Consolidating student loans involves taking out a new loan, using it to pay off several student loans and then paying off the new loan. If you have several student loans and you’re having trouble keeping track of them, consolidation can help you streamline your loans into one single payment. If you are paying off high-interest private loans you may be able to get a lower interest rate and more favorable payment terms.
Consolidation also has its drawbacks. If you don’t have good credit it may be difficult to get a better interest rate on a consolidation loan. If you have federal student loans you can consolidate with another federal loan, but your interest rate will not drop. Using a private loan to consolidate federal student loans is not usually recommended, as you will lose access to many payment options.
What is Student Loan Consolidation?
Consolidation is the process of taking out a new loan and using it to pay off several old loans, combining multiple loans into one. Consolidation can help you streamline your payments: you’ll only have one payment to worry about each month. If your credit has improved since you took out your student loans you may also be eligible for a better interest rate.
Your approach to consolidation will depend on the type of student loans you have. Federal student loans and private student loans have different characteristics and consolidation has to be approached differently. If you have both federal and private student loans you may have to consolidate them separately.
Consolidating student loans can be helpful in some circumstances, but you’ll need to consider the type of loans you owe and the advantages and disadvantages of consolidation before committing to the strategy. Consolidation cannot be reversed, so think carefully before making a decision.
Consolidating Federal Student Loans
Federal student loans are among the most popular education financing options. Their popularity is driven by a number of unique options:
- Easy approval. Federal student loans don’t require a credit check or a cosigner. Approval is based purely on the Free Application for Federal Student Aid (FAFSA).
- Fixed low-interest rates. Federal student loans usually carry lower interest rates than their private counterparts. The rates are fixed for the term of the loan. Many private loans carry variable interest rates that can rise over the life of the loan.
- Forbearance and deferment options. Federal student loans offer these options, which allow loan holders to stop payments for up to three years if they are under financial stress. The forbearance or deferment period may be interest-free in some circumstances.
- Income-based payment options. Federal student loans offer income-based repayment plans that cap your monthly payment at a fixed percentage of your income.
- More time before a default is declared. Private lenders may declare a default after only a single missed payment. Federal student loans are considered delinquent after three months of non-payment and in default after nine months.
- Forgiveness options. Federal student loans allow forgiveness after ten years for workers in some public service professions.
- Discharge on death or disability. Federal student loans are automatically considered discharged – no further payment is due – if you die or are seriously disabled. Private student lenders may still expect payment.
These advantages are strong reasons to take advantage of federal student loans. If you have several federal student loans, you can consolidate them through the Federal Direct Loan program. The program has both pros and cons.
Advantages of consolidating federal student loans with a Federal Direct Loan include:
- Fewer monthly payments to make. If you’re making several loan payments every month, it’s easy to miss one and fall behind. Consolidation will leave you with just one federal student loan payment every month.
- Easy approval standards. Federal Direct Loans do not require a credit check or have a maximum debt-to-income ratio.
- You retain all the benefits of federal loans. Your consolidation loan is from the federal government, so you retain all the benefits that go with these loans, including access to forbearance, deferment and income-based repayment plans.
- Potentially lower payments if the loan term is extended. Consolidation can extend your loan term, which can make your monthly payment more affordable.
- New time allotments for deferment and forbearance. There is a fixed maximum amount of forbearance and deferment time you can claim on each loan. If you’re already near the maximum on some loans, consolidation with a Federal Direct Loan will reset the clock on forbearance and deferment.
- Parent PLUS borrowers can gain eligibility for income-driven repayment. If you have taken Parent PLUS loans to get your child through college, you cannot use income-driven repayment plans that cap your payment at a percentage of your income. Consolidating your loans with a Federal Direct Loan will get you access to these programs.
- You can choose your loan servicer. A loan servicer is a private company that handles billing, collection, record keeping and all other aspects of your loan. If you’re not happy with your current servicer, consolidation with a Federal Direct Loan will allow you to choose a new one.
Disadvantages of consolidating federal student loans with a Federal Direct Loan include:
- You won’t get a lower interest rate, and you could get a slightly higher one. Federal Direct Loans do not offer a lower interest rate, even if your credit has improved. Your new rate will be the weighted average of the interest rates on your old loans, rounded up to the nearest ⅛ of a percentage point. That rounding could give you a slightly higher rate.
- You might pay more overall if your term is extended. A longer loan term can give you lower monthly payments, but you’ll spend more on interest over the lifetime of the loan.
- You cannot consolidate private loans with a Federal Direct Loan. These loans can only be used to consolidate existing federal student loans.
- You could lose some benefits. If you are working toward Public Service Loan Forgiveness you may not want to consolidate your loans, as a Federal Direct Loan will reset the start of the 10-year waiting period. If you consolidate Federal Perkins Loans you may lose some benefits that are specific to those loans.
Federal student loans can be consolidated with a private loan, but this is generally not recommended, as private loans usually have higher interest rates and you will lose access to all of the advantages of federal student loans.
Some companies may advertise the ability to consolidate federal student loans for a fee. There is no fee for a Federal Direct Loan. You can apply yourself. Use the Federal Direct Loan application page.
Consolidating Private Student Loans
Private student loans do not have most of the advantages that federal student loans offer. When you consolidate private loans, you are replacing several old private loans with one new private loan. This process is also known as refinancing. You will apply with several loan providers and select the best offer comparing the terms of the offer with the terms of your existing loan.
Advantages of consolidating private student loans:
- Fewer payments to make. If you’re paying multiple loans it can be difficult to keep track of the payment schedules. Consolidation combines several loans into a single convenient monthly payment.
- Potentially lower interest rates. If your credit and debt-to-income ratio have improved since you got your private loans you may be able to get a consolidation loan at a substantially lower interest rate. That can save thousands of dollars over the life of the loan.
- Potentially lower monthly payments if your term is extended. If your consolidation loan has a longer term than your original loans your monthly payment will be lower.
- You can release a cosigner. If your original loans have cosigners, you can release them from their obligations by getting a consolidation loan in your own name.
Disadvantages of consolidating private student loans:
- You may not qualify for advantageous terms. Private lenders will check your credit and other qualifying factors. You will need at least good credit, an acceptable debt-to-income ratio, a steady job and an adequate income to get better terms than you have on your existing loans.
- If your repayment term is extended you may pay more, even at a lower rate. A longer loan term means lower monthly payments, but your total interest expense may increase over that longer term, even with a lower interest rate.
- Your new loan may have terms in the fine print that are not advantageous. It’s important to read every word of the loan agreement and compare its terms to those of your existing loans. You may lose a grace period, repayment options or other benefits. Some lenders may offer privileges or discounts if you make on-time payments for a fixed period, and you may lose these if you consolidate your loans. This is a “buyer beware” situation and you need to fully understand what you’re signing before you proceed.
If you have several private loans and you’re having trouble keeping track of the payment schedules, you could be a good candidate for loan consolidation, especially if you have good credit, a steady job with a good income and a good debt-to-income ratio. You’ll have to determine what terms lenders are willing to offer and whether they are a significant improvement over your existing loans.
Student loans can be a significant financial burden. If you have multiple loans keeping your payments organized and scheduled can be as difficult as finding the money to make the payments. Consolidation can solve that problem by combining those loans into a single loan with a single payment. You may also be able to get terms that help you manage your loan more effectively.
Consolidation will not make your loans go away. You’ll still be paying the loan and if you’ve extended your loan term you could end up paying even more, even if you can get a lower interest rate. Consolidation has some advantages for some borrowers, but you’ll need to review the pros and cons carefully to decide whether you’re one of them.