If you recently graduated from college, you likely have student loan debt to repay. (Maybe a lot of it.)
While many graduates expect to be able to pay off their loans quickly, doing so is often harder than many realize. According to the Cengage Student Opportunity Index, survey respondents said they expected to repay their student loans within six years, on average. But in reality, it takes graduates 20 years to pay off their education debt.
If you want to eliminate your student loans as quickly as possible, you may be wondering if you should refinance your student loans.
But before you do, there’s one student loan payoff strategy you should consider first: making a lump sum payment on your current debt before refinancing your student loans.
The little-known student loan payoff secret
Student loan refinancing is a well-known method for reducing your interest rate and lowering your monthly payment. But you can make it even more effective by following these two steps:
1. Make a lump sum loan payment
Making a lump sum payment can be a great way to pay off your debt ahead of schedule. It won’t affect your minimum monthly payment, but it will reduce the amount of interest that accrues on your loan.
Lump sums can come from a lot of places. Any kind of windfall, such as gifts or bonuses from work, can help you with your debt. Or, if you microsave, you can set aside small amounts until you have enough for a lump sum payment.
If you get a tax refund, that can be a great start. To show you how effective a lump sum payment can be, consider that the IRS reported that the average tax refund in 2019 was $2,869.
Let’s say you received that amount as a tax refund.
If you had $50,000 in Grad PLUS Loans with a 10-year loan term and a 7.08% interest rate, your minimum monthly payment would be $582 per month. If you only made the minimum payments, you’d pay a total of $69,945 over the length of your repayment term.
If you applied your total $2,896 tax refund as a lump sum payment, you’d pay off your loans 10 months earlier. And, you’d repay $67,120.
By making a lump sum payment, you’d save $2,825 in interest charges.
As you can see, that extra payment can make a significant impact.
2. Refinance your student loans
If you want to supercharge your student loan repayment after making a lump sum payment, think about refinancing your debt.
With student loan refinancing, you take out a loan from a lender for the amount of your existing education loans. Using the loan to pay off your old debt, you now have just one loan with one loan servicer.
The new loan has a different interest rate, repayment term, and minimum monthly payment.
Depending on your credit and your needs, you could qualify for a lower interest rate. Or, you can extend your repayment term if you want a smaller monthly payment.
Why is refinancing after making a lump sum payment such a good idea?
- You’ll get a lower monthly payment: When you make a lump sum payment, you lower the loan’s principal, so you have less debt to refinance. With a lower balance, you’ll qualify for a smaller monthly payment, making it more affordable on your monthly budget.
- You’ll pay even less in interest: Your lump sum payment reduces the principal, so less interest accrues on your loan. And when you refinance, you can qualify for a lower interest rate, helping you save even more money.
For example, if you had $50,000 in student loans and made a $2,896 lump sum payment, you’d drop your principal to $47,104. If you refinanced that debt and qualified for a 10-year loan and 5% interest, your monthly payment would drop to just $500 per month — a savings of $83 per month from what it was originally.
And, you’d repay just $59,953 over the 10-year repayment term. You’d pay just $12,849 in interest charges.
| Original Loan | Loan After $2,869 Lump Sum Payment | Loan After $2,869 Lump Sum Payment and Refinancing | |
| Loan Balance | $50,000 | $47,104 | $47,104 |
| Repayment Term | 10 Years | 9 Years, 2 Months | 10 Years |
| Minimum Payment | $582 | $582 | $500 |
| Total Interest | $19,945 | $17,120 | $12,849 |
| Total Repaid | $69,945 | $67,120 | $59,953 |
Things to consider
Student loans refinancing can be an effective way to manage your debt, but it’s important to understand both the pros and cons of refinancing student loans before submitting your loan application.
If you have federal student loans, you’ll lose out on certain benefits and protections when you refinance your debt. For example, you’ll no longer be able to take advantage of income-driven repayment plans, pursue Public Service Loan Forgiveness, or enter into federal deferment or forbearance. Not everyone will be eligible for those programs, but for some people, losing access to those perks can be a significant drawback.
Refinancing is best for borrowers who have good credit and stable income, or who have a creditworthy friend or relative who can act as a cosigner on the loan. In many cases, having a cosigner on your loan application can improve your chances of qualifying for a loan and securing a competitive interest rate.
Managing your student loan debt
Should I refinance my student loans? If you’ve been asking yourself that question, you should know that student loan refinancing can be an excellent strategy for managing your debt, saving money, and paying off your loans early. (Especially when you take advantage of a lump sum payment prior to refinancing, if you have the funds to do so.)
Before submitting your loan application, make sure you do your homework. With Purefy’s Compare Rates tool, you can get rates from top student loan lenders at once, with no credit check and total transparency.
