More than ever, Americans are pursuing advanced degrees. The decision to pursue a graduate degree is fraught with questions, not the least of which is how to reduce student loan debt.
It starts with figuring out what to do with all those undergrad loans before taking on even more. Refinancing your undergrad loans is one potential option. But before you make that move, it pays to know if it makes sense for you.
The Pros and Cons of Refinancing Student Loans Before Grad School
In general, federal student loans offer advantages over private ones. These include lower interest rates for most borrowers, more generous deferment and forbearance terms, and extensive options for repaying your student loans.
However, refinancing can offer lower interest rates for creditworthy borrowers. And that could mean you end up paying back less overall. So the decision of whether to pursue refinancing requires carefully weighing all the pros and cons.
Pros of Refinancing Student Loans
If you can qualify for a refinance loan, the perks available from the best private student loan companies can help you better manage your debt.
1. You May Repay Less Over the Life of Your Loan
The No. 1 reason to refinance your undergraduate student loans is to get a lower student loan interest rate. Private lenders compete for your business, which means you could beat the fixed interest rate on your federal loans, especially if you borrowed during a high-interest year.
Each year, Congress establishes federal student loan interest rates of not more than 8.25%. Your interest rate never changes throughout the life of the loan, even if you consolidate. So refinancing is the only way to lower that interest rate.
And for many graduates, a lower interest rate can save significant money over the life of your loan. For example, if you graduate with a debt total of $27,000 and repay over 10 years at 5% interest, your student debt will cost you over $7,000 in interest. But if you can refinance at 3%, you only pay about $4,000.
Whether or not refinancing gives you a lower rate depends on what year you borrow. For example, the federal subsidized student loan interest rate during the 2020-21 academic year was 2.75%. But for the 2018-19 academic year, it was 5.045%.
So if you qualify for a fixed interest rate of 3%, you lower your interest rate for the 2018-19 academic year but raise it for 2020-21.
2. You May Lower Your Monthly Payment
If you refinance federal student loans, you lose access to federal repayment options, many of which offer better solutions for lowering your monthly payments.
For example, the government automatically defers your student loans while you’re enrolled in school at least half-time. That means you can pay whatever you can afford during school, even if that amount is zero.
But if you have private student loans, you may not have the option of deferring them for grad school. You may not even have flexible repayment options. In that case, refinancing can help make them more manageable if you can score a lower interest rate.
For example, say you borrowed $27,000 in private loans for your undergrad education at 7%. On a 10-year repayment plan, the monthly payment is $313. But if you can refinance at 3%, your monthly payment drops to $261 — a difference of $52.
Some private student loans have interest rates as high as 12% or more. So the higher your starting rate and the lower your refinance rate, the more money you save. Play around with online calculators to see what kinds of payments you can get at what interest rates.
3. You May Be Able to Repay Your Loans Faster
A lower interest rate doesn’t just mean saving money. It also means you can potentially pay off your student loans faster. Even though the payments go down if you have a lower interest rate and don’t opt for a longer-term loan, you can keep making the same payments.
That way, more goes toward knocking out the principal balance. And that results in a shorter repayment duration.
For example, if you refinance a 10-year, 5% interest $27,000 loan at 3% interest for the same 10-year term, your new payment is $261 as opposed to the original loan’s $286. As long as you continue paying $286 on the refinanced loan, you can pay your loan off one year ahead of schedule
That makes refinancing an especially good strategy if you plan to work for a few years to put everything you can toward your undergrad loans before starting grad school. The lower interest rate helps anything extra you can put toward your loans go even further.
Cons of Refinancing Student Loans
While the lower interest rates of private refinance loans can help students pay off their debt more quickly, they aren’t without significant drawbacks.
1. It Requires Excellent Credit or a Co-Signer
Anyone with a credit score under 700 need not apply, as you won’t get offered a decent interest rate with a lower score. That could leave out borrowers just graduating with their undergrad degrees who haven’t yet had time to build a credit history.
Even if you haven’t gotten into credit trouble, undergrad student loans affect your credit score by influencing your debt-to-income ratio. And the best rates — the whole reason for refinancing — are reserved for only the most creditworthy borrowers, which means you could need a co-signer to qualify.
2. Interest Accrues While You’re in Grad School
If you have subsidized federal or Perkins loans, the government covers their interest during periods of academic deferment. So if you refinance those loans into a private loan, you lose that benefit. And even a very low interest rate can’t compete with no interest rate.
It’s less of a downside if you have unsubsidized federal loans, which also accrue interest.
3. You May Have to Make Payments During Grad School
While some refinance lenders offer in-school deferment, many don’t. And even those that do may have far shorter allowable deferment terms than you need to complete a typical grad program.
For example, while a master’s degree requires two years of coursework, some lenders only offer 12 months of total deferment. That means you could be stuck paying them on top of paying your grad school tuition by the second year. Government deferment programs are much more generous.
4. You Have Fewer Options if You Face Sudden Economic Hardship
Unfortunately, the future is highly unpredictable. And even if you’re expecting a well-paying future career, periods of unemployment can still happen.
But if you refinance your federal student loans with a private lender, you no longer have federal loans. And that means you lose access to their extensive allowances for economic hardship deferment and forbearance.
While some lenders have economic hardship provisions, they’re often for very short periods. And they’re typically lumped together with all reasons for deferment. That means if you have 12 total months of deferment and you use it up for in-school deferment, you won’t have any remaining if you fall on hard times.
However, the government doesn’t lump all reasons for deferment together. And their forbearance allowances are virtually unlimited.
5. You Have Fewer Options if You Make Less Money Than Expected
In a perfect world, your graduate degree will drastically increase your income. But grad school might not land you that well-paying career you dreamed of. And if you refinance your federal loans with a private lender, you lose access to the government’s extensive repayment options.
That includes all the income-driven repayment plans, which cap your payments at a certain percentage of your income. So if you are underemployed (or even unemployed), your monthly payment could be as low as $0.
And you still qualify for forgiveness of any remaining loan balance after the required number of payments, even if those payments are zero. That option isn’t available with private loans.
6. You Lose Access to Student Loan Forgiveness
The government allows you to enroll in an income-driven repayment plan then forgives any remaining debt after you make the required number of payments.
Granted, most students never have a high enough debt relative to their income to have any balance remaining after the required 20 to 25 years of payments. And that means forgiveness may not be worth it.
But high-amount (over $100,000) borrowers like many graduate students are exactly the ones who could benefit from forgiveness. There’s no such thing as loan forgiveness from a private lender.
7. You Lose Access to Public Service Loan Forgiveness
Your federal student loan balance could be gone in as few as 10 years of income-based payments if you qualify for public service loan forgiveness.
If you decide to work in a nonprofit or public-sector job like teaching, public health, social work, or public defense, you could have any outstanding balance remaining on your loans forgiven after 10 years of qualifying work.
Although public-service forgiveness has come under fire in recent years for denying the vast majority of applicants who believe they’ve qualified, there’s a reason for hope.
In May 2021, the Biden administration announced ongoing plans to review and overhaul all the federal student loan repayment, cancellation, discharge, and forgiveness programs, including public service loan forgiveness, to better benefit borrowers.
For the best chance at receiving public-service forgiveness, fill out an employment certification form annually and every time you change jobs. Additionally, once you reach 120 qualifying payments, you must complete a forgiveness application.
8. You Lose Access to Perkins Loan Cancellation
Although the federal Perkins loan program expired in 2017, if you have one, working in a qualifying career like teaching, nursing, or law enforcement can result in loan cancellation after a certain number of years. See StudentAid.gov for more details.
9. You May Limit Your Career Options
Because you won’t have access to the vast array of federal repayment and forgiveness options, your career choices may be limited.
Some students enroll in grad school to further their passions, but those passions aren’t always well-paying — such as teaching. And if you lose access to options like public-service loan forgiveness, you might have to give up your aspirations to pursue something with a higher income just to deal with the debt.
According to a 2015 study by American Student Assistance, student debt influenced the career choices of more than half of borrowers. So anything that gives you more options to mitigate it is likely to have a greater impact on your career trajectory.
The Verdict: Should You Refinance Your Undergraduate Loans?
Although there’s a long list of cons when it comes to refinancing your student loans, that doesn’t mean it’s necessarily wrong for you.
Refinance Your Undergrad Loans Before Grad School If…
- You Can Get a Lower Interest Rate. All the benefits of refinancing stem from saving money by paying less interest. So only refinance if you can.
- You Can Manage the Payments. If you refinance federal loans, you lose access to automatic in-school deferment, so only refinance if you know you can afford the payments.
- Saving Money Is More Important Than Suspending Payments. You will save money if you refinance your student loans as long as you stick with a standard 10-year time frame. The lower interest rate will result in less money paid back over the life of the loan.
- You Want to Pay Off Your Loans as Fast as Possible. If you refinance at a lower interest rate and make as large a monthly payment as possible, you could have them paid off in far fewer than the standard 10 years.
Don’t Refinance Your Undergrad Loans Before Grad School If…
- You Won’t Be Able to Make Any Payments While in School. Only federal loans allow enough in-school deferment for all graduate degrees. And you need even more deferment if you’re planning more school, such as medical school or a Ph.D. program.
- You Want to Preserve Access to Government Repayment Programs. Even if your federal loan interest rates are higher, you may still need the government’s generous safety nets later. A private lender expects repayment even if you’re unemployed.
- You Want to Pursue Public Service Loan Forgiveness. If you plan to work in a career field that qualifies for public service loan forgiveness, refinancing takes away that option.
- You Have a Perkins Loan. Perkins loans have multiple options to qualify borrowers for cancellation or discharge, and refinancing these loans means losing access to these options. However, you can always leave any Perkins loans out of a refinance.
Pro Tip: If you’re thinking about refinancing your student loans, start with Credible. They give you the ability to compare multiple lenders at one time. Plus, when you refinance through Credible, Money Crashers readers receive up to a $750 bonus*.
*All bonus payments are by gift card. See terms.
If you opt to refinance, apply with several lenders and compare offers. Look at interest rates, terms and conditions, and total loan costs. It’s best to use a loan comparison site like Credible. It allows you to submit a single application to get offers from multiple lenders without impacting your credit score.
Dealing with student loans can be burdensome, and the prospect of adding even more debt to the pile can feel overwhelming. But understanding all your options and thinking carefully about whether graduate school is worth it can help you manage them. It all comes down to deciding what makes the most financial sense for you.