Federal student loans are a double-edged sword. On one hand, you can qualify for financing regardless of your debt level or credit score. This allows you to easily fund your education even if you don’t have the means to afford the cost up front.
By the same token, that can put you in a bind when you leave school. Even if you graduate in your chosen field, the loan payments can easily outstrip your entry level income. Things get even tougher if you have to drop out or temporarily leave school. Now you’re stuck with a bunch of loans you can’t easily repay.
How federal repayment plans help you get ahead
The U.S. government created a series of federal student loan repayment plans to provide relief to indebted borrowers. The plans help you fit repayment into your budget so you can achieve freedom from debt without struggling.
Whether you chose cost-savings or monthly payment savings, there is one benefit that applies to both. You only have to worry about one monthly payment. It simplifies your bill payment schedule so you don’t juggle a bunch of different due dates. In this way, repayment plans function similarly to debt consolidation – multiple debts get rolled into a single monthly payment.
Any other benefits, including eligibility for student loan forgiveness, depends on which payment plan you choose.
Two plans for fast repayment and cost savings
These are the plans you use if you’re not struggling to make your payments.
This is the most cost effective method of student debt repayment. It’s also the most straightforward. Repayment is split into equal installments over a set term. That term depends on your “total education indebtedness,” which is the total amount of student debt you have, including private loans. Terms range from 10 years if you have less than $7,500 in debt to 30 years if you have over $60,000.
Breaking your debt into the biggest chunks possible allows you to pay off your debt quickly. The challenge is that your monthly payments can be high relative to your income. However, if you can afford this option, it’s the best in the long run for your finances.
Graduated repayment is the other payment plan designed to get you out of debt faster. However, it’s structured to account for the typically low starting salaries you see immediately following graduation. So, it’s the “start low and grow” plan.
Your starting monthly payments are less than what you would pay on a standard payment plan. You pay that amount each month for two years (24 payments). Then, the payment amount grows by 7% and it increases by an additional 7% every two years thereafter. You usually end up paying higher payments at the end than you would under standard repayment.
The idea here is that you match the payments to your income level. It assumes that you will advance in your career with pay promotions and raises.
Income-driven repayment plans for lower monthly payments
These are the plans you use when you have trouble keeping up with your payments. All hardship repayment plans set payments based on your Adjusted Gross Income (AGI) and family size.
Your AGI is compared to the Federal Poverty Line (FPL) in your state. Your income must be no more than 150% of your state’s FPL, depending on the size of your household. As long as you meet that requirement, you can qualify for any of these plans.
You must recertify your income and family size each year to make sure you still qualify. Otherwise, you must move into a different plan
Income based repayment
An income based repayment (IBR) plan typically sets your monthly payments to roughly 15% of your AGI. The term of the plan can be anywhere from 10 years to 25 years, depending on your total debt. However, most plans run for 20 to 25 years. After 25 years, if you have any balance left over, it’s forgiven without penalties. This option qualifies you for Public Service Loan Forgiveness.
Income contingent repayment
An income contingent repayment (ICR) plan is as similar to the IBR as the name indicates. The only difference between the two programs is the percentage of AGI. For most ICR plans, the borrower ends up paying roughly 20% of their AGI. Since the payments are slightly higher, it means you can get out of debt slightly faster. You can also qualify for PSLF with this plan.
Pay as you earn repayment
Pay as You Earn (PayE) is the newest student loan program. It applies only to loans taken out after October, 2011. So, if you have old debts, this won’t work for you. Otherwise, this is the program that delivers the lowest monthly payments possible. In general, your payment requirement would be roughly 10% of your AGI. However, there is an additional rule that allows you to skip payments entirely or reduce them if you fall below your state’s Federal Poverty Line. This is the program you use if you face extreme financial hardship and simply can’t afford your payments. You can also use this program to qualify for PSLF.
Income sensitive repayment
Income sensitive repayment (ISR) is almost identical to the ICR. It sets monthly payments at roughly 20% of your AGI. The difference between the two is what types of loans you can include. ISR specifically applies to FFEL loans – any loans taken out under the old Federal Family Education Loan Program. This program no longer exists, but people still have loans to FFEL repay. IBR, ICR and PayE all deal with Direct Loans, which is the program most people get their loans through now. ISR really only applies to a borrower who primarily holds FFEL program loans.
3 key facts about federal student loan repayment plans
#1: You can switch plans anytime you want
If your financial situation changes and a different plan would work better, you can switch at any time for free. You can even switch back if you decide you don’t like the new plan. This is important because you want your repayment plan to match your budget and goals. So, for instance, if you’re on a graduated plan and you don’t advance in your career, you can switch an ICR. If you’re on PayE and then land a job with a good salary, you can move into a standard plan to repay your debt faster.
#2: All repayment plans are subject to change
These repayment plans (even the ones that are not hardship based) are considered federal relief programs. Although you have a private loan servicer that handles your payments, the Department of Education oversees the programs. If the DOE decides to change the programs, it could impact your student loan repayment strategy.
The good news is that in most cases the government won’t kick active participants off an existing program. This means if you enroll in an IBR and then the rules for it change, you should be allowed to move forward under the old rules. That makes it imperative to enroll as early as possible so you don’t miss your chance if programs change.
#3: You can enroll yourself or hire someone to help
All these plans allow you to enroll through the StudentAid.gov website. However, as you see from reading through this article, things can get complicated. If you have debts from various federal programs that you want to roll in together, the paperwork to get there can be complex. So, while you can do it on your own, you may not necessarily want to.
In this case, you hire a student loan debt relief company to help you. These companies are essentially document preparation services – they help you fill out the paperwork in the right order. However, having someone who knows all the rules (and exceptions) can be beneficial. The more complex your debt, the more you may need help.
Article last modified on November 19, 2019. Published by Debt.com, LLC