If you have student loan debt, you may be thinking about consolidating your loans. Consolidating involves getting a new loan and using the funds to repay the proceeds of multiple educational debts.
Consolidating of federal student loans can be done through the Department of Education's Direct Consolidation Loans. It's also possible to combine both federal and private loans from different services into one big loan, but that process is called refinance and not consolidation.
There are lots of reasons why you may decide to consider student loan consolidation. Here are four of those reasons.
1. Consolidate to become eligible for more federal borrower protections
Federal student loans have many advantages for borrowers, including income-based repayment plans and Public Service Loan Forgiveness (PSLF) for qualifying borrowers.
Income-based repayment allows you to cap payments on loans at a percentage of income, while Public Service Loan Forgiveness allows you to get your debt forgiven after 120 on-time payments under an income-driven plan if you do public service work.
The problem is, borrowers with certain types of federal student loans such as Parent PLUS Loans, aren't eligible for income-based payment plans. While borrowers with Parent PLUS Loans are technically eligible for PSLF, the standard repayment plan would leave them with no balance on their loans by the time the 120 payments were made.
However, Parent PLUS loans can be consolidated with a Direct Consolidation Loan. This can transform these loans into ones that are eligible for Income-Contingent Repayment. That means that by consolidating, you open up the door to have some educational debt forgiven -- and that's a major benefit.
You should be aware, however, that if you've already made payments towards PSLF and you consolidate loans, you'll have to start over in working on your 120 payments if you consolidate. Any payments made before consolidation will not count.
2. Consolidate to reduce your monthly payments
Your Direct Consolidation Loan also opens up the door to more payment options. With a consolidation loan, you can extend the repayment timeline of your loan for as long as 30 years. This would reduce the amount you're required to pay each month.
Stretching out your repayment over many decades ultimately means you'll end up paying much more in interest because you have to pay interest for many more years. However, if taking this step frees up funds you need for essential goals such as saving for retirement or supporting your family, it may be worth doing.
3. Consolidate to get out of default
Loan rehabilitation is often the best approach if you've fallen behind on federal student loans because it can remove the default from your credit history. However, not everyone with defaulted student loans is eligible for rehabilitation.
If you want to try to get back on track with your loans and can't use student loan rehabilitation or don't want to take the time to try, consolidating could help to get your loans back in good standing.
Just be aware that, unless you make three voluntary on-time payments on defaulted loans before consolidating, you'll be limited in your choice of repayment options for your Direct Consolidation Loan. You'll have to choose one of the income-based payment plans, so the payment on your consolidated loan will be capped at a percentage of income.
4. To change your student loan servicer
Traditionally, another benefit of consolidating student loans was to simplify repayment by combining multiple loans from different loan servicers into one big loan so you'd no longer need to deal with different lending companies. Now, however, it's customary for borrowers to just have one bill for federal loans instead of many.
The problem is, you may not like the loan servicer you've been assigned. If you feel you're getting poor customer service or have been misled by your servicer, you may want to consolidate so someone else will handle your loans.
Since the consolidation process is pretty simple -- it only takes about half an hour to fill out an online application -- and since your interest rate doesn't change when you consolidate (it will be a weighted average of rates on your existing debt) there's no real downside to doing this. Of course, there's also no guarantee you'll like your new loan servicer any better.
Is consolidating right for you?
If your goal is to gain access to more repayment options or to Public Service Loan Forgiveness, consolidation of federal student loans may be the only solution and the best solution.
However, if you want to reduce your interest rate or combine federal and private student loans with just one lender, refinancing may be a better approach. It's important to consider the pros and cons of each option to decide on the best way to manage your educational debt.