Guiding student loan borrowers through the financial crisis presents financial planners with several challenges.
Borrowers may have the chance to take advantage of lower interest rates, but some of these strategies come with additional risks.
Most planners should be able to direct their clients to options that take advantage of interest savings opportunities. These options should be available to nearly all federal borrowers and most private loan borrowers.
Federal Interest Rates at 0% for Most
The CARES Act specifies that most federal student loan borrowers will have 0% interest until September 30, 2020. During this time, borrowers are not required to make payments. However, some borrowers are choosing to make payments to put a dent in their principal balance.
Borrowers are not required to take any steps to enroll in the 0% interest rate or payment deferment. However, removing automated payments may be necessary.
There has been some conversation about extending the payment freeze into 2021. Due to the politics of the situation, there is a good chance that the 0% interest rate will be extended.
Getting Conservative on Student Loans
Like most other aspects of financial planning, many clients will want to get conservative during the financial and economic turmoil.
While some borrowers are using the 0% federal interest rates as an opportunity to reduce their balance, a better approach may be to set aside the extra payments in a high-yield savings account. The interest generated is of some value, but the real benefit is having the money available in the event of a job loss or furlough. The funds earmarked for student loan payments can serve as an added financial reserve during the Coronavirus crisis.
Help from Private Lenders
Some lenders have contracts that specifically provide relief for borrowers impacted by a declared national emergency. As of March 13, Coronavirus has been a declared national emergency.
The loan contracts that do have national emergency protections will usually provide borrowers with extended deferments or forbearances. Even though interest will continue to accrue in most cases, the national emergency provisions may provide borrowers with an opportunity to build up their emergency fund or attend to essential matters such as food, housing, and utilities.
Other lenders also have specialty programs for borrowers who have fallen behind, such as the Navient Rate Reduction Program. These programs are not advertised, and enrollment can be a challenge. However, in some cases, borrowers may be able to secure a temporary lower interest rate while they deal with a financial hardship.
Refinancing Requires Little Analysis
Traditionally, the decision to refinance federal student loans has been somewhat complicated. Planners needed to balance the major benefit of refinancing, lower interest rates, against the federal perks that the borrower would be losing. These federal perks include income-driven repayment plans and student loan forgiveness.
During Covid-19, the analysis is far more straightforward. Don’t refinance federal student loans. No refinance lender will be able to match the 0% rate offered by the federal government. Additionally, federal protections are especially valuable when there is a risk of unemployment and prolonged joblessness.
However, Refinancing should be seriously considered by borrowers who have high-interest private loans. Refinancing these loans at a lower interest rate can help in two ways. First, securing a lower interest rate means less spending on interest over the life of the loan. Second, opting for a longer repayment plan provides borrowers more flexibility during an uncertain time.
At present, rates are near historic lows, so borrowers will likely benefit from opting for a fixed-rate loan.
The complicating factor for refinancing is the fact that some lenders have struggled with liquidity at times during the pandemic. For this reason, borrowers should be encouraged to check rates with several different lenders. An applicant with a strong credit profile may be offered an abysmal rate due to limited funding for the lender.
Final Thought: Facing the Hard Questions
The many changes caused by Covid-19 may present clients with unique challenges and unique opportunities.
If you have a client with a challenging decision, feel free to send me an email to chat. While I don’t take individual clients, I’m always happy to answer questions via email. These conversations can be very helpful to readers, and they often provide ideas for new and useful content on this site.