If you have federal student loans that you're struggling to make payments on, Christmas may come a little early for you this year - in mid-December, the federal government is releasing a new repayment plan, called REPAYE, that may benefit an additional five million undergraduate and graduate student loan borrowers who currently don't qualify for an income-based repayment plan.
The federal government currently offers three income-based repayment plans that borrowers can enroll in if they meet certain requirements, typically regarding their financial ability to make repayments.
About 40 million Americans have open student debt totaling over $1.2 trillion, and the majority of these loans (over 90 percent) are Stafford loans offered through the Department of Education's Direct Loan Program.
Here at Credit Karma, we see the severity of this problem reflected among our own members: 12.4 million Credit Karma members have student loan debt that collectively totals about $350 billion*.
Many of these borrowers may already qualify for an income-based repayment plan -- according to the Government Accountability Office (GAO), the Treasury Department estimates that 51 percent of Direct Loan borrowers were eligible for an income-based repayment plan in September 2012 (the latest data available). However, as of September 2014, only 13 percent of those borrowers were participating in the program.
Having a hard time making your monthly payments? The new changes might increase your chance of qualifying for a plan that can help reduce those payments. However, you should seriously consider your options before switching plans, as you may pay more on your loan over time.
What is REPAYE?
The Revised Pay As You Earn (REPAYE) repayment plan is similar to the current Pay As You Earn (PAYE) repayment plan -- with one key difference.
Until now, in order to qualify for the PAYE plan, you needed to have taken out your loan on or after Oct. 1, 2007. With the REPAYE plan, it no longer matters when you took out your Direct Loan, as long as you meet the other criteria for qualifying for a PAYE plan.
The eligibility criteria for the REPAYE plan include:
- You must have a partial financial hardship. According to the government, you may qualify if the annual amount due on your student loans (as calculated under a standard 10-year repayment plan) exceeds 15 percent of your discretionary income (we'll show you how to calculate this below).
- You must have a Direct Loan program loan (Parent PLUS loans aren't eligible).
The pros and cons of income-based repayment plans.
Of course, not everyone will qualify for this plan. However, if you have a relatively low annual income and your monthly student loan payments are proportionally high, the REPAYE plan might be a good fit for you.
The biggest benefit of the REPAYE (and PAYE) plan is that you can make lower monthly payments than with a standard Direct Loan repayment plan. REPAYE repayments are capped at 10 percent of your discretionary income, so this may free up some of your income for other expenses, debts or savings plans.
Loan forgiveness also applies to REPAYE plans - outstanding debt on undergraduate loans will be forgiven after 20 years, and graduate loans will be forgiven after 25 years. However, remember that this doesn't mean you're home free - you may still have to pay income tax on the outstanding amount.
There are also some potential cons to consider before signing up for this plan:
- The length of your loan repayment may increase.
- If the length of your loan repayment does increase, you may pay more in interest overall - and this can add up to thousands of dollars, depending on the amount of your loans. For example, if you have a 10-year $35,000 Direct Loan with a 4.29 percent interest rate, your total repayment cost for the standard plan would be $43,124 (assuming you're single and you make a consistent $359 monthly payments.) Over twenty years on the REPAYE plan, on the other hand, you'd repay a total of $54,166. That's over $10,000 more in interest.
- In order to continue qualifying for the plan, you must submit income information annually to your loan servicer. Your repayment amounts may fluctuate depending on how much you earn.
How to calculate your discretionary income.
To calculate your discretionary income and see whether or not you may qualify for the REPAYE plan, follow these steps:
- Find the poverty guideline for your family size in your state. As of 2015, the poverty guideline for a single person in 48 states and the District of Columbia is $11,770.
- Multiply the poverty guideline by 150 percent. In this example, $11,770 x 150% = $17,655.
- If you're single, subtract this number from your annual gross income. So, for example, if you earn $30,000 annually, your discretionary income is $30,000 - $17,655 = $12,345.
- Find your annual loan payment. Using the $35,000 loan example from the section above, your monthly payment on the standard plan is $359. Multiply this total by 12 and you get $4,308.
- Calculate the annual payment as a percentage of your discretionary income: $4,308/$12,345 x 100 = 35%.
In the example above, this person may qualify for the the REPAYE plan, as his annual loan repayments under the standard plan far exceed 15 percent of his discretionary income, thus qualifying as a "partial financial hardship."
As student loan debt continues to balloon, it's welcome news when more repayments options are made available for people who -- for a multitude of reasons -- may struggle to make their monthly payments on their loans.
However, even if you now qualify for an income-based repayment plan under the new guidelines, make sure you do your research before committing to switching plans, as you may end up spending thousands of dollars more over the lifetime of your loan. Federal Student Aid provides a calculator that allows you to calculate how much you may repay in total under the various plans, and you can learn more about the other federal payment plans available at studentaid.ed.gov.
*Based on the latest available credit report information of over 40 million Credit Karma members.
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