Ask Dr. Don By Don Taylor, Ph.D., CFA • Bankrate.com

Consolidating student loans

Dr. Don,
My question is about student loans. My wife recently graduated from college and financed her college education with student loans. We are receiving letters from companies offering to consolidate all the loans into one loan with one payment and a fixed interest rate. This will make it easier for us to manage the debt. What is the best way to handle all these student loans?
David Debtor

Dear David,
Congratulations to your wife on completing school. Now comes the hard part, paying for it!

Debt consolidation makes sense if you can either lower the interest rate or extend the loan term to make the monthly payment more affordable. You should be able to do both when you consolidate her student loans.

The Higher Education Act provides for a loan consolidation program under both the Federal Family Education Loan Programs and the Direct Loan Program. Under both of these programs, a borrower's loans are paid off and a new consolidation loan is created.

These programs simplify loan repayment by combining several types of federal education loans into one new loan. The interest rate may be lower than on one or more of the underlying loans.

In addition, the monthly payment amount on a consolidation loan is usually lower, and the amount of time to repay may be extended beyond what was available in the separate loan programs. These features should result in more manageable debt repayment schedule. You can estimate how consolidation will work by using the Department of Education's Direct Consolidated Loan Calculator.

The Direct Consolidated Loan Program can reduce the interest rate on her consolidated loan by a quarter of a percent if she uses an Electronic Debit Account (EDA). Loan payments are automatically debited from her bank account. The discount does not apply during grace, deferment, in-school, or forbearance periods.

Plus, borrowers who consolidate eligible student loans into the Federal Direct Consolidation Loan Program between Oct. 1, 2000, and Sept. 30, 2001, will receive an immediate interest rate reduction of 0.8 percent.

However, to keep this benefit beyond the initial 12-month period, a borrower must make the first 12 monthly payments on time. The 0.8 percent rate reduction will become permanent once these first 12 payments are made on time.

See the Department of Education site's Current Interest Rate page for additional information.

A few caveats about this program. Borrowers are required to continue making payments with their current lender(s) until they receive written notification that their loan(s) has been successfully consolidated. Consolidating loans while in a grace period on your outstanding loans can shorten the grace period because the direct consolidated loan payments begin within 60 days of the date when the consolidation loan is made.

The following loans may be consolidated into a Direct Consolidation Loan:

Subsidized Loans
• Subsidized Federal Stafford Loans
• Guaranteed Student Loans (GSL)
• Federal Insured Student Loans (FISL)
• Federal Direct Stafford/Ford Loans
• Federal Direct Subsidized Consolidation Loans
• Federal Perkins Loans
• National Direct Student Loans
• National Defense Student Loans
• Subsidized Federal Consolidation Loans

Unsubsidized Loans
• Federal Supplemental Loans for Student (SLS)
• Unsubsidized Federal Stafford Loans
• Unsubsidized Federal Consolidation Loans
• Federal Direct Unsubsidized Consolidation Loans
• Federal Direct Unsubsidized Stafford/Ford Loans
• Auxiliary Loans to Assist Students (ALAS)
• Health Professional Student Loans (HPSL)
• Health Education Assistance Loans (HEAL)
• Federal PLUS Loans
• Parental Loans for Undergraduate Students (PLUS)
• Federal Direct PLUS Loans
• Federal Direct PLUS Consolidation Loans
• Nursing Student Loans (NSL)
• Loans for Disadvantaged Students (LDS)

There are four repayment plans:

• The Standard Repayment Plan has fixed monthly payments for a maximum of 10 years.
• The Extended Repayment plan has fixed monthly payments that are less than the payments under the Standard plan with repayment ranging from 12 to 30 years depending on the total amount borrowed.
• The Graduated Repayment Plan has monthly payments that increase every two years with a repayment period varying from 12 to 30 years depending on the total amount borrowed.
• Finally, the Income Contingent Repayment Plan has monthly payments that are based on the borrower's annual adjusted gross income, family size, and total Direct Loan debt, and are spread over a term of up to 25 years.

You can apply online through Borrower Services on the Department of Education's Loan Consolidation Web site.

  -- Posted: Aug. 9, 2001