The total amount of student loan debt currently held by Americans is quickly approaching $1.4 trillion. When you actually write it out, that number looks like this: $1,400,000,000,000.00. It’s pretty hard to actually comprehend that many zeros. Additionally, the Wall Street Journal reported that – in 2015 – 7 million borrowers have gone 365 or more without making a payment. The U.S. Department of Education cites the national default rate stands somewhere near 11.8%. Any way you slice it, that’s a big problem.
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 possibly help you? Let’s check it out!
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What Is Income-Based Student Loan Repayment?
Currently, borrowers have 4 options for repaying their student loans on a schedule driven by their income. They are the Revised Pay As You Earn Repayment Plan (REPAYE), Pay As You Earn Repayment Plan (PAYE), Income-Contingent Repayment Plan (ICR), and Income-Based Repayment Plan (IBR). While the benefits and requirements for eligibility vary for each, IBR is potentially the most useful for the largest number of people.
With Income-Based Repayment Plans, you are able to lower your monthly payments based on the amount of income that you currently earn and the size of your family. Depending upon when you first borrowed the money, you’ll be able to pay your loan off over a 20-25 year period rather than the standard 10 year-period afforded by Standard Repayment Plans. Additionally, your monthly payment amount is capped at 10-15% of your discretionary income – again dependent upon when you originally took out the loan. Once the 20-25 year period expires, the balance of your loan is then eligible to be forgiven, provided that you have continued to make regular payments.
Who Is Eligible?
Of course, not everybody is eligible to take advantage of Income-Based Repayment Plans. To qualify, you must meet certain guidelines. First, your new monthly payment must be lower than the amount of the payment you would be required to make under a standard 10-year plan. If not, you obviously wouldn’t benefit from the program; thus, you don’t qualify.
Additionally, you must present evidence that you are experiencing a “partial financial hardship.” According to the U.S. Department of Education, that means your student loan debt must be “higher than your annual discretionary income” or that it “represents a significant portion of your annual income.” That all sounds great, but what does that actually mean?
To calculate your discretionary income, you need to take your adjusted gross income (AGI) and subtract 150% of the poverty line. For example, in 2015, a family of four who made $36,375 represents this line. So, if the AGI for a family of four was $53,981, their annual discretionary income would amount to $17,606 ($53,981-$36,375=$17,606). Capiche?
If you borrowed money prior to 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 tops out at 10% of your discretionary income.
Additionally, IBR is only available to those who have federal student loans. Income-Based Repayment options are not available for private loans. Furthermore, not all federal loans qualify. Generally, only those with Direct Consolidation Loans, Stafford/Direct Loans, and Graduate Plus Loans are eligible.
Benefits of Income-Based Repayment
There is a lot to like about enrolling in an income based-repayment plan. If you’re in a financial pinch, here are a few really good reasons you might want to consider using IBR to pay back your student loans.
Lower Monthly Payments
Clearly, the biggest benefit to using an Income-Based Repayment plan is that it provides relief from the high monthly payments you may otherwise be required to make. You can use IBR as a temporary measure to help meet your payments during an income crises, or you may need to use an IBR plan for the entire 20-25 year period. Regardless, the entire point 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 duration of the loan, the entire outstanding balance of your student loan will be forgiven at the end of the 20-25 year term. That’s huge…but you need to be making regular payments throughout the process in order to take advantage.
Public Service Loan Forgiveness
If you work in certain public service jobs, you may be able to use an Income-Based Repayment Plan to help lower your monthly payments AND have the balance of your loan forgiven much quicker than others who are enrolled. In fact, if you qualify, your balance may be forgiven in 10 years rather than the 20-25 years required for public sector employment.
Disadvantages of Income-Based Repayment
Of course, with any good thing there are always some downsides. Here are a few disadvantages to selecting Income-Based Student Loan Repayment.
- Pay More in Interest – By selecting the 20-25 year IBR Plan, you will most likely end up paying more in interest. If you wish to avoid this, you can always pay off your loans quicker.
- Pay Tax on Loan Forgiveness – Remember that great loan forgiveness benefit? Well, there is no free lunch. The government does consider that to be income, so you will have to pay taxes on the amount of the student loans that you have forgiven. Granted, compared to what you actually owe, that may seem like peanuts. But, it is still something you need to consider.
- More Paperwork – In order to qualify for IBR, you actually have to prove that you qualify. In addition to the paperwork required to apply, you’ll also need to provide ongoing documentation to your loan provider that documents your annual income so that they can adjust your payment amount. If you fail to do so, your loan will automatically be reclassified as a Standard Loan – which could obviously mean a large increase in your monthly payment.
Is Income-Based Student Loan Repayment For You?
To apply for income-based repayment, simply complete the IBR Repayment Plan Request and IRS Form 4506-T and submit them to your loan servicing company. Once they have reviewed the documents they will let you know if you qualify.
As with any big money decision, we strongly encourage you to weigh all of the pros and cons of IBR Plans before you decide to enroll. However, if you’re having trouble making your loan payments due to an income shortfall, Income-Based Student Loan Repayment Plans are definitely something to consider.
If an income-based student loan repayment plan isn’t the right choice for you, or you’re not eligible, the next step may be to do either or consolidation or refinance. You can generally do a consolidation of your federal student loans under a new federal loan. It won’t lower the interest rate, but it will put all your loans under a single obligation, which may have a lower payment if you can extend the effective term.
Alternatively, you can look into a private student loan refinance. Not only will that enable you to consolidate several loans into a single loan, but you may be able to get a lower interest rate. That may also lower your monthly payment, particularly if you extend the term of the loan.
An excellent source to do a private student loan refinance is through an online student loan marketplace known as Credible. At least 10 student loan lenders participate on the site, giving you an opportunity to get quotes and prequalification from several with a single application.
Learn more: Credible Review
You’ll need to qualify based on your income and credit. But if you do, you may lower your effective interest rate, maybe even substantially. And that should also lower your monthly payment.