Millions of student loan borrowers who have fallen behind on their repayments have just a matter of days to arrange a payment plan and get back on track. But which repayment option is best for your financial situation?
May 5 Deadline
The Department of Education (ED) recently confirmed that forced collections on defaulted loans will begin on Monday, May 5. Borrowers become delinquent from the first day a payment is late, and for most federal student loans, the outstanding balance goes into default after 270 days, or roughly nine months, of non-payment.
Defaulted student loans have not been collected since March 2020 when the federal government activated a process known as administrative forbearance, which was put in place due to the economic turbulence caused by the COVID-19 pandemic.
Taking action now is important, as remaining in default on your loans can have a myriad of unpleasant consequences, including major damage to your credit score and garnishment of wages, tax refunds and federal benefits. But getting your head around the multitude of options available can be tricky.
“Graduates may be scratching their heads at student loan repayment plan options, and rightfully so,” Lindsey Crossmier, researcher and personal finance expert at MarketWatch Guides, told Newsweek. “The plans can be somewhat confusing at first, and it seems new legislation rulings are constantly coming out.”
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Different Types of Loan Plans
There are two categories of federal student loan repayment plans: fixed and income-driven repayment (IDR).
A fixed-term repayment plan is a type of federal student loan repayment plan where your monthly payment stays the same each month, and your loan is fully paid off by the end of a set time period—usually 10, 20, or 30 years, depending on the plan and loan type.
There are three types of fixed term plan:
- Standard Repayment Plan—has a 10-year term with fixed monthly payments. It usually results in the lowest total interest cost because the loan is paid off more quickly.
- Graduated Repayment Plan—also spans 10 years, but payments start off lower and increase every two years. This option is helpful if you expect your income to rise over time.
- Extended Repayment Plan—gives you up to 25 years to repay your loans and offers either fixed or graduated payments. However, it’s only available if you owe more than $30,000 in federal student loans. While it can lower your monthly payment, you’ll end up paying more in interest over the life of the loan.
Fixed-term repayment plans do not adjust based on your income. The longer your repayment term, the more interest you’ll pay overall. These plans are different from IDR plans, which calculate your payments based on your income and family size.
As for IDR plans, there are four options available:
- Income-Based Repayment (IBR)—sets monthly payments at 10 to 15 percent of a borrower’s discretionary income, making it a suitable option for those with a high debt-to-income ratio. Borrowers can qualify for loan forgiveness after making 20 to 25 years of payments.
- Income-Contingent Repayment (ICR)—determines payments as either 20 percent of discretionary income or a fixed amount over 12 years, whichever is lower. Loan forgiveness is available after 25 years, and this is the only income-driven plan accessible to Parent PLUS Loan borrowers through consolidation.
- Pay As You Earn (PAYE)—caps payments at 10 percent of discretionary income and is available only to those who took out loans after October 1, 2007. Borrowers can receive loan forgiveness after 20 years of qualifying payments.
- Revised Pay As You Earn (REPAYE)—requires payments of 10 percent of discretionary income, regardless of income level. Loan forgiveness is granted after 20 years for undergraduate loans and 25 years for graduate loans.
Which Repayment Option Should I Choose?
Which option is best for you depends on your financial situation, Crossmier explained.
“Traditional plans like Standard and Graduated have a fixed payoff period regardless of income changes, which can be especially useful for those anxious to be rid of debt quickly,” she said. “Higher earners typically benefit most from traditional plans like Standard Repayment as they can afford larger monthly payments and reduce their total interest paid. If you anticipate your career taking off and earnings increasing over time, a Graduated plan, which start with lower payments and increase every two years, could be a good fit.”
As IDR plans adjust monthly payments based on your earnings and family size, Crossmier said these “can be especially useful if you’re concerned about being able to afford repayments.”
She explained that these plans may be better for lower income borrowers or those who may be uncertain about their income over time.
“Lower earners can do better with income-driven plans since payments scale with income, which can prevent stress during financial hardships,” Crossmier said. “Traditional plans typically cost less in total interest paid, but IDR plans can provide more financial flexibility.”
Saving on a Valuable Education (SAVE) Plan
The Saving on a Valuable Education (SAVE) plan, introduced under former President Joe Biden, is no longer an option for enrollment. This is because several Republican states took legal action against the previous administration, arguing that it does not have the authority to alter student loan repayment plans. Borrowers enrolled in SAVE have been placed in general forbearance and are not required to make repayments.