What Is Income Driven Repayment and Is It Right For You?

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While college is one of the most exciting times in a young adult’s life, it’s also rife with expensive textbooks, housing, and tuition costs. In fact, the average student loan payments only continues to rise and recent Federal Reserve data revealed that Americans officially owe $1.5 trillion in student loan debt. Yikes.

However, many believe that no amount of debt would deter them from getting the college experience as it’s an important investment for future endeavors. And while Standard Payment Plans offer terms as long as 10 years, there’s a solution that might significantly decrease your monthly payments and afford you a little extra spending cash each month. That solution is Income-Driven Repayment, and we’ll tell you exactly what it is.

What Is Income-Driven Repayment?

Income-Driven Repayment (IDR) plans are designed to make student loans manageable for those whose debt is high compared to their income. The Department of Education offers these plans as a percentage of your discretionary income based on income and family size. There are four types of plans each with subtle differentiation, and it can be a bit overwhelming to choose one. We’ll dive into each below.

Types of Income-Driven Repayment Plans

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There are four types of IBR: Pay As You Earn, Revised Pay As You Earn, Income-Based Repayment, and Income-Contingent Repayment. Each yields different payments and different pay periods, where some might require no monthly payments at all. Often, if loans aren’t paid in full by the end of your repayment term, the remaining balance can be eradicated regardless of plan.

Income-Based Repayment (IBR)

People often confuse Income-Based Repayment (IBR) with repayment plans as a whole, but this is actually a specific type of plan with various stipulations and differences from the other three options available. With IBR, monthly payments are generally equal to 15 percent of your discretionary income, divided by 12. However, this also depends on the date of your first loan.

For example, say you have a discretionary income of $10,000. First, take 15 percent of this number which is equal to $1,500. Then, divide $1,500 by 12 months to get your monthly payment: $125.
*NOTE: This estimate doesn’t take into account date of first loan, loan amount, and other significant factors that may impact your total monthly payment.

Income-based repayment is a viable option for anyone regardless of when loans were received. It’s a bit more flexible than other plans available in terms of eligible loans considered. The repayment term is 20 years for borrowers on or after July 1, 2014 and 25 years for all others.

Income-Contingent Repayment (ICR)

Income-Contingent Repayment (ICR) has the highest potential monthly payments out of all plans, however it’s the only one in which the Parent PLUS Loans qualify for if they are consolidated into a Direct Loan. Under this plan, monthly payments are the lesser of:

  1. What your payments would be on a repayment plan with a fixed monthly payment over 12 years, adjusted based on your income
  2. 20 percent of your discretionary income, divided by 12

For example, if the second is the lesser of the two options, say you have a discretionary income of $10,000. First, take 20 percent of this number which is equal to $2,000. Then, divide $2,000 by 12 months to get your monthly payment: $166.
* NOTE: This estimate doesn’t take into account date of first loan, loan amount, and other significant factors that may impact your total monthly payment.

It’s important to note that these payments might even be higher than those from the Standard Payment Plan in certain circumstances. ICR doesn’t have any eligibility requirements. The term for these is 25 years.

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Pay As You Earn (PAYE)

As one of the newer repayment options available, Pay As You Earn (PAYE) offers the lowest payment amount for those who are eligible. Under this plan, monthly payments generally equal 10 percent of your discretionary income divided by 12. This payment is based on gross income, family size, and total eligible federal student loan balance. The repayment term is 20 years.

For example, if the second is the lesser of the two options, say you have a discretionary income of $10,000. First, take 10 percent of this number which is equal to $1,000. Then, divide $1,000 by 12 months to get your monthly payment: $83.
* NOTE: This estimate doesn’t take into account date of first loan, loan amount, and other significant factors that may impact your total monthly payment.

PAYE’s requirements are a bit stricter than those of Income-Based Repayment. You must demonstrate financial need to qualify as well as be a new borrower as of October 2007.

Revised Pay As You Earn (REPAYE)

Revised Pay As You Earn (REPAYE) is the newest payment plan and has been available since 2015. Similar to PAYE, your monthly payment under this plan is generally 10 percent of your discretionary income divided by 12. The key difference in plans comes down to eligibility. For REPAYE, you are eligible regardless of when you took out your first loan and also don’t have to demonstrate financial need.

For example, if the second is the lesser of the two options, say you have a discretionary income of $10,000. First, take 10 percent of this number which is equal to $1,000. Then, divide $1,000 by 12 months to get your monthly payment: $83.
* NOTE: This estimate doesn’t take into account date of first loan, loan amount, and other significant factors that may impact your total monthly payment.

The term is 20 years for undergraduate loans and 25 years for graduate school loans. One thing to note here is that your spouse’s income is included in the monthly payment calculations even if you file taxes separately.

Benefits of Income-Driven Repayment Plans

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Aside from the obvious benefit of lower monthly payments, these repayment plans have various other added bonuses that are important to recognize when determining if it’s the right decision for you.

Lower Monthly Payments
The obvious main benefit of IDR is lower monthly payments. In some cases this is a significant decrease. In many cases, annual salaries are on the lower end right out of school, and a monthly paycheck isn’t enough to cover basic necessities on top of student loans. Repayment plans can help alleviate this burden and make payments manageable.

Loan Forgiveness
Depending on which program you choose, remaining balances will likely be forgotten after the term length.

Changes in Payments
Each year, you are responsible for reapplying as your situations change. Say you have a baby or your yearly income changes significantly, you can take another look at the options. You’re not locked into fixed monthly rates, so find the plan that is manageable for your unique situation.

Pursue a Higher Degree
IDR plans make it possible to pursue other dreams. They’re particularly helpful for those in a specialized field who have more school or those who want to go into graduate programs as they keep payments affordable on top of low or part-time salaries.

Income Based Repayment Disadvantages

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You might be immediately convinced IDR is a must because, who wouldn’t jump at the chance to lower their student loan payments? But it’s important to outline not only the pros, but the cons of these options before diving in. Below are some of the disadvantages to these repayment plans.

Higher Payments
In some cases, your payments might be higher than those on a standard 10-year plan. Because payments are based on your annual income, if you start making more money, you could see them skyrocket. Consider the PAYE option in this case as it won’t ask you to pay more than the standard 10-year plan.

Longer Payments
Even though you might be making significantly smaller monthly payments, terms are 20 to 25 years for all these plans. That is double the standard term of 10 years, so you’ll be paying off debt a decade longer than you would have otherwise. Make sure to take this into consideration when planning for your future.

Interest Can Rack Up
Because you’ll be paying this debt off for a longer period of time, you’ll likely accrue more interest in the long run.

Complicated Paperwork
Forget about out of sight, out of mind auto payments. IBR plans require you recertify and submit a new application every year to provide proof of your income and family size. And it’s not the easiest of applications. The annual paperwork is completed using complicated, time-consuming forms.

How to Apply For Income-Driven Repayment

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The easiest way to apply for IDR is to visit StudentLoans.gov. They’ve made the process seamless and efficient with a faster online application. If you prefer to do it manually, you can get a paper form from your loan servicer. Remember, for IBR and PAYE you’ll need to demonstrate financial need. Before applying, make sure to gather all the assets you’ll need to successfully complete the forms:

  • Federal Student Aid ID
  • Personal Information
    • Address
    • Email Address
    • Phone Number
  • Spouse Information (if applicable)
  • Income Information
    • IRS tax return information

Navigating the world of student loan debt might seem taxing (no pun intended) and a bit daunting, but there are plans and processes in place intended to help individuals in each of their own unique situations. If you decide an income driven repayment plan is right for you, make sure to do ample research before choosing a plan and always consider your future. To check your finances before diving in, consult Turbo. We offer free tips and tools like a personal loan payment calculator that can help manage your money and debt payments.

Sources: Student Aid | Student Loans | Student Loan Hero | Great Lakes

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