A lower interest rate can make refinancing federal student loans sound like an easy way to save money. But there is another side to the calculation.
When you refinance federal student loans with a private lender, you are not simply changing your interest rate. You are leaving the federal student loan system. That means you may be giving up federal repayment options, forgiveness programs and other protections that could become important if your financial circumstances change.
Before refinancing, understand what those benefits are worth to you.
Federal Student Loans Offer Flexibility
One of the biggest differences between federal and private student loans is the flexibility available to federal borrowers. Depending on the type of federal loan and the borrower’s circumstances, federal programs may provide repayment options based on factors such as income and family circumstances. Federal borrowers may also have access to qualifying deferment and forbearance options.
Private lenders have their own policies. Some offer hardship assistance, but those programs are determined by the individual lender and are not the same as federal protections.
This difference may not seem important when you have a stable job and can comfortably make your payment. It can become very important when something changes.
What If You Lose Your Job?
Imagine that you refinance your federal student loans today because you qualify for a lower interest rate. A year later, you lose your job.
Your private lender still expects you to make your payments according to the terms of your new loan. The lender may offer hardship assistance, but what is available depends on that lender’s policies and the terms of your loan.
Federal student loans may provide qualifying borrowers with options to temporarily postpone or manage payments during certain financial hardships. Federal Student Aid advises borrowers who cannot afford their payments to contact their loan servicer about available options.
This is why the question is not simply:
“Can I afford this payment today?”
It is:
“What happens if I can’t afford this payment later?”
What About Income-Driven Repayment?
For some federal borrowers, repayment flexibility is one of the most valuable features of the federal student loan system. Depending on eligibility and the loans they have, borrowers may have access to federal repayment plans that consider income and family circumstances when determining payments.
If you refinance those federal loans into a private loan, you leave that federal repayment system. A private lender may offer a different repayment term or hardship option, but it does not become a federal income-driven repayment plan.
If your income is unpredictable or you expect your financial circumstances to change, this is an important consideration before refinancing.
What About Public Service Loan Forgiveness?
If you are pursuing Public Service Loan Forgiveness, refinancing requires particular caution. PSLF is a federal program with specific eligibility requirements, including requirements concerning the type of loan. A private student loan does not qualify for PSLF simply because it was originally a federal student loan.
Refinancing federal loans into a private loan can therefore eliminate the possibility of receiving PSLF on those refinanced loans. If you are working toward federal loan forgiveness, understand the consequences before refinancing.
Other Federal Benefits May Be Lost
Federal Student Aid warns that refinancing federal student loans into a private loan can mean losing federal benefits and protections.
Depending on your circumstances, these may include:
- Federal income-driven repayment options
- Certain deferment and forbearance options
- Public Service Loan Forgiveness
- Other federal forgiveness programs
- Certain federal discharge protections
- Other federal borrower benefits
Once the federal loan has been refinanced into a private loan, those federal protections do not transfer to the new private loan.
The Flexibility Has Value
It can be difficult to put a dollar value on flexibility. Suppose refinancing saves you $17 a month. That’s about $204 a year. For some borrowers, that savings may be worth it.
But consider what happens if you lose your job, your income drops significantly or you otherwise need payment relief. The ability to use federal programs that may help you manage your payments could be worth considerably more than the amount saved through refinancing.
This does not mean refinancing is always a bad financial decision. It means the savings need to be considered alongside the protections you are giving up.
Ask These Questions Before You Refinance
Before moving federal loans to a private lender, ask yourself:
How much will I actually save?
Look at the total interest savings, not just the new monthly payment.
Is the new rate fixed or variable?
A variable rate can change over time.
Am I pursuing PSLF or another federal forgiveness program?
If so, understand how refinancing would affect your eligibility.
Could my income change?
If your income is unpredictable, federal repayment flexibility may be particularly valuable.
Could I need deferment or forbearance in the future?
If the answer is yes, compare the federal protections you have now with the assistance offered by the private lender.
What am I giving up for the savings?
This may be the most important question of all.
Before You Make a Permanent Change
Refinancing federal student loans into a private loan is not the same as simply changing your federal repayment plan. It is a move from the federal student loan system to a private loan.
Before making that decision, review your current federal loans and repayment options through your Federal Student Aid account. You can also use federal resources to compare available repayment options and estimate payments and total repayment costs.
If your primary goal is simply to lower your monthly payment, make sure you understand the federal options available to you before giving up those options permanently.
The Bottom Line
A lower interest rate can save money. But federal student loans come with protections and repayment options that a private lender does not have to provide. The right decision depends on your individual circumstances.
If you have stable income, strong credit and a significantly lower fixed-rate offer, refinancing may be worth considering. But if the savings are relatively small, the flexibility of keeping your federal loans may be more valuable.
Before you trade federal flexibility for a lower interest rate, make sure you understand exactly what you’re giving up. An advisor from My Education Solutions can help you navigate your options and find a path that suits your needs.
