evaluating consolidation and ffel options

Mailbag: Loan Repayment During Employment Gaps and FFEL Strategy

Michael Lux Blog, Mailbag, Student Loans 0 Comments

In today’s Sherpa Mailbag we take a look at Jane’s repayment strategy.  She will be starting a PSLF eligible job in a few months and is trying to decide what needs to get done now and what should wait until she is earning a paycheck.  If you have a question about your student loans, send the Sherpa an email.

Jane writes:

Hi,

I have two sets of loans, one FFEL for about $34k and then a set of Direct Loans for $85k  

Currently I have an IBR on the Direct Loans, and am paying my FFEL on a 25 year plan… ugh

Anyway, I just signed a contract at a public university starting this September and it will qualify me for PSLF.  I want to consolidate my FFEL and my Direct Loans so everything is eligible.  When should I do this?  Should I do it now or wait until September when I have paychecks from my new job to use as income verification.  I’m currently in a gap of employment and am considering deferring my loans until  September when I start getting paid again.

Thoughts?

Jane

Student Loan Repayment During an Employment Gap and FFEL Decisions

From Jane’s questions it looks like we have two issues to tackle.  First, what is the best repayment strategy while she waits to receive her first paycheck.  Second, how is she going to handle the FFEL loans?

Loan Repayment Strategy During an Employment Gap

Jane’s current situation is one that initially appears well suited for a deferment.  After all, she isn’t generating an income at present, but in a set period of time she will have an income and be much better suited to making payments.

However, a deferment probably isn’t the best option for Jane given the circumstances of her loans.  Because she is pursuing Public Service Loan Forgiveness, her primary objective should be choosing the repayment route that will have her spend as little as possible.  A deferment would mean spending $0 per month until she gets her job… but if she certifies her income now, it would mean $0 per month for the next 12 months.  For this reason, an immediate income-certification might be the best choice.

[Further Reading: What is a significant change in income and when do I need to re-certify?]

That all being said, the deferment vs. certifying her income now may be a moot question because of Jane’s FFEL issue…

Timing FFEL Consolidation

Jane is consolidating her federal student loans because the FFEL loans that she has are not currently eligible for the Public Service Loan Forgiveness Program.  By consolidating the FFEL loans into a federal direct loan, they become eligible for discharge under the PSLF program.

Generally speaking, FFEL consolidation is something that is best done sooner rather than later.  When Jane’s FFEL loans are combined with her Direct Loan into a Federal Direct Consolidation loan, the countdown to student loan forgiveness starts at zero.  If Jane waits until September, it could take a couple months for the federal direct consolidation process to be completed.  During the time of consolidation Jane is not in repayment and those months will not count towards the 10 years required for PSLF.

By starting consolidation now, Jane achieves a couple of goals.  First, she gives herself a break on monthly payments for what will likely be a couple of months (federal consolidation can be slow).  Second, she ensures that her loans will be in repayment on an eligible repayment plan from the minute she starts her PSLF job.   Making this move will help her get to the 120 certified payment requirement sooner.

Student Loan Interest During an Employment Gap

The big enemy during any employment gap is the interest that accumulates if payments are not being made.  With Jane pursuing PSLF, a tax-free student loan forgiveness route, this isn’t much of an issue.  For nearly all other borrowers, the interest is a real problem.

Unfortunately, there is no way to prevent interest from accruing on a loan.  The good news is that there is one way to minimize the damage on federal loans.

If Jane were to enroll in the Revised Pay As You Earn Plan, the interest would grow at half the normal rate while she was unemployed.  The other income driven repayment plans, such as Income-Based Repayment (IBR) and Pay As You Earn (PAYE) do not have this feature.  As a result REPAYE is often a better option than IBR, PAYE or a deferment.

[Further Reading: Which Income-Driven Repayment Plan is Best]

Those who are pursuing PSLF would still be wise to keep an eye on interest because it is always possible that the private sector will come calling.

Picking a Repayment Strategy for an Employment Gap

In Jane’s case, there is little advantage to waiting to address her federal consolidation or certifying her income.

In most cases, the best way to evaluate the decision is to consider the various options available and then do the math to see which route yields the optimal result.  The temptation is often to pick the option with the lowest monthly payments in the short term, but the goal should always be to reduce total spending whenever possible.