How to Repay and Forgive Student Loans

student loan forgiveness photoDirect Student Loan borrowers now have more flexibility to repay, and ultimately to have forgiven, their student loans. The Obama Administration recently finalized a new income-driven student loan repayment plan, called Revised Pay As You Earn (REPAYE).

The rules allow all Direct Student Loan borrowers to be eligible for the repayment plan, provide an upper limit on the monthly repayment amount, and forgive loan balances after 20 or 25 years of repayment.

This new plan becomes available to current borrowers in December of 2015. To enroll in the program, visit or contact whoever services your loans and request to be put into this new plan.

This new plan is in addition to the existing three income-driven repayment plans:

• Income-Based Repayment Plan (IBR Plan) (Generally limits payments to 10 or 15 percent of your discretionary income (depending when you borrowed your loans), but never more than the 10-year Standard Repayment Plan amount.)

• Pay As You Earn Repayment Plan (Pay As You Earn (PAYE) Plan) (Generally 10 percent of your discretionary income, but never more than the 10-year Standard Repayment Plan amount.)

Note: the IBR and PAYE plans require that you have a partial financial hardship to qualify.

• Income-Contingent Repayment Plan (ICR Plan) (The lesser of the following either 20 percent of your discretionary income or what you would pay on a repayment plan with a fixed payment over the course of 12 years, adjusted according to your income.)

Who is Eligible under the New REPAYE Plan?

The REPAYE plan is available to students with any federal loans made prior to October 1, 2007. However, only your Direct Loans will be eligible to be repaid under the plan – not your pre-October 1, 2007 loans. Other existing student loans cannot be used in the calculation of the reduced payment amount under the REPAYE plan.

Borrowers with other federal loans (Federal Family Education Loans (FFEL) which were made prior to October 2007) may pay their loans under this new program if they consolidate their older loan(s) into a Direct Consolidation Loan and pay the consolidation loan under the REPAYE plan. The payments you made prior to the consolidation unfortunately don’t count toward the number of payments needed for the loan to be forgiven under the REPAYE plan. The clock starts over again.

What is the Amount of the Payment?

The repayment amount is limited to no more than 10% of the amount that your Adjusted Gross Income (AGI) exceeds 150 percent of the federal poverty guidelines for your family size. AGI is generally your annual income less your retirement plan contributions and your health benefit plan premium.

For a single borrower (family size of one) 150% of the federal poverty line is $17,655/year in income. So if your annual AGI is $35,000, the student loan payment cannot be more than $144.54/month ($35,000 – $17,655) x 10% = $1,734.50/year or $144.54/month.

This limit on the repayment amount applies to the borrower’s Direct Student loans (those borrowed after October 1, 2007). FFEL loans made before October 1, 2007 are not subject to this plan unless they are consolidated into a Direct Consolidation Loan. It is only your Direct Student Loans whose payment is limited to 10% of your discretionary income.

How is AGI Calculated for Married Borrowers?

Spousal income will be included in the calculation of your AGI regardless of your tax filing status. This provision is a change from the other income–driven plans which exclude spousal income if the couple files their federal taxes using the “married filing separate” filing status.

How Does the Department of Education Know My AGI?

You must provide documentation to the Department of Education that verifies your AGI. In addition, you must do so each year through an annual notice provision. The Department of Education is looking into providing a multi-year consent process that allows them to tap into IRS databases to do the initial and annual verification.  This process is not yet in place.

You jeopardize your continuing eligibility for the program if you do not provide timely annual verification of your AGI. This process is a pain, but a necessary one for now.

How Long Do I Have to Keep Paying the Loans?

Borrowers with any graduate school loans will have to make 25 years of payments before any remaining debt is forgiven. Borrowers with only undergraduate debt can receive forgiveness after 20 years. It bears repeating that if you consolidate multiple loans into one Direct Consolidation loan, qualifying payments made before the loans were combined don’t count. The 20- or 25-year clock starts all over.

Does it Make Sense to Switch to the REPAYE Plan If I Use Another Income-Driven Repayment Plan?

It generally won’t be in your financial interest to switch to this new plan if you already in an income-driven repayment plan. Any accrued but unpaid interest will be capitalized at the time the borrower leaves the IBR or the Pay As You Earn repayment plans and switches to the new REPAYE plan. Capitalization means that any interest accrued, but not yet paid, is added to the outstanding principal amount.

For this reason, the Department of Education does not anticipate that many borrowers will take advantage of this new program because they already are on track for loan forgiveness. It wouldn’t make financial sense to switch to the new program.

REPAYE and Public Service Loan Forgiveness Program

Once of the best features of this new plan is that if you are in public service, you can lower your current payments rather than continuing to pay under the standard 10-year repayment plan. The clock does not start over again if you switch into the REPAYE plan. Rather timely payments made after October 1, 2007 under any plan will count toward the public service loan forgiveness.

It makes sense to switch to this new plan if you are not under an IDR repayment plan and now qualify for this REPAYE plan. Make sure to tell your current loan servicer that you want to start or continue with the Public Service Loan Forgiveness Program while in this REPAYE plan.

Tax Implications of Loan Forgiveness

Be forewarned that any loan amount forgiven under the REPAYE plan (or any other loan forgiveness program) is treated as taxable income. You may face a large tax bill once your loans are forgiven. So please be aware of this fact and plan accordingly. You don’t necessarily want to replace your student loans with new tax debt!

These new rules provide relief for eligible borrowers to repay, and ultimately forgive, their student loans.

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