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For student borrowers, student loan consolidation and refinancing are two ways to manage payments if you have multiple loans. Although these strategies are similar, they have important differences and caveats.
If you’re thinking about consolidation versus refinancing, make sure you know the distinctions before submitting an application.
Consolidation vs Refinancing
Even though consolidation and refinancing have many similarities, they differ in some key points.
How does student loan refinancing work?
Student loan refinancing involves taking out a new private student loan to pay off your current student loans. Your refinanced loans will have a new interest rate and new repayment terms. Once your old loans are closed, you will start making monthly payments on the new loan.
Benefits of Student Loan Refinancing
- Possibly lower interest rate. If you have good or excellent credit, you may qualify for a refinanced loan with a lower interest rate than you are currently paying. The lower your interest, the less you will pay over the total term of your loan.
- Combine your loans into one easy payment. If you have multiple student loans, keeping track of your various interest rates and maturity dates can become overwhelming. Refinancing means you can combine multiple student loans into one easy payment each month.
- Change loan servicer. If you are unhappy with your current loan officer, the only way to transfer your debt to another company is to refinance your student loans. With good or excellent credit, you can compare many different lenders and compare which ones offer the best interest rate, repayment terms, and lowest fees.
Disadvantages of Student Loan Refinancing
- Lower interest is not guaranteed. Even if you qualify for a refinance, you might not qualify for a better interest rate than the one you are currently paying.
- Lose federal protections. If you refinance your federal loans, you will lose access to all federal protections and benefits, including income-based repayment plans, more flexible forbearance, and public service loan forgiveness (PSLF).
- A credit check is required. Refinancing requires a rigorous credit check. If you don’t have a strong credit history, you may not qualify without the help of a co-signer. And if you do, you might not get the full amount you asked for or the lowest interest rate available.
How to Apply for Student Loan Refinance
Refinancing can only be done through private lenders like banks, credit unions, and online lenders. If you are looking to refinance, consider the following:
1. Clean up your credit
Before looking at lenders, check your credit score so you know where you stand before submitting a loan application. If your score is lower than you would like, take steps to improve your credit before you begin the refinancing process.
2. Compare lenders
Once your credit is in order, you can compare refinance lenders and look for the best rates. Student loan refinancing requirements are not universal; make sure you are eligible with each lender based on your creditworthiness, the amount you wish to borrow, and your graduation status (some lenders do not offer student loan refinance to those who do not have no degree).
You should also review what each lender offers in terms of interest rates, repayment terms, and fees. If possible, complete a prequalification to see which lenders you might be compatible with.
3. Complete an application
Once you’ve selected a few top lenders, prequalify with them if you can. This process allows you to view estimated rates and terms for which you may qualify. If everything looks good, complete an application with each lender and wait for approval. Many lenders approve you in minutes while others may require more paperwork to complete your application.
Once you are approved, you will receive the final loan terms and conditions. Review the documents and submit the final signed forms to your lender.
4. Pay your new lender
Your new lender usually repays your old loans directly. It is important to continue paying your current loans until your new lender notifies you that they have been paid. Falling behind could make your loans delinquent before the refinance is completed, so be sure not to delay the process by missing payments.
How does student loan consolidation work?
Student loan consolidation involves taking out a consolidation loan directly from the US Department of Education and consolidating all of your federal student loans into one. Your new interest rate will be the average rate of your current loans, rounded to the nearest eight percent.
Benefits of Student Loan Consolidation
- Combine multiple student loans into one. Consolidating your debt combines several student loans into one. This means that you will only have one payment to worry about each month.
- Access to certain federal benefits. Depending on the type of student loans you have, consolidating them can help you access additional federal benefits. For example, borrowers with parent PLUS loans must consolidate their debt to access income-contingent repayment or forgiveness of government loans.
- No credit check required. Like most other federal student loans, a credit check is not required to consolidate your debt. This means you can qualify even with bad credit.
- Longest repayment terms offered. Direct consolidation loans have repayment terms of up to 30 years, which is longer than most private lenders. A longer repayment window will lower your monthly payment, but increase the total amount of interest you pay on the loan.
Disadvantages of Consolidating Student Loans
- Only federal loans are eligible. You cannot consolidate student loans that you have obtained from private lenders.
- It makes up exceptional interest. When you consolidate student debt, any unpaid interest becomes part of the principal balance. This means that you may be charged additional interest on your new higher balance.
- Potential loss of certain federal benefits. Consolidation may negatively affect some of your existing federal benefits. For example, people enrolled in an income-driven repayment plan will lose credit for any payments you made before consolidation, which will delay your eligibility for loan forgiveness. Other borrowers may lose certain interest rate reductions or benefits in the event of loan cancellation.
How to Apply for Student Loan Consolidation
To apply for student loan consolidation, you will need to ensure that you are registered on the Federal Student Aid website. You will need:
- A valid federal student aid ID card
- Personal data such as your address, telephone number and email
- Financial information, including details of your current loans and repayment plans
Before completing the application, review the loans you want to consolidate. Many people choose to consolidate all of their federal loans together, but depending on the types of debt you have, you may choose to consolidate only a portion of your loans.
The online application process should take around 30 minutes and no co-signer is required.
Refinancing vs. Consolidation: How to Decide Which is Better
Not everyone can or should refinance their student loans, and not all borrowers are eligible for consolidation.
You may consider refinancing your student loans if:
- You have excellent credit. If you have good credit, you’re well on your way to not only qualifying for a refinance, but also accessing some of the lowest interest rates available. If you can’t lower your interest rate or receive other tangible benefits with your new loan, it’s probably not worth refinancing.
- You have private student loans. Since federal student loans come with additional benefits and protections, refinancing these debts carries more risk. But if you have private student loans, you don’t have much to lose if you refinance, especially if you can save interest in the process.
- You are not in a federal reimbursement program. Refinancing means you will lose federal protections, like more flexible forbearance, income-driven repayment plans, or federal forgiveness programs. If you don’t use these benefits (and won’t need them in the future), refinancing might be worth it.
You could consolidate your student loans if:
- You only have federal student loans. Direct consolidation loans are only eligible for federal student loan borrowers.
- You want to simplify payments. Since consolidation combines multiple federal loans into one, it can simplify the monthly payments you need to keep up with.
- You want to reduce your monthly payments. Since direct consolidation loans have long repayment terms, up to 30 years, you can lower your monthly payment by consolidating. However, note that reducing your monthly payments usually results in an increase in interest paid over the life of the loan.