Last week when I wrote to you about taking out loans for school I didn’t get to cover all the issues. My focus last week was explaining why parents shouldn’t forget about funding their retirement when trying to save for their child’s college education.
This week I’d like to tackle the student loan issue from the student’s perspective. Two thirds of our nation’s children graduate from college with student loan debt. And for the first time, student loan debt has passed the $1 trillion mark, surpassing credit card and auto loan debt Americans have.
What’s making this crisis even worse, is that if Congress doesn’t act fast. On July 1st legislation that gradually lowered federal student loan interest rates from 6.8 percent to 3.4 percent will expire. All college loans attained after that date will do so at the higher interest rate. That will add an additional $11,000 burden to student’s loans over the course of a 20 year repayment plan.
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This couldn’t come at a worse time for our nation’s youngsters. Record numbers of them have been applying for federal student loans. The number of students applying for financial aid increased from 12.9 million in 2006-07 to nearly 19.5 million in 2010-11, according to the National Association of Student Financial Aid Administrators.
That’s why I felt it poignant to keep with this topic this week and take a look at the repayment plans of student loans. In fact I found several ways you can reduce the amount of interest you pay over the life of your loan and in some cases even wipe out large portions of it entirely!
To ensure you have a firm handle on your student loan debt you’ve got to know how much you have. Most graduates have more than one loan. If you don’t know how much you have to pay back and to whom, then check out the National Student Loan Data System. Log in to get a read-out of all the federal loans you have, the loan amounts and the repayment status. This database will not show any private loans you took out. For information regarding those loans contact your school for records or get a copy of your credit report (access this report for free once a year at annualcreditreport.com).
Once you’ve got all this information written down in one place you can pick out the best repayment option based on your situation. There are four major repayment options.
* The Standard Loan Repayment Plan
This plan is the fastest way to pay off your student loans, it also represents the option in which you’d pay the least amount in interest. You’re required to pay at least $50 a month and payments can be spread out over a maximum of 10 years.
* The Extended Repayment Option
This is the option that most borrowers choose. It has the same requirements as The Standard Loan Repayment plan (minimum of $50 a month payments), but allows you to spread out your payments over 12 to 30 years instead.
* The Graduated Repayment Program
Under this repayment plan you can spread your payments out over the coveted 12 to 30 year time span. In addition the monthly minimum payment drops to just $25. While this may seem like an even better option, remember one thing: the longer you draw out the repayment plan, the more you pay in the long run.
* The Income-Contingent Repayment Plan
Just like the name implies, your payments are based on your income, as well as your family size and total amount borrowed. The maximum repayment period is 25 years. After 25 years, any remaining debt will be wiped away. This option is generally reserved for students who intend to pursue jobs with lower salaries, such as careers in public service.
When your federal loans come due, your loan payments will automatically be based on a standard 10-year repayment plan. If the standard payment is going to be hard for you to cover, you can change plans down the line.
When picking a repayment plan, check the box that takes payments automatically out of your bank account each month. You’ll never incur a late fee and, better still, paying federal loans this way gets you a 0.25% interest rate reduction. Private lenders may give you a similar break.
The cheapest way to get out of student loan debt is to pay more than the minimum payment each month. By paying more than the minimum each month, the extra money goes directly towards your principal, which will reduce the amount of interest you have to pay over the life of the loan.
You can further reduce the amount you pay back by paying off the loans with the highest interest rate first. Apply any extra payments to these loans first. If you have private loans in addition to federal loans, start with your private loans. They almost always carry higher interest rates and lack the flexible repayment options and other protections of federal loans.
For those of you interested in shaving off big chunks of your student loans, there are a number of programs to look into. Serving for 12 months in the AmeriCorps will net you $7400 in income and $4,725 to be used towards your loans. Volunteers in the Peace Corps may apply for deferment of their federal loans and partial cancellation of Perkins Loans (15% for each year of service, up to 70% in total). Those who serve in the Army National Guard may be eligible for up to $10,000 to pay down their student loans.
There are also debt forgiveness programs for students who go into certain fields. Teachers who agree to work in economically depressed areas are eligible to have 15% of their loan for the first and second years forgiven, 20% for the third and fourth and 30% for the fifth. Many law schools forgive student loans debt if they agree to serve in public interest or non-profit positions for a number of years. Doctors and registered nurses can have their student loans forgiven if they agree to practice for a set number of years in areas that lack adequate medical care.
However you choose to pay off your student loans faster and cheaper, always remember one thing: don’t forget about opening a retirement account. As soon as your employer offers enrollment for a 401(k) plan at work, join. If you work for yourself or are a contract employee, open an IRA. The earlier you start saving for retirement, the more money you will net. When it comes to investing, time can literally be money. An investor who opens a retirement account at age 25 and contributes just $100 a month to it, will see his investment grow to nearly $200,000 (assuming a modest 6% rate of return) by age 65. If that same investor waits just five years longer to open a retirement account at age 30, he/she will end up with only $141,745 at age 65-meaning that waiting five years could cost you nearly $60,000.
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