Refinancing Student Loans: How Does it Work?

Refinancing student loans can allow you to save money by giving you access to a new loan. Find out what refinancing is, how it works and if it’s the right option for you.

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Last Updated: 8/5/2022
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A student loan refinance involves taking out a new loan to pay off existing loans. It’s a way to consolidate student debt. Refinancing potentially lets you get a loan with better terms. For instance, shopping for a new loan may help you find lower interest rates, allowing you to save money.

Lenders typically require certain documents and personal information when you apply for a loan refinance. These include your Social Security number, proof of income, government-issued ID and federal or private student loan statements. You may also have to meet credit score, credit history, income and debt-to-income (DTI) ratio requirements.

Student loans can help you pay for your college education. However, they can leave you with considerable debt. A student loan refinance can help you manage the debt. That said, it may not always be the best option for you.

Key Takeaways

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Refinancing student loans is a strategy for borrowers looking to replace existing loans with a new loan. Refinancing allows a borrower to pay off existing student loans so that they end up with a single loan.

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Finding the right student loan refinance option can benefit a borrower. It can reduce the total amount of interest due or reduce monthly payments. In some cases, a refinance can extend repayment terms.

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Requirements for a student loan refinance vary per lender. You must meet minimum credit score, credit history, income and debt-to-income (DTI) ratio requirements. You may also need to provide personal information and supporting documents.

What Is Student Loan Refinancing?

The total student loan debt in the country reached $1.76 trillion in 2021. On average, student loan debt per borrower was $37,693.

Student loans help cover education expenses. However, paying off a student loan can take an average of 20 years. For professional graduates, it takes up to 45 years on average.

To better manage their student loans, many borrowers opt to refinance. There are various reasons why a borrower may choose this strategy. In most cases, it’s to take advantage of lower interest rates and save more in the long run.

If you have multiple student loans, a student loan refinance can consolidate them so that you’ll owe money from only one lender. In this circumstance, refinancing can be a beneficial option. However, it’s not always ideal for all borrowers. Generally, it’s best for borrowers locked into high monthly payments or with high interest rates on their student loans.

Before deciding on refinancing student loans, it’s important to understand the possible consequences. For instance, you may lose your eligibility for federal student loan forgiveness. Repayment terms may also be less flexible.

Whether refinancing is the right option for you or not will depend on your circumstances and needs. It’s smart to compare your options and weigh the pros and cons. If student loan refinancing offers you more benefits than drawbacks, it may be a good choice. However, if the cons outweigh the pros, you may have to look for other options.

Understanding how student loan refinancing works can help you make wise financial decisions.

Pros & Cons of a Student Loan Refinance

When making financial decisions like whether to refinance student loans, it’s important to weigh the benefits and drawbacks. This will help you find the best solution to manage your finances and loan obligations.

Advantages of a Student Loan Refinance
  • Potential for lower interest rates: Refinancing can give you access to a new loan with much lower interest rates, helping you save money over time.
  • Ability to remove a co-signer: A student loan refinance is a way to release a co-signer. That’s because you’re technically replacing your existing loans with a new one.
  • Fewer monthly repayments: Refinancing may give you a shorter loan term. While this can increase monthly dues, it can help you pay off your debt faster. In the long run, it can also save you more in interest.
  • Lower monthly payments: Alternatively, you can get a longer repayment term. While you have to pay off your debt for a longer time, it can result in more manageable monthly payments.
  • Single monthly payment: Borrowers can use a student loan refinance to pay off all their existing student loans. That means you’ll end up owing only one lender. This makes it easier to manage your monthly payments.
Disadvantages of a Student Loan Refinance
  • Losing the potential for student loan forgiveness programs: Individuals with federal student loans may be eligible for a forgiveness program. Borrowers who choose to work in the public sector or a qualifying nonprofit organization can have their loan balance forgiven. Refinancing your student loans can remove the protections and benefits of federal student loans.
  • Losing the potential for repayment programs: Borrowers with a federal loan may qualify for certain repayment protections, such as an income-driven repayment plan, deferment or forbearance. You may lose eligibility for these programs by getting a student loan refinance.
  • Strict qualifications: Eligibility requirements for loans vary per lender, but it’s often difficult to secure a student loan refinance. Lenders often require high income levels and credit scores.
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SHOULD YOU REFINANCE YOUR STUDENT LOAN?

Refinancing student loans isn’t always the best solution for all types of borrowers. Here are some instances when this option makes sense:

  • You can get better loan terms through a new lender that can potentially save you money.
  • You have both a federal and private student loan and want to combine them for easier payments.
  • You can afford to pay off your student loan debt with a shorter repayment term.
  • You can get much lower interest rates.

Generally, a good step in determining if you should refinance student loans is looking at the pros and cons.

Eligibility Requirements for Refinancing Student Loans

Generally, the qualification requirements for refinancing student loans depend on the lender. Aside from personal information and documents, like your Social Security number, proof of income, government-issued ID and federal or private student loan statements, you must also meet the minimum required credit score, credit history, income and DTI ratio requirements.

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CREDIT SCORE

Your credit score is an important consideration when applying for a loan. While the minimum score requirement may vary per lender, it’s usually about 650. You may still find lenders approving borrowers' applications with lower credit scores.

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CREDIT HISTORY

There may also be credit history requirements. Most lenders will evaluate the length of your credit history. They’ll check for negative remarks, collection accounts, payments history, open loans and revolving credit accounts.

If you want to know your credit history, you can request a report at AnnualCreditReport.com.

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STABLE INCOME

A stable income may be necessary for you to qualify for a student loan refinance. While refinancing allows you to simplify multiple loans, it doesn’t remove your debt. You’ll still have to make loan repayments monthly.

Find out whether the lender has a minimum annual income requirement. The specific amount varies per lender.

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DEBT-TO-INCOME (DTI) RATIO

DTI ratio refers to the measurement of an individual’s debt in relation to their income. It gives lenders an idea of how much of the borrower’s income is used to pay off debts. Ideally, you should have a DTI ratio below 50%. Having a lower DTI can improve your chances of qualifying for a loan. A lower DTI means you have more cash to keep up with your expenses.

How to Refinance Student Loans

If you think that refinancing your student loans is right for you, make sure you understand the steps you need to find the best loan offer for you. Below is a simple breakdown of the steps you may need to complete.

1

Check your credit score and eligibility

Not all borrowers qualify for student loan refinancing. Before applying for a new loan, make sure you meet the eligibility requirements. Typically, you’ll need a credit score of 650 or better. That said, you may find lenders that accept lower credit scores.

2

Assess the current terms of your student loans

Review your current student loans. Determine whether refinancing student loans is the right decision. For instance, you may want to reconsider if you’re eligible for loan forgiveness, income-driven repayment programs, forbearance or deferment.

If refinancing offers you better terms and interest rates, you may benefit in the long run.

3

Shop for lenders and get estimates

It pays to shop around. Each lender has different requirements and offers. Check interest rates, loan terms and forbearance policies. Researching lenders may also help you find a good option.

4

Get prequalified from your top options

Narrow down your options. Then, find out if you can prequalify. Some lenders have this feature on their websites. You just have to input basic information to see what loan offers are available to you. Prequalification usually involves a soft credit check, which doesn’t impact your credit score.

5

Pick a lender and loan terms

Weigh your options well. Determine which lender offers the best terms and rates based on your circumstances and needs.

6

Complete the application process

Once you’ve chosen a lender, the next step is to apply. Steps may vary depending on the lender. Typically, you’ll need to submit a completed application containing personal information about you and a co-signer, if you have one.

If the lender approves your loan application, you’ll likely receive a copy of the loan document. Review this properly. If everything is in order, sign the paperwork and send it back to the lender.

7

Keep up with loan payments until funds are disbursed

Wait for the disbursement of the loan amount. While waiting, make sure you continue making payments to your existing loan servicers or lenders.

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IMPORTANT QUESTIONS TO ASK LENDERS

Similar to choosing a student loan, one of the most important steps in refinancing student loans is comparing lenders. It may also help to ask the following questions:

  • What fees do you charge for a student loan refinance?
  • Do you offer a co-signer release option?
  • How much do I have to pay in monthly payments?
  • What types of interest rates are available?

When searching for the best loan option, shopping around and comparing offers from multiple lenders is always a good idea.

Frequently Asked Questions About Refinancing Student Loans

Understanding what’s involved in refinancing student loans can help you make well-informed financial decisions. MoneyGeek answers some frequently asked questions to provide more insights on the topic.

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