Income-driven repayment plans
If you can’t afford your federal student loan payments on a standard 10-year repayment plan, an income-driven repayment plan may be a smart solution. With IDR, the government looks at your discretionary income and family size to determine your monthly payment. They also extend your repayment term to 20 to 25 years, depending on your loan.
Those changes can result in a significantly lower minimum monthly payment. For borrowers struggling to make ends meet, an IDR plan can provide much-needed relief.
However, under an IDR plan, interest continues to accrue. Because the repayment term is longer, interest has more time to add up and you can end up paying thousands more over the duration of your loan.
Federal interest subsidy
Depending on your income, your monthly payment under an IDR may not be enough to pay off the accrued interest each month. This is called “negative amortization,” meaning your payments are unable to cover interest charges.
Under certain IDR plans, the government provides assistance to borrowers. Depending on which plan you’re on, they may cover all or a portion of your interest charges. That’s a huge help; defraying the interest charges can save you hundreds or even thousands of dollars.
Types of eligible loans
Only certain types of student loans are eligible for income-driven repayment plans and the interest subsidy.
Federal loans that the government distributes to students are eligible in most cases, but there are a few exceptions. FFEL PLUS Loans are only eligible if you consolidate them into a Direct Consolidation Loan.
While the Federal Perkins Loan program came to an end in September 2017, old Perkins Loans are still eligible for income-driven repayment plans as long as you consolidate them into a Direct Consolidation Loan first.
You cannot access the interest subsidy if you have private loans or federal loans made to parents.
IDR plans and interest
Only REPAYE, PAYE, and IBR plans are eligible for a federal interest subsidy. How much the government covers varies from plan to plan.
Revised Pay As You Earn (REPAYE)
Under a REPAYE plan, you have 20 years to repay your loans if you took them out to pay for an undergraduate program. If you borrowed money to pay for graduate school, you have 25 years to repay the debt.
But if you are on a REPAYE repayment plan and your minimum payment doesn’t cover the interest charges, the government will pay all of the interest on your subsidized loans for up to three years. After three years, they will cover 50 percent of the interest fees.
The government will pay half of the remaining interest on your loans if you have unsubsidized federal loans.
For example, if you have a subsidized loan on a REPAYE plan that accrues $40 in monthly interest but your payment only covers $25, the government will help. For the first three years, they will pay the entire $15 difference for you. After three years, they will pay half, or $7.50.
Pay As You Earn (PAYE) and Income-Based Repayment (IBR)
For both PAYE and IBR plans, you have 20 years to repay your debt. If you have loans in a PAYE or IBR plan, the federal interest subsidy works differently.
When your minimum payment does not cover all the interest that accumulates on your subsidized loans, the government will pay your interest fees for three years.
If you have unsubsidized loans, the government will not cover any of the interest fees. The lender will tack on interest charges to your balance and you will be responsible for repaying it.
Income-Contingent Repayment Plan (ICR)
For borrowers on an ICR plan, your loans are not eligible for the federal interest subsidy. When your payment does not cover the full interest charge each month, the government will add the fees to the principal balance.
Understanding your loan terms
Managing your student loans, particularly when you’re on an IDR plan, can be confusing and overwhelming. Understanding the terms of your loan and repayment plan are essential to paying off your debt.
The federal interest subsidy can provide aid to those struggling to keep up with their payments. When the government chips in for interest charges, borrowers can save money and free up more cash flow. Before choosing an IDR plan, evaluate all of your repayment options and choose one that best fits your financial situation.
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