Refinancing isn’t just for mortgages anymore.
Say you graduated from college with educational debt, landed a steady job and built up good credit. Thanks to a growing number of banks and startups, you might be able to refinance your student loans and get a lower interest rate.
Not all borrowers are good candidates for refinancing. Since you can refinance only through a private lender, you’ll forfeit certain benefits if you have federal loans. But many borrowers can lower their monthly loan payments by refinancing, potentially saving thousands of dollars over their loan terms.
Read on to learn what refinancing is and who should do it.
How refinancing works
When you apply to refinance, a lender, such as a private refinancing company or financial institution, will examine your credit score, your income, the school you attended and other aspects of your financial history. If you meet the lender’s requirements, it will replace your loan with a new, private loan, which comes with a new — generally lower — interest rate and monthly payment. And if you have multiple loans, you can consolidate these into a single, refinanced loan.
Each lender has its own refinancing prerequisites. Some require lower minimum credit scores than others; some work only with graduates of particular schools or degree programs. A comparison marketplace, such as the one available through NerdWallet’s partner Credible, can help you shop for potential loans based on your individual situation.
Learn more: How to Refinance Your Student Loans With Credible
Eligibility requirements
Most lenders use your credit score to determine whether they’ll work with you and the interest rate they’ll charge. The ideal refinancing customer generally has a credit score of 680 or higher.
To make sure your prospective lender is working with accurate information, request your free reports from each of the three major credit reporting bureaus at annualcreditreport.com. Incorrectly reported late bill payments or outstanding parking tickets can hurt your credit score, so dispute any errors in writing to the credit bureaus as soon as possible. Your credit report won’t include your credit score. Request it separately (for a small fee) from myFICO.com.
The closer your credit score is to 850 — the maximum FICO score — the better your chances of refinancing at a favorable interest rate. If your score is in the mid-600s or lower, you can apply with a co-signer, who will be responsible for your refinanced loan if you can’t repay it.
Which loans to refinance
There are two types of student loans: federal loans, which are owned and guaranteed by the government, and private loans, which are owned by banks and private companies. Federal loans have lower interest rates and more borrower protections, such as the ability to pause loan payments for several months if you lose your job.
If you choose to refinance a federal loan, it will turn into a private loan. That means you’ll lose access to federal loan-specific programs, including income-based repayment and Public Service Loan Forgiveness. You should refinance only your private loans, and keep your federal loans separate, if you plan to take advantage of these programs. But if you know you won’t, it’s safe to consider refinancing a federal loan, or consolidating multiple federal loans with private loans and refinancing them together.
You can consolidate your federal loans if you want to make one monthly payment for all of them. Your new interest rate will be a weighted average of your loans’ previous rates, so consolidating won’t save you money. Keep in mind that if you opt for a longer repayment term when you consolidate or refinance, you’ll pay more in interest on your loans over time.
Fixed vs. variable interest rates
When you’re ready to refinance, most lenders will let you choose a fixed or variable interest rate. In both cases, the rate you’re offered will depend on your credit history and other financial factors.
A fixed rate stays the same throughout the repayment term. If you start out paying a 4.74% annual interest rate, that’s what you’ll owe until you pay off the loan. A variable rate goes up and down according to conditions in the economy. Although variable rates are lower than fixed rates at the moment, they’re likely to increase when the Federal Reserve begins to raise interest rates.
Because variable interest rates involve more risk, they’re best for borrowers who plan to repay their loans quickly — within the next five years, for instance. A fixed rate is better if you’ll take longer to repay, or if you like the certainty of a set rate.
How it works in the real world: One grad’s story
If you’re like Zac Lawhon, 26, an art teacher at the Baltimore Lab School, student loan refinancing could be a game-changer.
Zac Lawhon, an art teacher at the Baltimore Lab School.
Lawhon graduated from the Maryland Institute College of Art in 2012, with a master’s in education. He received a bachelor’s in fine art from the same school in 2011. While enrolled, he accrued about $200,000 in student loan debt: $110,000 in private loans and $90,000 in federal loans.
Lawhon says this amount felt overwhelming when he graduated. “If I wasn’t really paying attention, I was probably going to be one of those people who was going to default on their loans,” he says.
Two years after graduating, Lawhon used Credible to refinance a private loan he had taken out from Chase. His interest rate decreased from 11.5% to 8.5%, and his monthly payment went from $600 to $570.
Lawhon decided not to refinance his federal loans. While he works at a private school now, he may work at a public school in the future, which could qualify him for Public Service Loan Forgiveness. He’d have lost that benefit if he’d turned his federal loans private. But he did sign up for income-based repayment on his federal loans. Altogether, he lowered his loan payments from $1,400 to $1,248 per month.
“These savings are what helped me qualify for a mortgage. So it seems small, but it was significant,” he says.
The takeaway
Refinancing can be a great option for borrowers with good credit and a steady income who feel stuck with burdensome loan debt. Think carefully about refinancing all your loans, both public and private, if you’re likely to make use of repayment options only federal loans offer. These resources can help you make sense of your options:
If you’re ready to refinance, fill out the short form below. You’ll complete a longer form on Credible’s website, where you’ll see personalized loan offers from up to nine lenders. That’s where you can pick the lender that’s best for you.
Brianna McGurran is a staff writer at NerdWallet. Email: bmcgurran@nerdwallet.com. Twitter: @briannamcscribe.
This post was updated. It was originally published on June 26, 2015.
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