Student loan refinancing could make a big comeback, now that interest and repayments on federal student loans are set to restart after a pause of more than three years. However, refinancing isn't the best option for all borrowers, and that's especially true if your credit score isn't great.
In this article, we'll go through how your credit score affects your interest rate when refinancing, and the other important things you need to consider before deciding if refinancing is right for you.
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Student loan refinancing and your credit score
There's no set formula that says what kind of interest rate you'll get on a student loan refinancing with a specific credit score. But unlike with federal student loans, your credit score will certainly be a factor in the approval process.
Just to name a couple of real-world examples, as of this writing SoFi (NASDAQ: SOFI) currently offers student loan refinancing with fixed interest rates ranging from 4.99% to 9.99%, with the lowest rates going to the most creditworthy borrowers. Discover (NYSE: DFS) offers refinancing with APRs from 5.99% to 9.99% for fixed-rate loans. Other major refinancers are in the same ballpark.
So, while there's no way to know exactly what your interest rate will be until you apply, it's fair to say that if you have a below-average credit score, your APR will likely be on the higher end of your lender's range – if you are approved at all.
However, it's also worth noting that most student loan refinancing companies allow borrowers to add a co-signer, and this could be a smart way to get a lower interest rate.
Can you lower your interest rate by refinancing your student loans?
The short answer is "probably not" if you have a bad credit score and federal student loans. Ever since federal student loans adopted fixed interest rates (about 17 years ago), the highest APR they've had was 6.8%, with many years featuring far lower rates. So, unless you have a relatively high interest rate on your federal student loans and can qualify for a lender's best rates, you're unlikely to get a lower rate than you currently have.
On the other hand, if you have private student loans you're looking to refinance, it's a different story. Depending on what your original interest rates were on private loans, you could certainly end up saving money by refinancing, especially if you don't have a bad credit score. Plus, if you're refinancing private loans, you won't have to worry about the drawbacks mentioned in the next section.
It isn't just about the interest rate
While bad credit can certainly impact your ability to refinance your student loans through a private lender, it's also important to think about whether you should consider refinancing at all. As mentioned, if you're refinancing private student loans, you don't have to worry about this section. But if you have federal student loans that you're thinking of refinancing, it's important to know the advantages you'll be giving up if you do.
In a nutshell, federal student loans are perhaps the most flexible type of debt there is. First and foremost, federal loans qualify for income-driven repayment, meaning that your required monthly payment can be as little as $0, depending on how much you make.
There are also loan forgiveness programs. Even if the Biden Administration's plan to forgive as much as $20,000 in student loan debt per borrower is rejected by the Supreme Court, there is still the Public Service Loan Forgiveness (PSLF) program, teacher loan forgiveness, and the forgiveness of any remaining balance after 20 or 25 years in an income-driven repayment program. If you refinance with a private lender, you won't be eligible for these programs.
Federal student loans are also more flexible if you have trouble paying. It's fairly easy to get a deferment or forbearance period of up to three years with federal loans, and while private student loans often have some feature that allows you to postpone repayment, it's not likely to be anywhere near as flexible as federal loans are.
Who should look into student loan refinancing?
The point is that student loan refinancing is generally most appropriate for people who fit into one or more of these categories:
- Borrowers who make too much to benefit from income-driven repayment.
- Borrowers who don't anticipate being able to qualify for any loan forgiveness.
- Borrowers with high credit scores, who can get a lender's best rates (or close to it).
That said, if your credit score isn't stellar, there's still no harm in looking. Many lenders will allow you to check your student loan refinancing interest rates and loan terms with no impact to your credit score. However, borrowers with bad credit scores are generally unlikely to benefit from refinancing, and that's especially true in the relatively high-interest environment we're in now.
