What is Income- based Repayment of Student Loans

With higher education, comes better career prospects, what also comes along are heavy expenses in the form of high tuition fee, costly books and living expenditures. Savings are generally not sufficient to pay for all educational expenses. That is when student loans come into the picture.

A student loan is specifically designed for students to pay for their education expenses and carry substantially lower interest rates and suitable repayment schedules to help students pay them back when they are capable of. But repaying a student loan is not as easy a task as taking out one. A borrower can find oneself caught in a difficult financial situation while repaying a student loan. However, there can be various ways to help an individual pay off a loan.

Selecting a new repayment plan can help an individual reduce his/ her monthly payments towards debt and facilitate making payment rather than defaulting one. Under the income- based repayment plan , the maximum monthly payment towards the student debt is reduced to fifteen percent of the discretionary income. Discretionary income is the difference between the borrowers’ income and one hundred fifty percent of the poverty recommendation with respect to one’s family size and residence state, with some other terms and conditions also applicable.

U.S. Department of Health and Human Services maintain the poverty recommendation to be used. Since the repayment is based on a borrower’s income, therefore, the repayment amount changes along with any change in the income. The borrower is supposed to make loan repayments for a time period of 25 years, after which the remaining amount of student debt in the name of the borrower is forgiven by the federal government.  

Eligibility for Income- based repayment plan

The income based repayment plan is available on Direct Unsubsidized and Subsidized loans, Unsubsidized and Subsidized Stafford Federal loans, PLUS loans of students. Consolidated Federal Family Education loan and Direct loans are also eligible for this repayment plan only if they are not taken out by the parent. The borrower should have a partial financial hardship in order to avail this repayment plan. If the annual loan repayment amount on a standard repayment plan of ten years is higher than the annual repayment required to be made under income- based repayment plan, the borrower is said to be in partial financial hardship. 

Policy changes for borrowers with Income- based repayment plan 

The latest policy changes regarding student debt devised by the Middle class task force which was chaired by Vice- President Biden aims to expand the ambit of this repayment plan and include more than 1.2 million students in the ambit of this beneficial repayment plan. For students registering in 2014 or after 2014 can avail the extra benefits that this expansion and amendment will reinforce. The monthly loan repayment will be capped to 10 percent of the discretionary income over basic living allowance. This would help more than 1 million borrowers to lessen their monthly loan repayment.

For example, for a person with monthly income of $30,000 and debt amount of $20,000, this repayment plan would reduce the monthly payment by $110. Such reduction can help an individual manage his finances in a more effective manner. The current law requires repayment of loan for a time- period of 25 years to have the remaining student debt forgiven; however, the proposed amendment has reduced this time period from twenty- five to twenty years. The time frame for repayment is only ten years for professionals serving the public sector such as education, health military services and nursing et cetera. 

Limitations of Income- based repayment plan

Income- based repayment plan mainly contains two limitations. In spite of reducing the monthly payment made towards debt to only 15 percent of the discretionary income, income- based repayment raises the total amount of repayment made towards debt when compared to the standard ten year repayment plan. This happens because the time frame of repayment increases to twenty- five years and hence, even though monthly payments are low, the aggregate comes out to be much higher.

Also, one the borrower has made qualifying payment towards debt for twenty- five years, the remaining debt is forgiven. What comes as a shock to the borrower is the tax implication that follows. Amount of discharge of student loan is considered to be taxable income. The borrower needs to prove his/ her hardship in paying the tax bill in order to get it reduced by the agency imposing tax. This is sometimes referred to as government’s way of giving from one hand and taking away from the other. Therefore, it becomes important for the borrower to analyse the terms and conditions before availing the benefit of discharge of student loan.

Conclusion

Income- based repayment plan definitely offers multiple benefits to an individual who is serious to repay his/ her student loan. However, like everything, it has its own set of pitfalls. It therefore becomes necessary for a prudent borrower to analyse all the terms and conditions of all repayment plans available and then choose the best suited plan. What might be of great use to one borrower might not be of any benefit to the other. The federal government is making constant efforts to make this repayment plan more accessible and affordable with each passing year with the aim of spreading the benefits of this repayment plan.