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Should I Pick a 5, 10, 15 or 20 Year Student Loan Refinance?

Michael Lux Blog, Refinance, Strategy, Student Loans 0 Comments

When you refinance your student loans, one of the biggest decisions to make is on repayment length.  Most companies offer 5, 10, 15 and 20 year loans.  Picking the right repayment length requires some strategy and a bit of guess-work about what your finances will look like in the future.

Repayment Length Basics

As the repayment period increases, monthly payments will go down.  This gives borrowers increased flexibility with their loans.  The downside is that as the repayment length increases, the interest rate also increases.  When looking at the best student loan refinance rates of various lenders, 5 year loans currently start just below 3%, 10 year loans are in the 3-4% range, and 20-year loans start at just over 5%.

Repayment Length Strategy

Mortgage Considerations – If you will be purchasing a house in the future, it can impact the approach you take with your student loan refinance.  If you plan on buying a house in 6 or 7 years but think you can pay off your student loans in 5, a short-term loan could be ideal.  The downside is that the high student loan payments make putting money aside for a down payment more difficult.  The other option is to stretch out payments as long as possible.  By stretching things out, monthly payments are at their lowest.  This allows for saving for the down payment and can help your monthly debt-to-income ratio.

Multiple Refinances – Another option to consider is the multiple refinance route.  This option could be ideal for people who expect a dramatic increase in their income in the future.  For the first refinance, they can opt for a long-term loan to keep payments low.  Once income grows, a second refinance can be done to lock down the lowest possible rate.

Aggressive Debt Elimination – If you are looking to pay off your student loans aggressively, the best option is typically a short loan with the lowest interest rate possible.  The one exception would be if monthly payment might be so high that it becomes unaffordable at times.  In this case a borrower might opt for a 10-year loan and target making extra payments so that it is eliminated in 5 years.  Most refinance companies do not charge any sort of pre-payment penalty.

Flexibility – Borrowers who work on commission or have large swings in their income should consider sticking with a longer loan.  During the good months, they can make extra payments so that the debt gets paid off faster.  When the bad months happen, the low payments ensure that the debt stays current.  The difference in interest rate between two loans is the cost of flexibility.  For some people paying a little extra each month to ensure flexibility is a good idea.  For others, it could be a waste.

Self Control Issues – Aggressive repayment of student loans is usually the preferred method because it reduces interest spending as much as possible.  Unfortunately, not everyone has the self-control necessary to make the extra payments towards their student loans.  These people normally pay the minimum and nothing more.  If you are one of these people, opting for the shorter loan length could be the smart move.  It will force you to pay off your loan in a timely manner and greatly reduce interest spending over the life of the loan.

Fixed-Rate or Variable-Rate

In addition to deciding loan length, borrowers also usually have the ability to decide between a fixed-rate loan and a variable-rate loan.  Fixed-rate loan payments never change, but the interest rate on a fixed-rate loan is typically starts a little bit higher than a variable-rate loan.

Interest rates are presently near all-time lows.  This means that the variable-rate loans are much more likely to go up than down.  As a result, for longer loans, we encourage borrowers to opt for a fixed-rate loan.

Picking the Best Repayment Length

One thing to keep in mind is that the 5-year variable-rate loan will aways have the lowest starting rate.  Over the years we have also noticed a pretty measurable gap between the best 5-year variable-rate loan and other loans.  We suspect this is due to lenders squeezing extra hard to make sure that their headline rate is as low as possible.  The 5-year variable-rate loan is the one usually featured in advertisements as well as student loan lender comparisons.

That being said, the 5-year loan definitely isn’t for everyone.

Many lenders make rate selection pretty easy.  Borrowers are able to see what rates they qualify for at various loan lengths.  This allows borrowers to preview monthly payments and see how their personal interest rate changes with different options.  If there is a huge gap in interest between a 15-year loan and a 20-year loan, it may make sense to go with the shorter loan length.  However, if the rate difference is minimal, it could make more sense to stick with the longer loan.  This is something that every borrower should check as they shop around.

Ultimately, the key to finding the best repayment length and best rate is to cast a wide net.  Lenders make checking rates very easy and comparison shopping is very simple.  There are over 15 lenders offering student loan refinancing services, but checking rates with 3-5 companies is usually enough to give the average borrower a pretty good idea of who has the best deal.