Tips for a successful student loan refinancing application
If you took out a student loan while you were in college and are finding the monthly payments too high, there is a solution for you. Chances are, the lender from whom you borrowed the loan a few years ago gave it to you at a high interest rate. When you were in college, your credit score would have been lower and you probably did not have a full-time high paying job back then. You were a higher credit risk for the lender and hence, you were charged a higher interest rate.
But if you have graduated from college or are about to, you could opt to refinance your student loan. Your credit profile will have changed quite a bit from those early college days. You may now have a stable job, and your credit score may have improved as well. By refinancing, it is possible for you to get the same loan which you currently have at a much lower interest rate. You could be saving a significant amount every month by refinancing your student loan.
Refinancing and consolidation are two terms mentioned quite frequently when student loans are discussed. They are not the same thing, and there are some key differences that you must understand if you hold a student loan.
Direct consolidation loan is a government program which allows a borrower to combine all their federal education loans into a single loan. The interest rate on this new combined loan will be the weighted average of the individual loan interest rates which have been combined to form the new consolidated loan. Consolidation is combining several smaller loans into one single loan.
Refinancing, on the other hand, is very different from consolidation. When you refinance a loan, you essentially get a new loan with a new term and lower interest rate. You replace your old loan with this new loan. On average, it is observed that refinancing a student loan can save up to $20,000 over the life of the loan.
So is it better to refinance a student loan or consolidate the loans?
Re-financing and consolidation are similar. It ultimately boils down to the terms that you are getting for each option. You will want to compare the weighted average or your existing loans against the new interest rate that a refinanced option is giving you. Ultimately, your cash flow needs will influence which option is best for your particular situation.
When is it the right time to refinance my student loan?
If you have private student loans, or if you do not plan to use any federal forgiveness program benefits or income-dependent repayment plan, then refinancing could be a good option. If you feel like your cash flows are strained, or you need some extra cash to pay-off another loan or make an investment, then refinancing could worth a look-in. Refinancing works best when you have a stable job and a few months/years of work history. You can get better loan terms with a rising income. So, if you feel that you are on the cusp of getting a promotion and a raise, then refinancing will work well just after you get your raise.
How to choose the best lender for refinancing?
The interest rate is the key to refinancing. So ideally, you would want to go with the lender with the lowest interest rate. You may also want to look at other factors like availability of deferment or forbearance and flexibility in the repayment plan if your financial situation gets disrupted by an unexpected event. Overall, you must feel comfortable working with the lender. The comfort level and attractive interest rates are things that play a major role in choosing a particular lender to work with.
Also, make sure you look at the APR and loan term very closely. It is entirely possible that your monthly payment will be lower, but you may be paying a higher interest rate which is spread out over a longer term. Simply having a lower monthly payment but paying longer and higher in the long term makes the loan more expensive than what you already have. The whole idea when trying to save money is to try and find a shorter term loan or a loan with the same duration but a lower interest rate. The ideal scenario would be to get a shorter term loan and a lower interest rate.
Will refinancing a student loan cost me any money?
Generally speaking, refinancing should not cost you. Lenders who are reputed and have a long-standing presence in the industry tend to not charge any loan origination fees or any pre-payment penalties. It is quite possible that some debt re-structuring firms may have certain charges and fees related to refinancing. But, that is on a case-by-case basis. Make sure you read all the fine print before you apply for a refinancing online. If the fine print is not clear, then call or email to clarify how the entire refinancing process works with a particular lender.
Will I lose benefits on my federal loan if I refinance with a private lender?
Yes, you will lose some benefits like income-linked payment, forbearance, deferment. You may also lose the right to claim student loan tax deduction which you may have been doing previously. Consult a tax expert on this one if you are unsure how refinancing affects your tax returns.
If you have answered the above questions and have decided to go for a student loan refinancing, then the next question which arises is how do I make sure that my refinancing application is successful?
Student loan lenders and refinancers have very clear and in many cases, strict rules related to underwriting such loans. Since private money is at risk when it is lent out, the student loan lenders will want to safeguard themselves. They will try to make sure that they lend to students who have a fairly high probability of repaying these loans. So, the application process and the documentation is very important. You will want to come across as someone who is reliable and who can be trusted upon. Following are some key pointers that you must keep in mind before making a refinancing application:
- Your credit score: This is the number one metric used in any borrowing and lending transaction. A credit score reflects your financial health and stability. It gives the lender an idea of how trustworthy you are with someone else’s money. A credit score gives a lender an insight into your track record of making payments. A good credit score will suggest that you are good at meeting all your financial obligations. If you have been paying your bills on time, making those credit card payments regularly before the deadline, and have not defaulted on any payment in the past few years, then you should have a good credit score.Anything over 700 is considered excellent, while it is important to at least be in the 600’s in order to not have any trouble with the refinancing application. A credit score also affects the interest rate which you will receive on your loan. A lower credit score means higher risk, hence a higher interest rate. A higher credit score means lower risk, and hence a lower interest rate.
- Your income: There is something banker’s use and it’s called debt service ratio. It is simply the interest or installment divided by your income. The debt service ratio reflects the margin of safety that a particular borrower offers. The lower your debt-to-income ratio, the better it is for you. Your income is one of the first things which will get scrutinized when you apply for refinancing. The lender will want to see sufficiently high income which can not only pay for all your daily and monthly expenses, but also cover the interest or EMI of the new loan which you are seeking.If you have any other expenses or any other debt, then the lender will want to see an income which is capable of covering the interest on that additional debt along with your regular expenses and interest on the new loan. Gather all your pay stubs, your income tax returns, and any other expense and debt details. Make an organized file with all this financial information. If you submit all your documents and records in a systematic manner, your application will move forward quicker. If for some reason, your income is not high enough to meet all the expenses and interest payments, it may be possible for you to get a co-signer with you. This co-signer should have a stronger financial profile than you and by teaming up with a stronger financial profile, you may increase your chances of successfully refinancing your loan. Try to repay existing debt: If you have any car loans, credit card debt, or any other outstanding debt, then try to pay it off before you apply for the refinancing. The interest from all that outstanding debt will eat into your income and leave a lower amount for servicing the refinanced loan. This, in turn, will reduce the amount that you can borrow. So, if you repay your existing debt, then it does not influence the underwriting process and it also reflects well on your credit score. You will come across as someone who can meet financial obligations.
- Employment details: Provide your employment details. That includes a clearly written job offer (if newly employed), or a letter from the employer stating your job position and salary (if already employed). The lender wants to see a proof for the source of your income. That source needs to appear stable and reliable. If you are unemployed or have not yet found a job, then it will be quite challenging for you to refinance your loan. So, try and land a job as soon as you can, and apply for the loan once you have a written offer in hand.
Following the above guidelines should get you well-prepared for submitting a refinancing application. If however for some reason, you are not successful in your refinancing application, then you may want to consider the following:
- Apply to other lenders: Every lender evaluates a loan in a different way. While there are commonly followed guidelines, the entire process is very subjective. One lender may find you unsuitable for refinancing, but another lender will be more than happy to lend you based on the exact same information which you submit. So, to maximize your chances of getting approved for refinancing, you want to try and apply to at least 4-5 lenders. Another benefit of applying to multiple lenders is the ability to negotiate and compare interest rates. Different lenders will offer you different interest rates and other conditions. By having multiple offers on hand, you can pick and choose the best option, or negotiate the inclusion of certain options such as deferment or forbearance. Applying to many lenders will not take up significantly more time from your schedule because the information that you need to gather will be more or less the same. The same application file, bar a few changes, will most probably work with most lenders.
- Double check your documentation: Sometimes, your document may have an error on it. It could be a calculation mistake or an incorrect credit report. Whatever it is, spotting an error and getting it rectified can improve your chances of turning an unsuccessful refinancing application into a successful one. If you do get turned down, then go through every single document. Check all the details and the numbers to make sure that nothing has been missed or misreported. If you are not happy with your credit report, then get it from another source. Get two or three credit reports, as you want to make sure they all are consistent.
- Enhance your income: If a low income turns out to be the stumbling block in your refinancing application, then try to think of ways to enhance your income. One way you can do this is by seeking a raise from your boss. If you are in good standing with your manager and work team, then you can always seek a higher role with more responsibility. This will lead to an increased salary. Alternatively, you can seek freelancing projects on the side. Work on the weekends or in the evenings and try to create some extra income, which will get you over the line in your refinancing application. You may also take up a part-time job to get additional income.
- Co-signer: If you have tried all of the above options, and are still not able to get approved for a student loan refinancing, it may be time to get a co-signer to sign the loan with you. A co-signer is someone who guarantees the loan in case the primary borrower defaults. Normally, students will ask their parents, relatives, or friends to be co-signers for their student loans. If you are planning to do the same, think about who you will approach. The co-signer will take the risk which you are not able to, and that is the ability to repay the student loan. If things do not go as planned, then it has the potential to ruin personal relationships. If you are asking someone to be a co-signer, first understand all the terms and conditions regarding the co-signing. Make sure that your co-signer knows and understands those conditions. It is absolutely essential that the co-signer is well-informed and knows exactly what they are signing up for. Once you have all the information, sit down with your co-signer and have a serious talk with them about you wanting them to be your co-signer.
All the above steps should make you well-informed about the entire student loan refinancing process. You will have a good understanding of when to go for refinancing and what kind of person is the right fit for refinancing of student loans. You can start preparing right away using the guidelines above. However, it will be even better if you have someone to guide you along the way.