How can I lower my student loan payments?

Student loan payments can be a source of financial stress for many borrowers who are struggling to repay their loans. Every dollar of loan payments is a dollar less that is available for other priorities. So, borrowers sometimes seek to lower their monthly student loan payments.

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There are several different ways of reducing student loan payments:

• Choose a different repayment plan, such as extended repayment or income-based repayment. These repayment plans reduce the monthly payment by increasing the length of the repayment term. Unfortunately, a longer repayment term also increases the total interest paid and total payments over the life of the loan. So, it is best to choose the repayment plan with the highest monthly payment you can afford.
• Obtain a consolidation loan to combine multiple loans into a single loan. Direct Consolidation Loans, which are available at www.StudentLoans.gov, do not reduce the cost of the loan, since the interest rate is based on the weighted average of the interest rates on the loans included in the consolidation loan. But, if some of the individual loans borrowed were small, the $50 minimum monthly loan payment may have increased individual loan payments. By combining small loans into a single larger loan, consolidation avoids multiple minimum payment requirements. Consolidation can also provide access to alternate repayment plans that can reduce the monthly payment.
• Refinance to get a lower interest rate. Interest rates on private consolidation loans are based on the current credit scores of the borrower and cosigner (if any). If the borrower gets a good job and manages his or her credit responsibly (e.g., by making on-time payments on all debts, not just student loans), his or her credit score should improve significantly within a few years of graduation. Be sure to review credit scores at www.annualcreditreport.com (a free web site) and correct any errors before applying for a private student loan. Then, look for opportunities to refinance your student loans at www.studentloanconsolidator.com.
• Claim the student loan interest deduction. The student loan interest deduction allows borrowers to deduct up to $2,500 in interest on federal and private student loans on their federal income tax returns. The deduction is claimed as an above-the-line exclusion from income, and so can be claimed even if the borrower doesn’t itemize deductions. Depending on the borrower’s tax bracket, this can be the equivalent of cutting interest rates by a quarter (25%).
• Sign up for auto-debit. Borrowers who sign up for auto-debit agree to have the monthly loan payments automatically transferred from their back account to the loan servicer. Many lenders offer a slight interest rate reduction, typically by 0.25% or 0.50%, as an incentive.

Note that cutting your interest rate in half will not cut your monthly payments in half. This is a common myth. Even if your interest rate were zero, you’ll still have to repay the principal balance of the loan. For example, cutting the interest rate in half on a 6.8% loan will reduce the monthly payment by about 14% on a 10-year repayment term and about 25% on a 20-year repayment term. The monthly loan payments on a 10-year, $35,000 loan are $402.78 at 6.8% and $344.46 at 3.4%, yielding only about $58 in monthly savings. The percentage reduction in the monthly loan payment is about double the interest rate on a 10-year term (plus or minus a few percentage points) and twice that on a 20-year term.