An increasing student loan balance is a very real and very frustrating problem.
We frequently receive emails from borrowers who have much larger balances on their debt than what they originally borrowed. This issue is so widespread that nearly half of all student loan borrowers have an increased balance after 5 years. Sometimes, missed payments and late fees can explain the larger balances. However, in many instances, the balance increases even though the borrower has done nothing wrong.
In this article, we’ll explore why student loan balances can increase and offer strategies to prevent this from happening.
What causes a student loan balance to increase?
Borrowers making timely payments reasonably expect that their loan balance will decrease as a result of their efforts. Although multiple causes could explain why a student loan balance might increase, the following two reasons are the most common:
Growth During School – Most borrowers don’t make student loan payments while attending school. However, interest continues to accrue (except for federal subsidized loans). This leads to years of growth and compounding interest. As a result, many borrowers enter repayment with a balance significantly higher than what they actually borrowed.
Income-Driven Payments – This issue is unique to federal loans with income-driven repayment plans. Federal income-driven plans allow borrowers to make payments based upon what they can afford rather than what they owe. If the loan’s monthly interest is more than the monthly payment, the total loan balance increases with each passing month.
Other reasons a student loan balance may be increasing
Other reasons a student loan balance may increase include:
Deferments and Forbearances – Many lenders allow struggling borrowers to temporarily pause repayment. Most lenders also give borrowers who have left or graduated school a six-month “grace period” before they must begin repayment. Although no payment is due, the interest is still working for the lender, growing the loan balance.
Payments Less Than the Monthly Interest – Sometimes, private lenders allow borrowers to temporarily reduce the amount they pay each month. While this offers borrowers some relief, the interest usually continues to accumulate. These smaller payments help borrowers stay current, but they also help the lenders make some extra cash from the additional interest.
Extended Repayment Plans – Some repayment plan terms stretch out over 20 years or more. This means early payments mostly cover the interest. Borrowers on these plans are paying down their balance, but very slowly. Combined with interest accrued during school, the total loan balance often ends up higher than the original amount borrowed.
Calculation Errors – Lenders aren’t perfect. It’s possible that the lender has made an error. Mistakes are particularly common when the lender made any manual adjustments to the balance. Borrowers should keep copies of loan statements and documents so they can prove any errors. Sometimes filing a complaint with the Consumer Financial Protection Bureau may be necessary.
While several factors can cause a loan balance to exceed the original amount borrowed, there are tools and strategies available to help borrowers reduce their balances.
As you can see, there are a number of reasons that a loan balance may exceed the original amount borrowed. Fortunately, there are also a number of tools and strategies available to help borrowers reduce their balances.
Lowering the Principal Balance on Loans
Make Extra Payments – The most common and effective way to lower a student loan balance is to make extra payments. A borrower’s regular payments covers any fees, then accumulated interest, and then the principal balance (in that order). Because the monthly payment normally covers these three categories, extra payments should go entirely towards the principal. Even a small amount can make a significant difference over time.
Get Real Lender Assistance – While federal loans typically offer the best terms, some private lenders may provide relief for struggling borrowers. For example, Navient offers a Rate Reduction Program, which temporarily lowers interest rates for borrowers with unaffordable payments. Lower interest means more of the payment can go towards the principal balance.
Focus on the Highest Interest Rate Loan First – The greatest enemy to student debt elimination is interest rates. The higher the interest rate, the more difficult it is to eliminate the loan. By concentrating on paying off the loan with the highest interest rate first, borrowers can pay off their loans faster and save money in the long run. While some borrowers prefer to pay a little extra on all of their loans, it is far more effective to focus extra efforts on one single loan at a time.
Sign Up for the REPAYE Plan – Though there are many federal income-driven repayment plans, one of them has a special perk for borrowers whose monthly payments are less than the monthly interest. The REPAYE plan will immediately forgive half of the extra interest that accumulates each month. For example, suppose a borrower has loans that generate $200 of interest per month, but the borrower must pay only $50 per month. Instead of the balance growing by $150 per month, it will only grow by $75 per month on REPAYE. Switching to REPAYE won’t stop the balance from increasing, but it will slow it down.
Find Lower Interest Rates – Lenders like SoFi, Laurel Road, and CommonBond all offer interest rates below 3%. These lenders can be picky about credit approvals, so it is a good idea to shop around and check rates with many of the lenders offering student loan refinancing.
One Last Bit of Good News…
As borrowers begin repayment, student loan lenders initially apply most of the borrower’s payments towards the interest, with only a small portion reducing the principal balance. However, as the principal balance decreases, the interest that accrues each month also decreases. This means that, with each passing month, a larger portion of the same payment goes towards reducing the principal balance.
Just as setbacks can cause a student loan balance to spiral out of control, making positive progress can likewise build momentum and accelerate debt reduction.
