The Pros And Cons Of Income-Driven Student Loan Repayment Plans

The Standard Repayment Plan for federal student loans requires ten years of equal payments. But with student debt burdens growing, that quick and level payoff is not always possible. The average 2016 college graduate who borrowed, left school owing $28,400, according to the College Board. Count in graduate school debt too, and the New York Federal Reserve reports that more than seven million student loan borrowers owe $50,000 or more.

While Uncle Sam does offer a level payment extended plan lasting as long as 25 years, most of the options for dealing with what seems like overwhelming debt are plans linked to your earnings.

Related: Student Loan Refinancing Rates From Up To 10 Lenders

What are income-driven repayment plans?

There are four types of federal loan payment plans where the amount you pay each month is tied to your earnings. Note that all of this only applies to federal direct loans, so whatever amount of money you borrowed from a private lender is not eligible.

Here’s a breakdown of the different kinds of plans available, with terms and rates, as well an overview of the pros and cons of these plans in general.

1. Income-Based Repayment Plan (IBR)

Income-based repayment plans, also called income-driven repayment plans, are recommended for federal loan borrowers whose monthly loans add up to more than 10% of their discretionary income.

This is one of the most generous plans. If you can prove that the standard 10-year plan is unaffordable, and you started borrowing money after July 1, 2014, this may be the best program for you.

Terms: Never more than 15% of your discretionary income; forgiveness after 25 years.   ( For IBR, discretionary income is defined as the difference between your annual income and 150 percent of the federal poverty guideline for your family size and state of residence.)

2. Income-Contingent Repayment Plan (ICR)

This is the only income-based repayment plan available to Parent PLUS loan borrowers. You must consolidate your loans before qualifying.

An income-contingent repayment plan is good for someone who is struggling to make their standard monthly loan payments, but could pay more than 10% of their discretionary income a month. Payments are capped at 20% of discretionary income or the amount of your fixed monthly payment on a 12-year loan term. If that sounds confusing to you, use this calculator to figure out what exactly you’d need to pay each month.

Terms: Never more than 20% of your discretionary income or the amount of your fixed monthly payments on a 12-year loan term; promised forgiveness after 25 years.  (For ICR, discretionary income is defined as the difference between your annual income and 100 percent of the poverty guideline for your family size and state of residence.)

3. Pay As You Earn (PAYE)

If you are struggling to meet your monthly payments and were a direct loan borrower on or after Oct. 1, 2007, and took out another direct loan on or after Oct. 1, 2011, then this is the right payment plan for you. Monthly loan payments are maxed out at 10% of discretionary income. In order to qualify, you must prove that you cannot make the standard 10-year repayment plan.

If you qualify for PAYE, this is one of the most generous offers available. This plan is also a great opportunity for those who qualify for the federal Public Service Loan Forgiveness program. If you repay your loans with PAYE, and qualify for the public service program, you don’t have to pay income tax on the forgiven loan.

Terms: Never more than 10% of your discretionary income; promised forgiveness after 20 years.  (For PAYE,  as for IBR, discretionary income is defined as the difference between your annual income and 150 percent of the federal poverty guideline for your family size and state of residence.)

4. Revised Pay As You Earn (REPAYE)

This program has fewer eligibility requirements than PAYE or IBR. If you are struggling to make monthly payments but don’t qualify for other income-based repayment plans, then this may be the right option for you. However, since this has fewer eligibility requirements, the terms are not as generous as PAYE or IBR.

Also, if you are married, this plan takes into account both spouses’ earnings, even if you file taxes separately. So if you are on RePAYE, and your spouse earns significantly more than you, you will end up paying more each month than 10% of your discretionary income.

Terms: 10% of your discretionary income; promised forgiveness after 20 or 25 years. (For RePAYE, as for PAYE and IBR, discretionary income is defined as the difference between your annual income and 150 percent of the federal poverty guideline for your family size and state of residence.)

Now that we’ve run through each type of loan, here are the overall benefits and costs of income-based repayment plans in general. Obviously, paying less money each month is huge perk, but it isn’t all gravy.

Overall benefits

• The benefit of these types of plan is that after 20 to 25 years, any remaining balance on your loan will be forgiven. In the meantime, your loans are consolidated to manageable monthly payments.

Overall burdens

• You have to sign up every year. If you miss the deadline to recertify your income and family size, your monthly payment will revert to the standard payment plan.
• The amount that you pay will change based on your income and family situation. If you get married and your spouse makes more money than you, you could become ineligible for your repayment plan.
• You have to pay income tax on whatever is forgiven, so at the end of your term, be prepared for a high tax bill.

All of these federal loan repayment plans come down to the numbers. What are you earning now? How much do you have to pay back? And what are your expected earnings? It’s important to do the math before deciding which option is best. Use this repayment estimator to see what each plan will mean for you for the next two decades of your life.