Preparing to make student loan payments again? Consider an income-based option

BY Sydney LakeJuly 22, 2021, 2:00 AM
Yu-Jui Huang, an assistant professor in applied mathematics at the University of Colorado Boulder, worked on a study about the most cost-efficient way to pay back student loans, as seen in June 2021. RJ Sangosti—MediaNews Group/The Denver Post/Getty Images.

As of late July, there’s still no official word on whether the freeze on student loan repayments will be extended past Sept. 30, 2021. Many borrowers and federal student-loan servicers are unprepared for payments to resume in the fall, but there are still ways to feel more ready—one of them being the income-driven repayment (IDR) plan.

Income-driven repayment plans set a borrower’s student loan payment at an affordable amount based on income and family size. The Federal Student Aid office offers four different IDR options, which limit monthly dues to only 10% to 20% of a borrower’s income. Rates are established to help borrowers pay off their loans within a 20-year to 25-year period.

For those borrowers who experienced pay cuts or unemployment during the pandemic, switching to an IDR plan could help ease the burden of returning to regular payments, student loan experts say. That’s because payments are based on an individual’s most recent tax filings.

“There are some great planning opportunities here for people on income-driven repayment plans,” says Patti Hughes, principal of Lake Life Wealth Advisory Group. Seeking an IDR plan “does make a lot of sense for people whose income has dropped during the pandemic to see if the payments would be lower considering the new income.”

Who should think about switching to an IDR plan?

Under an IDR plan, borrowers must annually recertify their income and family size. People who found another job during the pandemic and are now earning more can hold out to recertify 20 months past their original due date. Doing so will allow borrowers to use their old tax return showing the lower income, resulting in lower payments. 

While an IDR plan could be a good move for some borrowers, it may not be the smart choice for others. It makes sense for borrowers who are looking to lower their monthly payments, which would not necessarily be the case for those whose incomes rose during the pandemic.

“You may not qualify for some income-driven repayment plans that require a personal financial hardship,” Hughes reminds borrowers whose incomes rose during COVID-19.

IDR plans aren’t always a good fit for high-income earners, according to student loan experts, and if you’ve defaulted on your loans, then it may not even be an option. 

What are the IDR options?

The Federal Student Aid office offers four IDR options that require borrowers to relinquish a portion of their income each month. Under two of the four plans, a borrower generally pays 10% of their discretionary income (the second option restricts the amount to no more than the 10-year Standard Repayment Plan).

Another plan requires 10% or 15% of your income, depending on when you became a borrower. The fourth plan pulls 20% of a borrower’s discretionary income or what they’d pay on a repayment plan with a fixed payment during 12 years adjusted to income.

Democratic congressional leadership, which has been pushing for student debt cancellation and an extension on the repayment freeze, have cautioned against IDR plans, calling the enrollment process “complex and lengthy,” arguing there are too many options for borrowers.

The Institute for College Access & Success in a late 2020 statement suggested consolidating the IDR program by offering only one option to borrowers to “help more borrowers access affordable payments and avoid the devastating consequences of loan default.”

Are additional freeze extensions or debt cancellation in the cards?

Never say never. There have been a few recent indicators that debt cancellation or forgiveness could be a possibility for student loan borrowers. 

Congressional leaders, including including Majority Leader Chuck Schumer, a Democrat from New York, and Sen. Elizabeth Warren, a Democrat from Massachusetts, are vocal supporters of an additional freeze extension as well as debt cancellation. 

The politicians wrote to President Joe Biden in June 2021 asking him to extend the freeze through March 31, 2022, which Robert Kelchen, an associate professor and chair of the Department of Education Leadership, Management, and Policy at Seton Hall University, recently told Fortune “seems to be about a 50-50 proposition.” 

The Education Department also recently hired hired student-debt cancellation advocate and Warren ally Toby Merrill as a deputy general counsel in the department’s Office of the General Counsel. Her research was used to support Warren’s 2020 presidential campaign proposition to direct the secretary of education to cancel $50,000 of each borrower’s student debt. 

Biden said during his campaign that he supported paying off $10,000 per borrower, but its funding was left out of his most recent budget proposal

“It doesn’t mean that all hope is lost,” Bruce McClary, senior vice president of communications for the National Foundation for Credit Counseling (NFCC) told Fortune. Student loan forgiveness could still crop up in future, he adds.