In recent years, the U.S. Department of Education has implemented a flexible solution to help borrowers with financial difficulty repay their federal student loan debt, also known as income-driven repayment plans. These plans calibrate monthly payments based on the individual's income. Most applicants will qualify for at least one of the three types of repayment plans. However, selecting a plan type is entirely up to the borrower, which makes it critical to understand the differences before entering into a binding agreement.
PAYE vs. IBR
The two most popular repayment plans are Pay As You Earn (PAYE) and Income-Based Repayment (IBR), because in most cases, the monthly payment will be lower than the Income-Contingent Repayment (ICR) plan. Under PAYE, borrowers make payments of 10% of their monthly income, and any remaining debt is forgiven after 20 years. Meanwhile, IBR sets payments at 15% of monthly income and forgives remaining debt after 25 years. During years when you're unemployed (or beneath the poverty threshold), your monthly payments are zero.
Each plan determines your monthly payment based on your family's size and household income. To qualify, your adjusted payment amount must be less than it would be under the standard repayment plan based on a 10-year repayment period.
So, given that PAYE seems like the more generous option, why would anyone choose IBR?
Simple: The Pay As You Earn plan stipulates that only "new borrowers" qualify. You are considered a new borrower if your loans were disbursed on or after October 1, 2011, or if you had no outstanding loan balances on or after October 1, 2007.
The Income-Contingent plan is also open to any borrower with federal loans. There is no income requirement. But, payments will be slightly higher than Pay As You Earn and IBR plans. In some cases (such as years in which you make a high income), your monthly payment could be higher than it would be under the standard repayment plan, because they are calculated based on your annual income.
Their key differences are:
- Any borrower with eligible federal loans qualifies for the ICR plan.
- Monthly payments for Pay As You Earn and IBR plans are lower.
- Borrowers must meet additional requirements to qualify for Pay As You Earn.
Wise Bread's The Definitive Guide to Pay As You Earn has detailed information about the PAYE repayment option. What Recent Grads Must Know to Repay Federal Student Loansand New Income Based Federal Student Loans Repayment Plan - Can You Benefit? are also useful resources.
Federal Student Loan Forgiveness, Discharge, or Cancellation
We all know that student loan debt is one of the few types of debt that is rarely forgiven. It is excluded from bankruptcy filings and can be garnished from your wages if you default. However, there are several circumstances in which the federal government will grant borrowers forgiveness, discharge, or cancellation of their federal student loans.
Most borrowers who are interested in learning about the loan forgiveness program, whereby all or a portion of federal student loan debt is forgiven if you volunteer time, serve in the military or certain public service positions, practice medicine, teach in low-income communities, or responsibly make payments for at least 20 or 25 years under one of the aforementioned income-driven repayment plans (and are still unable to repay the balance of your loans). Such circumstances include:
- Public interest loan forgiveness: Under IBR and PAYE, borrowers who make regular monthly payments and work in the non-profit or public sector for 10 years can have the balance of their student loans after that time forgiven.
- Everyone else's loan balances are forgiven after 20 years of consecutive monthly payments under PAYE, and 25 under IBR.
- Be forewarned that PAYE is facing changes, including the likelihood that only $57,500 of debt can be forgiven, so understand what you're likely to owe at the end of your repayment term. This change only applies to new PAYE borrowers, so act before December of 2015 to get grandfathered into the more generous current version of the plan, if you qualify.
Repaying student loans can be burdensome. Make repayment less onerous by selecting the right plan for you.
How are you repaying your student loans?