Should I consolidate my student loans?

During the past few years, millions of college students consolidated federal student loans to lock in the lower rates that were available. At the same time, many of them extended the terms of the loans to as long as 30 years. Although consolidating your loans and extending the term will lower your monthly payment, you’ll pay far more in total interest over the life of your loan. As an example, on a $20,000 loan with a 4.75 percent interest rate, you’ll pay:

• $210 per month on a 10-year loan
• $129 per month on a 20-year loan

Although your monthly payment is less with the 10-year loan, you’ll pay almost $5,800 more in interest. The good news is that the interest on student loans is usually tax-deductible. For more details, see www.irs.gov/faqs/faq-kw187html.

Generally, consolidating loans is a good idea if:

• You can lock in a lower interest rate.
• You’ll invest your savings, rather than frittering the money away.
• You put that extra money toward paying off debts with a higher interest rate.

If you don’t honestly believe you’ll use your savings to improve other aspects of your financial situation, you should endeavor to pay off your existing loans as quickly as possible. Also, increases in interest rates make consolidation a less attractive option than it once was.

Should I delay repaying my student loans?

If the thought of paying student loans 30 years from now bothers you and you would like to move toward the goal of paying them off, it might be smart to get started now. For example, a medical school graduate need not begin paying off her loans until she finishes her residency. Nevertheless, she may decide that stretching out student debt might keep her from pursuing other goals like buying a house.

With student loans, you are also entitled to a deferment or forbearance if you encounter a financial hardship. Unless there are exigent circumstances, putting your student loans behind you may be the best way to move forward toward your goals.

If your goal is buying a house or car, you will probably need to borrow money. Your existing debt, including student loans, will affect your ability to qualify for a mortgage or car loan. Financial institutions are less likely to lend you money if you’re already deep in debt from college. Student loans and other debts that exceed 8 percent of your income will usually hurt your chances of getting a mortgage.

What does it mean if the interest on my loan is capitalized?

With unsubsidized student loans, you are usually responsible for the interest while you're still in school. The lender may permit you to capitalize the interest that is owed instead of paying it as you go along. This unpaid interest is added to the principal balance of your loan which means your debt gets bigger and bigger. With capitalization, you end up paying interest on the interest you already owe. When the time comes to pay back your loan, your unpaid principal will be larger than the amount you originally borrowed and the monthly payment will most likely be higher.