO report from the government.
In one example from that report, a public servant who borrowed $60,000 only repaid $12,256 with PSLF. That’s a hard deal to beat, even if a private loan would give you a better rate. With private debt, you must always at least repay what you borrowed. This federal program means you don’t.
That being said, it’s worth noting that PSLF qualification is not easy; it’s anything but, in fact. You must enroll in a hardship-based repayment plan, which requires you to certify your income annually. Then you also need to certify your employment each year, plus anytime you change jobs. After that, you still must make 120 qualified payments before the servicer forgives the remaining balances.
To make matters worse, this is a federal government entitlement program. In other words, it’s considered a “welfare” program, which Republicans and fiscal conservatives hate. And changes that Obama made to PSLF made more people eligible, however it increased the cost to $12 billion. That’s put it high on the list of programs that may get axed.
Article last modified on July 1, 2019. Published by Debt.com, LLC