Refinancing or consolidating your student loans can save thousands of dollars with a little bit of effort. Unfortunately, refinancing is not for everyone, and a mistake can be incredibly costly. These five mistakes are the ones we see made the most commonly.
1. Trying to time the market
Interest rates rise and fall. Anyone who thinks they know exactly where interest rates will be next month, next year, or five years from now is lying.
Borrowers tend to try to time the market, hoping for improved rates at a later date. First, this is a mistake because these predictions are difficult or impossible to make. Second, borrowers can always refinance their loans again. If the interest rates today are a good deal for your situation, refinance. If the rates get even better six months from now, refinance again.
Other than a slight dip to your credit report for the credit check, there is zero cost to this transaction. Unlike refinancing a house where there are loan fees, appraisal costs, and other expenses; student loan refinancing with a reputable lender should not cost a borrower anything out of pocket. If anything, borrowers might get a little extra cash each time the refinance due to lender incentives.
2. Not shopping around
Student loan refinancing is kind of like buying a car. If you just stop by one dealership, you probably are not going to get the best deal. If you look around, you could end up saving a bundle of money.
Finding the best interest rate for student loan refinancing is a pretty easy process. There are a decent number of lenders out there, and determining the best rate simply requires sending in an application. (Tip: the lender with the best advertised rate may not offer you the best rate. Companies use different systems for determining interest rates, one lender might offer you their best rate while another lender offers a much higher interest rate loan.) Shop around and figure out exactly where you stand with each lender.
3. Putting federal loans into a private loan
The decision to refinance your federal loans with a private lender is a risky choice. It can be a great decision, but it can also be a really bad one.
The thing to be aware of is that there is no way to “undo” a refinance. That means once you replace your federal loans with a private one, you cannot go back to the federal perks such as loan forgiveness or income-driven repayment. We took a deeper look at this issue here.
4. Going all in when it isn’t necessary
When you refinance your loans, you do not have to refinance all of your student loans. If you have loans with interest rates of 3%, 6%, and 9%, but the best you can do on refinance is 5%, there is no reason to refinance the 3% loan. The whole point of refinancing is lowering your interest rates. If any interest rate is going up, you are probably making a mistake.
5. Making a fixed vs. variable rate error
This “mistake” is up for debate. This writer is a big fan of fixed rate loans if you are going to be holding the debt for a long period of time. The logic is simple, variable rates can go up, fixed rates always stay the same. Right now interest rates are near historic lows for student loan refinancing, so locking in a fixed rate loan could be a really smart move.
However, variable rate loans do start out at lower interest rates than a fixed rate loan. The interest rates have not changed much over the past five years, meaning if you got a variable rate loan five years ago and are about to pay off the loan, variable was probably a smart idea.
The big question here is aversion to risk. Can you accept a slightly higher interest rate now or do you risk it for a lower rate now and hope it doesn’t end up costing you more in the long run?
All of these mistakes can be easily avoided if you take the time to do you research. Research companies, research options, and learn what mistakes others have made so that you can avoid them. Our student loan reviews page lists the lenders in the marketplace and should be a good place to start educating yourself on the subject.