Why Consolidate Student Loans?
By Mark Kantrowitz
Student loan borrowers should consider consolidation carefully. There
are several arguments in favor of student loan consolidation and
several arguments against consolidation.
Also, once a borrower's student loans have been consolidated, the
consolidation cannot be undone. The new consolidation loan pays off
the original student loans, which then no longer exist.
If a borrower is consolidating federal student loans into a private
consolidation loan, the borrower needs to consider any tradeoffs
between a lower interest rate and fees on the private consolidation
loan and the loss of the better benefits provided by federal student
Benefits of Consolidation
There are several reasons why a borrower should consider consolidating
his or her student loans.
- One bill. Consolidation streamlines repayment by replacing
multiple loans with a single loan. The typical college student
graduates with as many as a dozen student loans, or more. Refinancing
them into a single loan makes repaying the student loans easier to
- Restarts the repayment term. The consolidation loan
starts with the full repayment term. This may reduce the monthly
payment even if the borrower sticks with a standard 10-year repayment
term. For example, suppose a borrower begins repayment with $25,000 in
student loans at 6.8% interest and a 10-year term, with a monthly loan
payment of $287.70. If the borrower decides to consolidate the loans
at the same interest rate three years into the 10-year repayment term,
the new loan balance will be $19,186.36. Since the consolidation loan
is a new loan with a new 10-year repayment term instead of continuing
where the original loan left off, the monthly payment decreases to
$220.80. This reduces the monthly payment by $66.90, but increases the
total payments over the life of the loan by $2,329.20.
- Resets the clock on deferments and forbearances. Federal
student loans have a 3-year limit on deferments and
forbearances. Private student loans have a 1-year limit on
forbearances. Borrowers can obtain a fresh set of deferments and
forbearances by consolidating their loans. The consolidation loan is a
new loan with a new set of deferments and forbearances.
- Eliminates overlap among multiple minimum payments. When
a borrower has several small loans, minimum payment requirements may
increase the amount the borrower must pay each month. By consolidating
these loans, the borrower replaces multiple minimum payments with just
one. For example, the Federal Stafford loan has a $50 minimum monthly
payment. Suppose a borrower has two Federal Stafford loans with a 6.8%
interest rate, one with a $3,500 loan balance and one with a $4,500
loan balance. The $3,500 loan would normally have a $40.28 monthly
payment, but this gets increased to $50 because of the minimum monthly
payment. The monthly payment on the $4,500 loan is $51.79, above the
minimum payment. The combined monthly payment is $101.79. If the
borrower were to consolidate the two loans, the new monthly payment
would be $92.06, above the minimum monthly payment. This reduces the
total monthly payments by $9.73, but increases the total payments over
the life of the loan by $362.22.
- Lower interest rate. The interest rate on a federal
consolidation loan is based on the weighted average of the interest
rates on the loans included in the consolidation loan, rounded up to
the nearest 1/8th of a percentage point. The new interest rate is
usually between the highest and lowest interest rates. The use of the
weighted average preserves the cost of the loan. The interest
rate on a private student loan is based on the credit scores of the
borrower and the cosigner (if any). If the credit scores have improved,
this may yield a lower interest rate.
- Switches to a fixed or variable rate. If a borrower
currently has fixed interest rates and prefers variable interest
rates, refinancing the loans into a private consolidation loan may be
one approach to obtaining a variable interest rate. Likewise, a
private consolidation loan may allow a borrower to switch from
variable interest rates to a fixed interest rate.
- Reduces monthly loan payments. Switching to a longer
repayment term will generally reduce the monthly loan payment, but at
a cost of increasing the total interest paid over the life of the
- Cosigner release. Some private student loans do not
provide cosigner release options. Others do provide cosigner release,
but the borrower might not qualify. By refinancing the student loans
into a new private consolidation loan without a cosigner, however, the
borrower can obtain the equivalent of a cosigner release.
- Access to alternate repayment plans. Without consolidating,
federal student loans offer an extended repayment term of 25 years for
borrowers with more than $30,000 in student loan debt. But, the
borrower can get a 30-year repayment term by consolidating his or her
- Switches lenders. If a borrower doesn't like his or her
lender, the borrower can switch lenders by consolidating his or her
student loans with a different lender.
Disadvantages of Consolidation
There are several reasons why a borrower should not consolidate his or
her student loans.
- May increase cost of the loan. Increasing the repayment
term increases the total interest paid over the life of the loan. When
thinking about consolidating student loans, compare the total payments
over the life of the loan in addition to the change in the monthly
- May lose subsidized interest benefits. The federal
government pays the interest on Federal Perkins loans and subsidized
Federal Stafford loans while the borrower is in an authorized
deferment. If the borrower consolidates the Federal Perkins loan into
a federal consolidation loan or either loan into a private
consolidation loan, the new loan loses the subsidized interest
- May lose remainder of grace period. When a borrower
consolidates a student loan, the borrower loses the remainder of the
6-month grace period.
- May lose loan forgiveness options. Private consolidation
loans do not offer public service loan forgiveness. By consolidating
federal student loans into a private consolidation loan, the borrower
will lose the opportunity to apply for public service loan
forgiveness, teacher loan forgiveness and other loan forgiveness
programs. Borrowers who consolidate Federal Perkins loans into a
federal consolidation loan lose the loan forgiveness options provided
by the Federal Perkins loan.
- May lose loan discharge options. Federal student loans
provide death and disability discharges. Borrowers who consolidate
federal student loans into a private consolidation loan may lose these
benefits as most private consolidation loans do not offer death and
- Capitalization of interest. Interest is capitalized
(added to the loan balance) when a loan is consolidated or undergoes
status changes. Thus, consolidating a student loan may cause interest
to be charged on interest.
- Can't target highest-rate loan for quicker repayment.
If a borrower's loans have been consolidated, the borrower will not be
able to target the loan with the highest interest rate for quicker
repayment. Consolidation replaces the various loans with a single loan
with a single interest rate. Generally, if the interest rate on the
consolidation loan is much higher than the weighted average of the
interest rates on all the loans but the highest-rate loan, the
borrower can save more money by making extra payments on the loan with
the highest interest rate. This assumes that the borrower will be able
to pay off the highest-rate loan quickly.
- Interest rates may not be lower. The interest rates on a
private student loan are based on the current credit scores of the
borrower and cosigner (if any). If the credit scores have not improved
since the loans were borrowed, the borrower might not qualify for a
lower interest rate. Generally, it takes several years after
graduation for the borrower's credit scores to improve significantly
if the borrower manages his or her credit responsibly, making on-time
payments on all debts (not just student loans). Also, if the borrower
is refinancing a cosigned loan without a cosigner, the borrower's
credit scores must be better than the cosigner's original credit
scores, not just the borrower's previous credit scores.
- May lose repayment plans. Most private consolidation
loans do not offer income-driven repayment plans. Borrowers who
consolidate federal student loans into a private consolidation loan
may lose access to the flexible repayment plans that are available for
federal student loans.
- May lose longer deferments and forbearances. Deferments
and forbearances on federal student loans are three years in total
duration, compared with one year for private student loans. By
consolidating federal student loans into a private consolidation loan,
the borrower may lose access to the longer deferment and forbearance
- May lose borrower benefits. Borrowers who consolidate
their student loans may lose borrower benefits
that were associated with the original loans, such as interest rate
reductions, principal rebates and other
student loan discounts.