By Reyna Gobel, Wise Bread
Repaying private student loans can be confusing. Most of what you hear in the news applies to federal student loans. So where can private loan borrowers get information on repayment? From their lenders.
Since private student loans are essentially bank loans, it’s up to the lender you borrowed the money from to set rules for loan length, payment amount and interest rates.
After you graduate, you can find the information you need from either your contract or by calling your lender. When you’re ready to start repayment, here’s what you need to know.
1. Your cosigner also has obligations.
If your mom, dad or really cool friend or relative cosigned your private loan, that person has an obligation to repay the loan if you can’t. The loan payment history is also reported on their credit report — which means that if you miss payments, you can screw up your cosigner’s credit.
So, what can you do to protect your friend or relative?
First, anytime you can’t make a payment, it’s as important to keep in touch with your cosigner as it is your lender. Always ask the lender first about a temporary repayment break, also called a forbearance. But if you can’t get a repayment break, your cosigner needs to know. Your cosigner might prefer to help you out with the payment than have their credit dinged.
Second, some loan providers offer programs to remove the cosigner after a specific number of on-time payments — check to see if your provider is one of them. For instance, if you can pass the credit check and make a specific number of on-time payments, your lender may agree to remove the cosigner from the loan. The obvious perk is that your cosigner no longer has to worry about what happens in the future. The lesser-known perk of removing the cosigner from the loan is that their income will no longer be considered when the lender decides whether you qualify for a repayment break.
2. When can your interest rate change?
Private student loans may have fixed or variable interest rates. Fixed-rate loans never change their rate. Your payments will stay the same unless you change repayment plans. For instance, your payment will get smaller if you switch from a five-year plan to a 15-year repayment plan.
For variable loans, your contract will say how often your interest rate can change. For instance, the rate could change every three months, but that doesn’t mean it will. Your rate could be 5.7% this month and still be 5.7% three months from now. The interest rate is based on the interest rate within a financial index (such as the LIBOR or prime rate), plus a percentage you agreed to pay on top of the indexed rate. For instance, your interest rate might be stated as prime (which was 3.25% as of Oct. 16) plus 4%. These financial indexes are in tune with the economy and fluctuate accordingly.
If you see loan rates rise on new mortgages or car loans, it means rates are rising in general, and you should contact your student loan provider to see if your monthly repayment amount will increase. Your lender is required to notify you of rate changes, but it’s never a bad idea to check yourself so you can plan ahead. Your loan contract will state how often your interest rate can change and how much notice you will be given before it happens.
When interest rates are low, try to sock away extra money in a savings account in case your required monthly payment increases later when interest rates rise. If you do have a little extra cash, it’s also a good idea to send in $10 or $20 extra per month to help pay down the loan balance. Revisit how much you can afford to send in on top of your payments annually. Some years you may be able to afford $5 extra per month; other years you might be able to add $100 per month.
3. Can’t afford your monthly payments? You have options.
If you can’t afford your payments, you have two options: change repayment plans or request a repayment break. As with federal student loans, you can ask your lender about extending your repayment plan. For instance, you may not be able to afford the loan payment amount on a five-year loan, but you could afford to make payments if you switched to a 15-year repayment plan. Let’s say you borrowed $40,000, and the current interest rate is 5%. The monthly payment on a five-year loan is about $750. On a 15-year repayment plan, the payment is about $300. You will pay more in interest over the long haul if you spread out your payments, but since most loans don’t have a pre-payment penalty, it never hurts to send in a few bucks extra when you can. However, not all private loans offer these options, so you’ll need to contact your lender and ask. Note that private loans cannot be put on an Income-Based Repayment (IBR) plan — since it’s a federal program, it only applies to federal loans.
If you just need a short-term break from payments, ask for one. Private loan lenders don’t have set rules on repayment breaks like federal loans do, but lenders do grant breaks when you have an economic issue such as a job loss, medical emergency or prolonged job search after graduation.
The worst thing you can do when you don’t have the cash to keep up with your current repayment plan is to skip calling your lender. Make the call: You might be surprised by how many options you have.
Reyna Gobel is Wise Bread’s New Graduates Help Center student loan expert. Her audiobook How Smart Students Pay for School, is now in its second edition.
Top photo by Stuart Miles, freedigitalphotos.net.