Updated on 09.12.14

Student Loan Consolidation 101

Trent Hamm

If you have more than one student loan after college, chances are you’ve been approached by more than one group seeking to consolidate your student loans (if you haven’t graduated yet and have multiple loans… just wait). These groups promise all sorts of things, from a percent reduction in your balance to a low interest rate, to get you to consolidate your loans through them. When I first started receiving these calls, I was completely lost, but after doing some research, asking a lot of questions, and finally going through with it, I discovered several key facts about loan consolidations that are well worth sharing.

If you’re unsure about what a student loan consolidation even is, it is essentially a loan swap in which you get a brand new student loan that equals the combined balance of all of your other loans. A consolidated loan often has a somewhat lower interest rate than the other loans, but this lower rate is balanced out by the fact that the term of your consolidated loan is effectively reset, meaning that a consolidated loan repayment ends at a later date than the original loans – you’ll be paying less interest per year, but you’ll be paying it for more years.

First of all, never, ever give any personal information to anyone who calls you wanting you to apply for a student loan. You have no idea who is on the other end of that line and giving your personal information to them is a sure way to get yourself locked in – to identity theft. This isn’t a suggestion, it’s a rule – never, ever give any of your personal information to anyone who calls you in an unsolicited fashion.

Now, about the things they’ll tell you if you’re thinking about consolidating: in truth, there are really only two benefits to consolidation: it can lower your monthly payments (as well as potentially lower the overall amount you’ll have to pay if you’ve just started repayment) and it also means that you’ll only have to deal with one loan company for all of your student loans – no more multiple payments. However, there is a chance that it may actually increase the total interest you might pay over the life of your loans if you’re not careful. Some lenders will make other claims, such as stating that it will help your credit report out, but that’s largely false – the formula that generates your credit score accounts for multiple student loans without breaking a sweat. Let me repeat: consolidation of student loans will not affect your credit history.

How will you know if a student loan consolidation will save you money? There’s really no way of knowing without running all the numbers yourself, and that can be fairly complicated. However, if you’re very early in the life of your loan, you can get a pretty accurate number to work with by multiplying each of your loans by its respective interest rate and adding them together, then dividing that number by the total of all of your loans. For example, let’s say you had two loans for $20,000 each at 7.5% interest, and one loan for $15,000 at 8.5% interest. Take $20,000 and multiply it by 7.5%, which gives you $1,500 (and you have two of those, so it’s $3,000 total), plus $15,000 times 8.5%, which is $1,275, giving you a total annual interest of $4,275. All of the loans added together are $55,000, so divide $4,275 by $55,000 to get 7.77%. If your consolidated loan doesn’t beat that by at least a little, it’s not worth consolidating, and the older your loans are, the greater the difference needs to be to consolidate. If you’re past the five year mark or so, it’s almost never worth consolidating because the interest rate benefit will be eaten up by the longer term.

Also, some offers will include a small percentage reduction in your balance. Basically, a balance reduction is worthless if it doesn’t come packaged with a very competitive interest rate because even a 0.5% higher interest rate will undo the benefit of a 3% balance reduction over the lifetime of the loan.

Note that consolidation will not remove a defaulted loan from your credit history. A defaulted loan is serious bad news for your credit report, and it’s even worse if you consolidate before dealing with that loan. Why? Even though it’s now marked “paid in full,” it’s also still marked as being in default and that mark will stay on your credit history for seven years. Rather than consolidating, do whatever you have to do to get that loan rehabilitated before you consolidate.

In other words, you should really only consider consolidation if you are current on all of your loans, you haven’t been paying on them for too long, and you can get a distinctly lower interest rate. If you answer “no” to any of these, a student loan consolidation is probably not for you.

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  1. Ralthor says:

    If you have a direct Stafford loan from the government before July 2006 you are paying at a variable rate (not to go higher than 8 1/2), so if you consolidate it you will lock in the interest rate (I think they are still expected to rise). After July 2006 it looks like they switched to a fixed rate, so you don’t have as much to worry about. I was lucky enough to consolidate my loan at 4 and a quarter, the bad part though is I have absolutely no interest in paying more than the min. payment since tossing the extra money into an ING account make me (slightly) more money.

  2. Terry says:

    I have loans in default (making payments but not rehabilitated). I thought you CAN’T consolidate if you have any loans in default.

  3. Marshall says:

    Student loans are a big issue at my household. My wife will graduate next year as a Doctor of Vetrinary medicine with around 150K ( hopefully less!) in student loans. We consilidated 92K last June at 4.7% before the interest hike. The interest rates on that consildation will go down to 3.6% after 18 months.

    I have read lots of comments about student loans being good debt and I agree with that to some extent. If you have an interest rate less than inflation then it can be good. Otherwise its no different than a mortage or a car loan.

    We definitely do not intend to pay off the 92K conslidated early. We could pay it off early but that extra money will do much better earning interest in savings, mutual fund, IRA, etc. The loans after July 2006 of course are at the 6% variable rate but congress just passed a bill last month to reduce rate down to 3.5% over the next 5 years. I hope by the time she graduates (no more in school consildation after july 2006), we can consolidate below 6%. We will be paying that part off early if the interest rates aren’t lower than 5%.

    One important thing to consider when conslidating is to be VERY, VERY, VERY careful who you consildate with. There is an enormous amount of underhanded practices these consolidations companies will do. Once you conslidate with them, they may sell off your loans to another company and leave you with their terms and customer service which can be horrible compared to the original lender. In addition, they may try to keep you from getting benefits like an interest rate reduction by sending your first bill late which means your first payment is late.

    We went through a company called graduate leverage. This is just for graduate students, but basically these guys partner with a reputable lender and prevent them from doing any of the underhanded practices. We can be assured we can get our 1.25% rate reduction as long as we pay on time for 18 months and setup automatic withdrawls.

  4. imelda72 says:

    I’m doing research now on consolidation companies. One thing that’s REALLY important to note, which I just found out–that great “rate reduction” so many offer is usually immediately repealed if the student misses even one payment. And we all now how easy–if not inevitable–it is to make one late payment.

    There are some companies that *lock in* the rate reduction after 36 or 48 or however many months. They cannot be rescinded. Those are the companies I’m looking at, now.

  5. icup says:

    “Some lenders will make other claims, such as stating that it will help your credit report out, but that’s largely false – the formula that generates your credit score accounts for multiple student loans without breaking a sweat. Let me repeat: consolidation of student loans will not affect your credit history.”

    This is not entirely true. Anecdotally, I applied for a mortgage pre-approval at a time when I had submitted my application for consolidation, but the consolidation did not yet go through. I told that to the loan officer I was working with and she ran the numbers both with and without consolidation, and it came back approved in the with consolidation scenario and not approved without consolidation. So there must be something to it. IIRC, she didn’t change the monthly payment amount, just consolidated it into one payment, and that was literally the only change she made. This was Wells Fargo, by the way.

  6. Max says:

    I enjoyed your posting.
    I will try GRADUTE LEVERAGE for loan consolidation.
    Getting 1.25% rate reduction sounds reasonable after 18 months of automatic withdrawals.

    Investing as a new home buyer with the hope of selling it to pay off student loan is another option, though risky in the current mortgage market and job uncertainty. However, if one does not take a risk, one may never get certain dreams come true.

  7. Max says:

    Some contributors also suggested a preparation for retirement by signing up for the RRSP(Registered Retirement Savings plan)
    Can someone through more light on this for credibility and reliability?
    Thank you.

  8. Marlene says:

    Regarding the blog site operator, may I question how does one remedy useless posts?
    I was able to spend mainly for suggestions to take care of it!

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