Yahoo Finance Private Student Loan Refinancing Carries Risks, Rewards
John Moye was tackling $40,000 in high-rate federal student loans when a friend pointed out that he might find lower rates elsewhere.
An online search brought up SoFi, a company that lets borrowers refinance student loans through a network of private and institutional investors.
"I have a strong financial background, and it was easy for me to compare interest rates and think it through," says Moye , who earned his MBA from College of Charleston.
[Discover how student loan repayment changes after graduate school.]
Moye is repaying his remaining $31,000 through SoFi at a 5.49 percent fixed rate, about two percentage points lower than his highest-rate federal loans.
While Moye has had a mostly good experience -- he gives it four out of five stars -- prospective refinancers should weigh the rewards against a sizable stack of risks, say experts.
"Refinancing federal loans to private is a one-way street," says Adam S. Minsky, an attorney specializing in student loan debt. "If you leave, you can't refinance back into it."
Here's what student loan borrowers should know about this major money move.
-- The definition: Refinancing involves paying off an existing debt by taking on a new loan, with new terms.
A private lender will typically base the refinanced rate on financial factors, such as the borrower's credit score. Often, borrowers can choose between a variable-rate loan, which fluctuates with financial markets, and a fixed-rate loan.
While private loan refinancing can involve the consolidation of various loans, it differs from federal loan consolidation, which converts the interest rates to a weighted average.
-- The benefits: Borrowers with high-interest rate federal loans, such as PLUS loans, may benefit most from refinancing, say experts.
"The greater their interest rate on the original loan, the more money we're able to save them," says Mike Cagney, co-founder and CEO of SoFi.
Another benefit is the option to shrink repayment to five years or extend it to 15 years or more through some lenders. The longer term, combined with a lower interest rate, may lower monthly payments while keeping or reducing the amount repaid in total.
Some lenders provide Parent PLUS loan refinancing as well, which can be beneficial since those loans typically have higher rates and fewer repayment options than student loans.
[Learn about refinancing Federal Parent PLUS loans.]
When it comes to refinancing private student loans, "it's almost always beneficial to refinance at a better rate and better term," says Andrew Josuweit, CEO of Student Loan Hero, an online platform that helps students manage their loans.
But the decision gets more complex with refinancing federal loans.
-- The risks: Federal loans offer a range of borrower protections, from Public Service Loan Forgiveness, which can reduce monthly payments and eventually forgive debt for eligible borrowers, to deferment and forbearance, which give borrowers a temporary reprieve from repayment.
Those benefits aren't guaranteed once a borrower signs on with a private lender.
"If you lose your job, there's not much you can do to pause or lower monthly payments," says Josuweit.
Borrowers may lose the option to tie payments to income or find themselves defaulting on their debt.
[Find out what happens when you no longer meet the requirements for income-based repayment.]
"I caution against leaving the federal loan program, even for a better interest rate," says Minsky. "It's a risky thing to do."
There may be some exceptions. For example, SoFi offers forbearance through its Unemployment Protection Option.
-- The application: In order to qualify for private student loan refinancing, many lenders require that borrowers have solid credit, proof of having graduated and predictable future employment, say experts.
"Roughly 20 percent to 40 percent of borrowers who apply get approved," says Josuweit. About half of SoFi's applicants get the green light, says Cagney. Those are better odds than many other lenders give, he says.
"If you're making less than $60,000 per year, it'd be hard to refinance with us or any other low-rate private lenders," says Aryea Aranoff, chief strategy officer of Darien Rowayton Bank Education Finance, which offers student loan refinancing. The minimum credit score to qualify is 680, he says.
Those unable to qualify independently may be able to get on board with a cosigner. But that comes with its own risks, say experts.
"I would approach any type of cosigning arrangement with caution," says Minsky. "Both the borrower and cosigner are totally on hook for the entire loan. If one falls behind, the other is responsible."
For Moye, the overall refinancing experience has been positive, with one drawback. He'd hoped to score a lower interest rate than the one he's paying. But "for someone in my position, refinancing absolutely made sense," he says.
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