Home Argentina crisis The Pros and Cons of Income-Based Student Loan Repayments

The Pros and Cons of Income-Based Student Loan Repayments

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You have probably heard that there is a student debt crisis and many borrowers find themselves unable to land jobs that provide them with sufficient income to live comfortably while making their payments. Headlines are everywhere so it was hard to miss them. But, have you really dug into the crippling numbers?

The total amount of student debt currently held by Americans is rapidly approaching $ 1.4 trillion. When you actually write it down, that number looks like this: $ 1,400,000,000,000.00. It is quite difficult to understand so many zeros. Additionally, the Wall Street Journal reported that in 2015 7 million borrowers went 365 or more without making a payment. The US Department of Education cites the national default rate to be somewhere near 11.8%. Whichever way you cut it, it’s a big deal.

Fortunately, there are student loan repayment programs specifically designed to help borrowers who find themselves underwater. One of the most widely available programs is called Income-Based Repayment (IBR). So what is IBR and can it help you? Let’s take a look!

What is student loan repayment based on income?

Currently, borrowers have 4 options to repay their student loans on a schedule determined by their income. These are the Revised Pay-As-You-Go Reimbursement Plan (REPAYE), Pay-As-You-Go Reimbursement Scheme (PAYE), Income-Based Reimbursement Scheme (ICR) and Income-Based Reimbursement Scheme (IBR). While the benefits and eligibility requirements vary for everyone, the IBR is potentially the most useful for the greatest number of people.

With income-based repayment plans, you can reduce your monthly payments based on your current income amount and your family size. Depending on when you first borrowed the money, you may be able to pay off your loan over a period of 20 to 25 years rather than the standard 10-year period offered by standard repayment plans. Plus, your monthly payment amount is capped at 10-15% of your discretionary income – again depending on when you originally took out the loan. Once the 20 to 25 year period has expired, your loan balance may then be canceled, provided you have continued to make regular payments.

Who is eligible?

Of course, not everyone is eligible to take advantage of income-based repayment plans. To be eligible, you must follow certain guidelines. First, your new monthly payment must be less than the payment amount you would have to make under a standard 10 year plan. Otherwise, you would obviously not benefit from the program; thus, you are not eligible.

In addition, you must show proof that you are experiencing “partial financial hardship”. According to the US Department of Education, this means that your student loan debt must be “greater than your annual discretionary income” or that it “represents a significant portion of your annual income.” It all sounds good, but what does it actually mean?

To calculate your discretionary income, you need to take your Adjusted Gross Income (AGI) and subtract 150% from the poverty line. For example, in 2015, a family of four who earned $ 36,375 represents this line. So if the AGI for a family of four was $ 53,981, their annual discretionary income would be $ 17,606 ($ 53,981- $ 36,375 = $ 17,606). Capiche?

If you borrowed money before July 1, 2014, your monthly payments are capped at 15% of your discretionary income. However, if you borrowed after July 1, 2014, your maximum payment is 10% of your discretionary income.

Additionally, the IBR is only available to those with federal student loans. Income-based repayment options are not available for private loans. In addition, not all federal loans are eligible. Generally, only Direct Consolidation Loans, Stafford / Direct Loans, and Graduate Plus Loans are eligible.

Benefits of income-based repayment

There is a lot to like about joining an income-based repayment plan. If you’re struggling financially, here are some great reasons you might want to consider using IBR to pay off your student loans.

Lower monthly payments

Obviously, the biggest benefit of using an income-based repayment plan is that it relieves the high monthly payments that you might otherwise be required to make. You can use the IBR as a temporary measure to help you cope with your income crisis payments, or you may need to use an IBR plan for the entire 20 to 25 year period. Either way, the goal of income-based repayment is to help you meet your monthly repayment obligations.

Balance is forgiven

If you decide to stick with the income-based repayment plan for the life of the loan, the entire outstanding balance on your student loan will be written off at the end of the 20 to 25 year term. It’s huge… but you have to make regular payments throughout the process to take advantage of it.

Public service loan remission

If you have certain jobs in the public service, you may be able to use an income-based repayment plan to help lower your monthly payments. AND have your loan balance canceled much faster than others who are enrolled. In fact, if you qualify, your balance can be canceled in 10 years instead of the 20-25 years required for public sector employment.

Disadvantages of income-based reimbursement

Of course, with all good things, there are always downsides. Here are some drawbacks to choosing income-based student loan repayment.

  • Pay more in interest – By choosing the 20-25 year IBR plan, you will likely end up paying more interest. If you want to avoid this, you can always pay off your loans faster.
  • Pay tax on loan forgiveness – Remember that great loan forgiveness benefit? Well, there is no free lunch. The government considers this income, so you will have to pay tax on the amount of student loans you forgot. Granted, compared to what you actually owe, it might sound like peanuts. But, it’s still something you need to consider.
  • No more paperwork – To be eligible for the IBR, you must in fact prove that you are eligible. In addition to the documents required to apply, you will also need to provide your loan provider with permanent documents that document your annual income so that they can adjust your payment amount. If you don’t, your loan will automatically be reclassified as a Standard Loan – which can obviously lead to a big increase in your monthly payment.

Is Income-Based Student Loan Repayment Right For You?

To apply for an income-based repayment, simply complete the IBR Repayment Plan Application and IRS Form 4506-T and submit them to your loan service company. Once they have reviewed the documents, they will let you know if you are eligible.

As with any major decision, we strongly encourage you to weigh the pros and cons of IBR plans before deciding to sign up. However, if you are having difficulty making your loan repayments due to a shortfall, income-based student loan repayment plans are definitely something to consider.

If an income-based student loan repayment plan is not the right choice for you, or if you do not qualify, the next step may be to consolidate or refinance. You can usually consolidate your federal student loans as part of a new federal loan. This will not lower the interest rate, but it will put all of your loans under one bond, which may have a lower payment if you can extend the effective term.

Alternatively, you can consider a private student loan refinance. Not only will this allow you to consolidate multiple loans into one loan, but you may be able to get a lower interest rate. It can also reduce your monthly payment, especially if you extend the term of the loan.

An excellent source for refinancing a private student loan is through an online student loan marketplace known as Credible. At least 10 student loan lenders participate on the site, giving you the ability to get quotes and prequalification from several with just one application.

Learn more: Credible review

You will need to qualify based on your income and credit. But if you do, you can lower your effective interest rate, maybe even drastically. And that should also lower your monthly payment.

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