Forbes - February 10, 2021
There’s over $1.6 trillion in outstanding student loan debt in the United States, the vast majority of which consists of federal student loans.
While federal student loan interest rates have varied over time (Congress passes legislation to periodically determine how federal student loan interest rates are calculated), the rates can be anywhere from 2-4% for certain undergraduate federal student loans, to 7-9% for older federal loans and for PLUS loans issued to graduate students and parents.
Higher interest rates can make repayment quite costly. A borrower with $30,000 in federal student loans at a 7% interests rate would pay around $42,000 in total (including interest) on a 10-year term, or over $55,000 in total on a 20-year term.
Because interest rates for federal student loans are set by Congress, they can’t be changed under current law. So for borrowers with high-interest federal student loans, their only option to get a lower interest rate would be to refinance their loans through a private lender. This can save the borrower thousands of dollars in interest payments over time. But converting your federal student loan into a private student loan also could be a major risk. Here’s why.
Federal Student Loan Interest Is Currently Frozen
The CARES Act, passed in response to the pandemic and associated recession, froze all interest for government-held federal student loans last year, essentially setting borrowers’ interest rates to 0% temporarily. President Biden has extended this relief to at least September 30, 2021, and he indicated it could be extended even beyond that. While no payments are required during the interest freeze, borrowers can make payments voluntarily. And with 0% interest, your entire payment gets applied to your current loan balance.
There is no interest rate better than 0%, and private student loans are not eligible for the CARES Act’s interest freeze or payment moratorium. By refinancing a qualifying federal student loan via a private loan, you would be cutting yourself off from these benefits.
Student Loan Forgiveness
Democratic lawmakers and consumer rights organizations have been pressing President Biden to enact sweeping student loan forgiveness. Last week, the Biden administration expressed openness to the idea of cancelling student loan debt via executive action under the Higher Education Act.
The White House indicated it is considering the legality of this route. And while it’s far from clear whether Biden would proceed in cancelling some student loan debt through executive action, any such relief would be limited to federal student loans only. There is some debate about the legality of forgiving student loan debt unilaterally under the Higher Education Act, but there is little doubt that such authority would apply only to federal student loans, not private student loans.
By refinancing federal student loans into a private loan, borrowers would be closing the door to even the possibility of getting a portion of their student debt cancelled by a Biden executive action. Given that interest rates are currently 0% for government-held federal student loans, there is little cost to waiting to see what happens.
Lost Access To Other Federal Loan Programs
Federal student loans have access to many consumer protections and programs such as a statutory death and disability discharge, generous deferment and forbearance options, and the right to cure default, as well as income-driven repayment and Public Service Loan Forgiveness. By refinancing federal loans with a private loan, borrowers would be permanently giving up these protections. Many private student loan flexibility programs (such as temporary loan modifications or forbearances) are contractual (not statutory), and are often discretionary as well – meaning the lender gets to decide whether or not to enforce them.
What About Private Student Loans?
Refinancing private student loans via another, lower-interest private student loan may be less of a risky option. Since private student loans already don’t have access to federal student loan programs (and there is no way under current law to convert a purely private student loan into a federal student loan), borrowers are unlikely to be giving up much by refinancing. And given that some private student loans have interest rates that exceed even the highest interest rates for federal student loans, refinancing can be a critical avenue for borrowers to lower their monthly payments and reduce the overall cost of repayment.
Borrowers who are considering refinancing their student loans should be sure to consult with a qualified professional or advisor before moving forward. By Adam S. Minsky, Esq.
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