Income Driven Repayment Plans

Income-driven repayment is a payment plan that can reduce your monthly payments based on your income versus the standard loan repayment which is equal payments over the span of 10 years. Instead, your monthly payment becomes a percentage of your monthly income (typically 10%, though sometimes up to 20% dependent on the specific plan you choose).

Advantages 

Decrease your monthly payment. Your annual payment will become 10%, 15% or 20% (depending on the plan you choose) of your annual discretionary income. “Discretionary income” is the amount of income that you have available for non-essential expenses (things besides paying rent, etc.). In this case, the government defines it specifically as your income minus the poverty line, which is typically $18,000 (plus $6,000 if you have a spouse, and another $6,000 for each child you have). They’re estimating that $18,000 is what most people need for basic living expenses per year. As long as your current loan balance is $18,000 more than your annual income, income-driven repayment will probably lower your monthly payments. You can use this calculator from the FSA site for your own situation. 

Forgiveness after 20-25 years. If you're on an income-driven repayment plan, then after 20 or 25 years (depending on which plan you select) any amount of the loan you haven’t yet paid is forgiven and you won't be required to pay it.

Drawbacks 

Higher total repayment amount. Lowering your monthly payment will also cause you to take longer to pay back the loan because more interest will accrue, which in turn, causes the total repayment amount to be higher. Of course, this won't matter if on your current payment plan of 20-25 years: the remaining balance is forgiven.

Variable monthly payment amount. The 10%, 15, or 20% figure is fixed. Every year, your income is re-assessed, and if it went up, that means you’ll have to pay more each month on your loans. By contrast, under a standard payment plan, your monthly payment amount will be unlikely to ever change.

Income tax on forgiveness amount. If you receive forgiveness after 20 or 25 years, any amount that is forgiven usually counts as income for tax purposes. In some cases, this will not be significant--but in others, it can make a huge difference. For example, if you get $20,000 of debt forgiven, at a 20% average income tax rate that’s $4,000 you’ll have to pay the IRS in one year. 

Lose out on the refinancing option. Income-driven repayment is only available for federal loans, so you won’t be able to refinance with a private company to get a lower interest rate without losing the benefits  that come with having federal loans. You're giving up the opportunity to get a lower total repayment amount (via private refinancing) in return for lower monthly payments. 

Requirements

The benefits we’ve described only apply to federal loans. The good news is, all federal loans are eligible for at least one income-driven repayment option.

There are 4 different income-driven repayment options:

PAYE (Pay As You Earn) Plan

Who's eligible: Anyone (who took student loans in their own name), as long as you borrowed after October 2011

Payment Amount: 10% of your discretionary income

Forgiveness: After 20 years

REPAYE (Revised Pay As You Earn) Plan

Who's eligible: Anyone (who took student loans in their own name)

Payment Amount: 10% of your discretionary income

Forgiveness: After 20 years, but 25 if any loans were for grad school

IBR (Income-Based Repayment) Plan

Who's eligible: Anyone (who took student loans in their own name), as long as you borrowed after October 2011

Payment Amount: 10% of your discretionary income, but 15% if you borrowed before July 2015

Forgiveness: After 20 years, but 25 years if you borrowed before July 2014

ICR (Income-Contingent Repayment) Plan

Who's eligible: Anyone, including parents (who must first consolidate the PLUS loans into a Direct Consolidation Loan)

Payment Amount: 20% of your discretionary income

Forgiveness: After 25 years

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Each of these were rolled out at different times, so they are all similar, each intending to help a wider array of people. What you need to keep in mind is  that in order to remain on any of these income-driven repayment plans, you must recertify each year. You’ll provide info about your income and your family size; if your income went up, your monthly payment will increase accordingly. You always have the option to recertify earlier if you like. For example, if your income went down or your family size increased, you’ll want to let them know so that your monthly payment will decrease accordingly.

Possible Next Steps

It's always best to pay off your loans as soon as possible (so that less interest accrues) so if you can meet your current monthly payments without too much difficulty, it's probably not a good idea to try decreasing them by applying for an income-driven repayment plan. But if you're finding it difficult to meet your monthly payments, switching to an income-driven repayment plan is a much better long-term solution than getting temporary deferment or forbearance.

You can fill out the application, and submit it to your loan servicer (e.g., Nelnet, FedLoan Servicing, Navient). In selecting a specific plan, you generally want the one with the lowest income percentage payment (so, 10%) as well as the lowest number of years before forgiveness (so, 20)--as long as you qualify. For most people, it's easiest to just check the box that says “I want the income-driven repayment plan with the lowest monthly payment.” FutureFuel.io can also help with filling out and submitting your application on your behalf through our Reassess tool for most plans.

Lastly, remember to recertify each year. Your servicer will send you reminder notices prior to your due date each year so make sure to keep your mailing address updated.

Summary

  • Income-driven repayment lets you change your monthly payment down to as little as 10% of your discretionary income (your income minus $18,000/year).
  • As long as your current loan balance is more than $18,000 higher than your annual income, these plans will decrease your monthly payment. However, they’ll increase your total repayment amount (because there will be more time for interest to accrue).
  • Income-driven repayment will also grant you forgiveness on your remaining debt after 20-25 years. However, you’ll usually have to pay income tax on any amount that’s forgiven.
  • All federal loans are eligible for at least one type of income-driven repayment plan. (If you're a parent, you must first consolidate your PLUS loans into a Direct Consolidation Loan, then you’ll qualify for ICR.)
  • Income-driven repayment plans are a great way to ease the burden of your monthly payments if you're having difficulty with them--they’re a much better long-term solution than deferment or forbearance; but if you can make your current payments and pay off the loan sooner, that's the better option.

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