Consolidate to Save Money on Student Loans

If you have taken out federal student loans and are now crippled by debt, starting this July is the best time in years to consolidate your federal loans.

If you have taken out multiple subsidized or unsubsidized Direct or Stafford Loans from the federal government, or if you’ve taken out Federal Perkins Loans, Nursing Student Loans, PLUS Loans for graduate students, or pretty much any government-sponsored loan for your education–consolidate now. If you consolidate now, you’ll only have to make one lump payment every month that will apply for all of these loans. Ordinarily, this would save you money because these consolidated loans tend to offer lower interest rates. However, starting July 1st, 2008, this will save you even more money: the interest rates on consolidated federal student loans will decrease by 3 percentage points.

Starting July 1, the interest rates for Stafford Loans will amount to between 3.6% and 4.25%, if they are part of a package of consolidated federal loans. The interest rates on PLUS Loans for graduate academics will hover at around 5.13% if they’re part of a package of consolidated loans. These are very low rates, almost unheard-of during the past decade. Former students now in debt by $25,000 or more stand to conserve over $35 every month, amounting to thousands of dollars before they’re through paying off the loans.

Consolidating your debt is free. You don’t incur any additional costs for consolidating your federal student loan payments, and you still get to keep all the payment options that were originally offered to you. For example, even with the consolidated debts, you can still opt for payments that are proportional to the money you make, or payments that increase with the years (as they presume you become a better earner the longer you are out of school).

What happened to cause all this? The credit crisis has driven private student loan companies, like Sallie Mae, to stop offering student loan consolidation. The US Department of Education has stepped in, offering these options to indebted Americans in an attempt to stimulate the economy.

Now, the downside. These new rates don’t apply to loans not given by the federal government. They also apply only to student loans made before July 1, 2006. Only variable-interest rate loans can be consolidated with the Department of Education. The federal government has stopped issuing variable-rate loans after July 2006; all the federal loans issued since have been fixed-rate. However, if you are trying to pay off a combination of fixed and variable-interest loans, you can lump the fixed-rate loans along with your variable rate ones. This should still net you a meaningful reduction in the monthly interest rate that you will pay.

Also, if you’ve already consolidated your federal debt, you can’t consolidate again. Thus, while you can’t take advantage of the new low interest rates that start this July, you should look into other ways to “consolidate” your debt and lower interest rates. For example, you can take out large 401(k) or home equity loans to pay off your student debt, and then pay off the 401(k) or home equity loans over time–these loans tend to have a lower interest rate anyway. If you, like many recent graduates, you don’t yet have a home or vast retirement savings, consider borrowing the money at an interest rate of approximately 6% from a wealthier relative or acquaintance.

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