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Six Reasons You Should Not Refinance Your Student Loans

Refinancing often means lower interest rates, but some borrowers should avoid a student loan refinance.

Written By: Michael P. Lux, Esq.

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Student loan refinancing has become a popular route to debt elimination. Borrowers get better interest rates, and lenders get low-risk graduates who are unlikely to miss any payments. As refinancing has become more commonplace, some borrowers are falling into the misconception that refinance is a normal part of the process that most borrowers use. While refinancing might work for some, there are many reasons you should not refinance your student loans.

Before jumping into specifics, it is worth noting that most of the risk from refinancing comes from converting federal student loans into a private student loan. As you will see below, the risks for private loan borrowers are reduced.

#1: Avoid Refinancing if You are Betting on Biden Cancelling Federal Student Loans

I’m in the category of people that thinks Biden canceling loans is unlikely. However, it is a possibility.

Borrowers who are optimistic about the $10,000 of loan cancellation becoming a reality should hold off on refinancing their federal loans. Those with larger federal balances might also consider refinancing some, but not all, of their federal loans. These borrowers can take advantage of debt cancellation if it happens, but still enjoy the lower rates from a refi lender.

Ultimately, the key takeaway is that if loan cancellation happens, it will almost certainly only apply to federal loans. Thus, refinancing all of your federal loans into a private loan could be a mistake.

#2: Don’t Refinance Loans if the Interest Rate Isn’t Better

Some borrowers mistakenly think they must include all of their loans in a refinance. Sometimes a refi lender will offer a loan that has a better interest rate than most, but not all of a borrower’s loans. There is no obligation to combine all of the loans. Borrowers can select the individual loans they want to be included in the refinance and leave the current low-interest loans untouched.

Similarly, sometimes borrowers choose to go from a fixed-rate loan to a variable-rate loan. This can be a risky decision. If interest rates go up in the coming years, that new loan could become quite expensive. In many cases, opting for the security of a fixed-rate loan is ideal, even if it means a slightly higher interest rate.

#3: The Possibility of Government or Non-Profit Work Usually Means Borrowers Should Not Refinance

One of the great perks of federal student loans is the Public Service Loan Forgiveness program. Successfully completing PSLF isn’t easy, but borrowers can get their federal debt forgiven after ten years of eligible employment.

A refinance might not be a mistake if you have a tiny amount of federal loans, but for borrowers with larger balances, the mere possibility of eligible work might make refinancing a risk.

Borrowers should carefully consider whether or not employment at an eligible employer is a possibility. If the chance of PSLF-qualifying work exists and the debt is large enough that forgiveness after 10 years of payments is valuable, refinancing should probably be delayed.

#4: Refinancing Federal Loans is a Mistake if You Might Go Back to School

A return to college is a massive variable in your financial planning.

Further education could mean much more student debt. It might lead to forgiveness opportunities like Public Service Loan Forgiveness. It might lead to so much borrowing the income-driven forgiveness becomes a critical resource.

Going back to school opens many new doors. It may create opportunities that you haven’t even considered yet. Having federal student loans instead of private debt may be a huge asset in the future.

Ultimately, there are many unknowns with a return to college. With so many question marks, having the flexibility of federal student loans is a really smart move. For this reason, refinancing federal loans before returning to school could be a mistake.

#5: Don’t Refinance if You Have Job Security Concerns

How does the future look with your current employer? If you lost your job, how long would it take to find similar employment?

If you find yourself unemployed or underemployed, you will want your student loans to be federal student loans. Unlike all private loans, federal loans give borrowers the option of making payments based upon what they can afford rather than what they owe.

Having income-driven payments means borrowers facing tough times may qualify for $0 payments. These $0 payments can last indefinitely. Borrowers that make income-driven payments long enough can qualify for loan forgiveness.

This particular feature of federal student loans is an excellent rainy day feature. If you have concerns about your long-term employment situation, don’t make the mistake of refinancing your federal loans into a private loan.

#6: Avoid Student Loan Refinancing if Your Monthly Payment Goes Up

This tip may sound incredibly obvious, but it is a common mistake made by borrowers. Many borrowers select the refinance loan offering the lowest possible interest rate. The downside to picking the lowest rate is that it comes with a five-year loan. If you are coming from a 15-year loan, switching to a five-year loan will mean higher monthly payments, even if the interest rate is lower.

The problem with this particular trade is that it damages your debt-to-income ratio or DTI. The danger of hurting your DTI is that it makes buying a house more difficult.

Similarly, if the payment goes up too much, it can be challenging to make the monthly payment. Borrowers should balance their desire to get the lowest possible interest rate with their need to keep monthly payments affordable.

Dealing with this issue right now is especially easy. The lowest rates available currently hover around 2% for a five-year variable-rate loan. Borrowers that opt for a 20-year fixed-rate loan can still qualify for excellent rates.

RankLenderLowest RateSherpa Review
1Splash Financial6.08%*Splash Financial Review
2ELFI6.64%ELFI Review

Remember, picking a 20-year loan does not mean it must take 20 years to repay the debt. You can always pay extra when convenient. However, the longer loan term provides flexibility, and it opens doors for borrowers looking to take advantage of their low interest rate.

About the Author

Student loan expert Michael Lux is a licensed attorney and the founder of The Student Loan Sherpa. He has helped borrowers navigate life with student debt since 2013.

Insight from Michael has been featured in US News & World Report, Forbes, The Wall Street Journal, and numerous other online and print publications.

Michael is available for speaking engagements and to respond to press inquiries.

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