Income Based Repayment Plans: Advantages And Disadvantages

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As the costs of a college education continue to grow, more and more people are finding themselves repaying tens of thousands of dollars in student debt over decades of loan payments. The thought of making these large payments for such long periods of time has encouraged many people to seek income based repayment plans for repaying their student debts. Unlike the Standard Repayment Plan for federal loans, which calls for a fixed monthly payment of at least $50 over the course of 10 years, these income based repayment plans can be individualized for each borrower’s current financial situation. Before deciding to switch to an income based repayment plan, there are some things the borrower should know.

Types Of Income Based Repayment Plans

There are currently three types of income based repayment plans to choose from for repaying federal student loans. There are the general Income Based Repayment plans that require the borrower to pay 15 percent of their discretionary income over a 25-year repayment term or 10 percent of their discretionary income over a 20-year repayment term. There is also an Income-Contingent Repayment plan that allows the borrower to pay 20 percent of their discretionary income over a 25-year repayment plan or what the borrower would pay on a fixed payment repayment plan over the course of 12 years, whichever is less. Finally, there is a Pay As You Earn plan that requires the payment of 10 percent of the borrower’s discretionary income over a 20-year repayment term.

Advantages To Income Based Repayment Plans

There are a number of advantages to using an income based repayment plan to pay your student debts. The biggest benefit is that your payments will change as your income changes, ensuring that the payments remain affordable even if you are making less money than before. Another attractive benefit to these plans is that you can have the balance of the loan forgiven at the end of the term if you have made timely payments throughout the entire term. You can shorten the length of time before your loans are forgiven by taking a job in a career field that qualifies for the Public Service Loan Forgiveness Program, cutting the loan term to 10 years rather than 20-25 years.

Disadvantages To Income Based Repayment Plans

There are a number of disadvantages to using income based repayment plans that the borrower should be aware of as well. In most cases, because of the longer loan terms, the borrower will end up paying more in interest payments to the loan servicer, effectively increasing the costs of their loans. These loans programs also require more documentation from the borrower, including annual income and family size information submissions, to continue to qualify for the programs. Another thing that many people that sign up for income based repayment programs do not realize is that the forgiven debt at the end of the term may be taxable as income, increasing the amount of taxes the borrower owes in that tax year.

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