With fixed interest rates hovering around a thirty-year low, loan consolidation is on the tip of every borrower's tongue. Even if you have not already consolidated your student loans, you've probably got a few friends who have and you're likely considering it for yourself.
Before you leap to refinance, though, take a look at this Guide to Loan Consolidation.
The Basics of Loan Consolidation
A student consolidation loan allows you to combine your existing variable-rate loans into one fixed-rate loan. Consolidating when interest rates are low, as they are now, may offer substantial savings in the lifetime costs of your loans.
You can consolidate your loan with any authorized lender - i.e. you are not obligated to stay with the lender who originally made your loan. Different lenders make different consolidation offers, including their terms, interest rates and other signing benefits, so be sure to shop around.
Akin to a mortgage refinance, consolidation loans are available for most federal loans, including Stafford and Perkins loans and parent loans. Some lenders offer private consolidation loans for private education loans, as well.
The consolidation question comes up every spring in anticipation of the variable federal student loan rate change, which happens on July 1. With the consolidation season looming, you will want to ask yourself several questions before making that decision:
- What type of loan do you have - Stafford, Perkins or private
- What type of interest rate do you carry on your loan: variable or fixed?
- How much time is left until you will complete repayment?
- Have you consolidated before? (There are new restrictions limiting the number of times you may consolidate.)
- What is your motivation for potentially consolidating? Are you seeking to lower interest rates? Make one payment rather than multiple payments? Extend the life of your loan?
A consolidated loan also lets you renegotiate the term of your loan, extending it from twelve to up to thirty years. Consolidated loans are available either through the government (known as Direct Consolidation Loans) or through a private, outside lender (known as FFELP Consolidation Loans).
Stafford loans
If you have Stafford loans issued after July 1, 2006, they carry a fixed interest rate of 6.8%. If your loans were issued before July 1, 2006, they carry a variable interest rate. The change in the variable rate is determined by the 3-month Treasury bill yield during the previous auction cycle.
This year, the yield is facing very little, if any, change. Which means that if your goal for consolidating is to save money in interest payments, then this is not a good year to make that call.
If, however, you wish to consolidate to reduce your monthly payments, then the time might still be optimal. When consolidating, you can choose to extend the life of your loan - which will reduce your total payment.
Of course, by changing your repayment term from, say, 10 years to 20, you'll not only be cutting your monthly payment by a third, but also doubling your interest costs in the long-run.
A 30-year loan is even more interest expensive. For example, on a $20,000 loan, refinanced from 10 to 30 years, you'll save $100 on your monthly payment, but your interest costs will nearly quadruple. In other words, think carefully before refinancing and extending the life of your loan.
Perkins loans
Perkins loans are federal loans that carry fixed interest rates. While it is possible to consolidate your Perkins loans or to wrap them into a larger consolidation package - so that you make one monthly loan payment on all federal students loans - financial experts warn that doing so may make you ineligible for the loan forgiveness.
Private loans
Unlike the Stafford and Perkins loans, private student loans are not federally protected. They also tend to carry higher interest rates with less favorable terms. As a result, most students prefer federal student loans. However, the rising cost of tuition has forced a growing number of students to take out a private loan in order to afford college.
If you are among the growing number of students who has taken out a private loan, you may also be eligible to refinance through a private loan consolidation program. Financial experts caution that the rates on these loans are based on your credit score, so they can be volatile, particularly if you fail to make payments on time.
Who Is Eligible for Student Loan Consolidation?
Both students and parents can consolidate their education loans, although they cannot consolidate them together. Likewise, married students can no longer consolidate their loans together, effective July 1, 2006. Students cannot consolidate until they have begun repayment (or entered their grace period), but parents can consolidate their parent loans at any time.
To consolidate, most lenders require a minimum balance remaining on your loan - usually $7500, but some will refinance with just $5000 left on your loan.
Be a savvy consumer.
The field of lending institutions that can offer consolidation loans is wide and varied. Borrowers must research all offers carefully to understand the advantages and disadvantages of each one.
Be wary of lenders are offering fee-based consolidation plans. Consolidation should not carry any upfront fees and requests for such are more than likely a scam. Refinancing your Stafford and PLUS loans may incur some minimal processing fees, but they are deducted from the disbursement check - not prepaid.
In 2007, consumers got another reason to be suspicious of consolidation offers. News reports broke that lenders were offering universities kickbacks to include them on preferred lender lists. More than ever, this scandal emphasized the critical importance of carefully examining all consolidation offers.