Beware of the Student Loan Consolidation Temptation

Note: This article was published as a 3-part educational series for the Deseret News on April 11, June 25 and July 17, 2013.

It defines:

  • the 3 different types of consolidation (federal, private & overall)
  • things to consider prior to consolidating
  • pitfalls to avoid (such as rushing into consolidation as though it’s a one-size-fits-all solution – unethical debt relief agencies always push this)

I’ve consolidated the series into one post here, for easier reading.

– – –


Student loan consolidation is being offered as the quick and easy solution to all student debt-related problems. However, before anyone consolidates, they need to make sure that they truly understand the financial impact of what they’re getting into.


The consolidation nation?

There are numerous companies offering federal student loan consolidation, private loan consolidation and even overall debt consolidation as the one-size-fits-all fix to every debtor’s worries.

Granted, consolidating your loans can be a quick fix to a number of complicated problems, especially when it comes to student loans. It can quickly transform your student debt from a confusing mess of loans with multiple lenders, interest rates and loan types into one big loan with one interest rate and one monthly payment.

However, before anyone considers consolidating any kind of debt, they need to know what they are getting into. Consolidation can produce excellent benefits on the right candidate’s financial portfolio, but it can also wreak long-term havoc on the wrong candidate’s financial portfolio, as well.


What exactly is consolidation?

Student loan consolidation can mean one of three different things.

  • Federal student loan consolidation
  • Private student loan consolidation
  • Consolidation of various forms of debt, including your mortgage, car lien and credit card debt

If you’re considering any of these three types of consolidation, read on to discover a few key factors you ought to take into account, prior to taking action on your student loan debt portfolio.


Federal student loan consolidation

Federal student loan consolidation is the result of combining federal student loans into a single loan. This includes but isn’t limited to FFELP loans, direct loans, Perkins loans, nursing student loans, federal insured student loans and health professions student loans.

When considering federal student loan consolidation, there are three main points that few people know about, or that student loan lenders will take the time to explain to you:

1. Your interest rate may be rounded up. When you consolidate your federal loans, you will receive one rate for the entire loan, which is calculated on a weighted average of your loans, combined.

Also, your new federal consolidation loan will accrue interest at about the same rate as your loans did, in total, before they were consolidated.

As a result, there are simply no interest rate advantages to consolidating. In fact, the figure may be rounded up slightly, which will result in a higher interest rate. For example, two federal student loans with interest rates at 2.39 percent will consolidate at 2.5 percent.

2. You will miss out on payment targeting. When you have many differing loans with different lenders, you likely have different interest rates as well. Having these loans separate allows you the freedom to send greater amounts of money to the higher rate loans. This will help you pay down your debt faster, and result in a reduced amount of interest paid over the life of the loans.

If you consolidate your federal loans, you can no longer take advantage of this and other helpful federal repayment strategies.

3. You may diminish the amount of repayment assistance you qualify for. When you consolidate, it becomes a new loan with new rules. Consolidation loans have different qualifications for certain repayment options. Keeping your loans separate for the appropriate time frame can provide greater flexibility in your repayment assistance.

How this applies to you depends specifically on your individual situation — not only on the details of all your loans, but what your financial circumstances and plans are as well.


If you choose to consolidate your federal loans

If, after reading these tips, you still believe that consolidating your federal student loans is right for you, your first choice should always be to do so via the Direct Loans Consolidation Program.

There are no additional costs for consolidating through this program, and you’ll be able to keep your eligibility for the substantial multitude of federal repayment assistance options like deferment, forbearance and income-based repayment plans.

Another boon of consolidating via the Direct Loans Consolidation Program is that your credit score will not be a determining factor as to whether you qualify. This program offers very flexible eligibility in general, particularly toward creditworthiness.

Understanding your options and the impact that federal student loan consolidation will have on your loans is crucial when trying to make the best decisions for your financial future.


Private student loan consolidation

Private student loan consolidation is the result of combining several private loans into a single loan. Private loans come from organizations like Chase, Wells Fargo and others, and generally cannot be consolidated together with federal loans (and vice versa).

If you’re considering consolidating your private student loans, consider the following three points before moving forward.

1. Applying for private student loan consolidation is just like applying for a new loan through a bank. Although the bank may take into account that you are paying off other debt, it will still consider factors such as your credit score and income-to-debt ratio when determining whether or not you qualify for the consolidation, and what interest rate it will be offering you.

2. Private student loans are usually only suitable for parent co-signers. The reason for this is simply because parents often make substantial amounts of money, and have good enough credit to make loan consolidation worth their while. Most student borrowers don’t have the income and/or creditworthiness to qualify for a lower rate.

3. The interest rate they offer you will likely be a “range.” In other words, they won’t commit to an exact rate offer until you commit to the loan. Sometimes the offer ranges 3 percent or more. For example, a typical offer for a borrower who has a credit score in the mid-700s with a six-figure income is about 4 percent to 7 percent.

Still, you won’t find out your actual interest rate until you complete the consolidation. Generally speaking, those who fall under this category already have low rates on their private loans.

If you are in fact considering consolidating your private loans, there are a few lenders that specialize in this type of loan consolidation. A good list of options can be found here.


Overall debt consolidation

Overall debt consolidation is a type of “financial relief” resource that is commonly and often aggressively marketed to student loan borrowers, just as federal student loan consolidation and private student loan consolidation are.

Overall debt consolidation moves all of your existing debt into a single loan, and applies an interest rate to the total balance that is ideally lower than the average interest rate of all of the outstanding credit.

Both federal and private loans can be included in these types of consolidations. However, including student loans within this type of debt consolidation is usually not a good idea for three significant reasons.

1. You will miss out on generous federal student loan repayment assistance, including income based repayment, deferment and forbearance.

Borrowers have at their disposal a wide array of repayment assistance. For federal loans alone, there are well over a dozen types of repayment assistance plans (such as deferments, forbearance, income based repayment plans and interest only repayment plans) that are presently available.

However, when borrowers choose to include federal student loans in a consolidation with other outstanding debt (e.g. credit card debt, car lien) they miss out on the many forms of repayment assistance that are generously made available exclusively for their federal student loans.

In comparison to credit card lenders and mortgage lenders, student loan lenders, both private and federal, offer the most flexible and extensive repayment assistance to their borrowers. This certainly should not be dismissed.

2. The borrower will likely end up paying the debt consolidation lender more than the amount they could have negotiated with their creditors themselves.

Borrowers often don’t realize that since they are not dealing with the collection agency or lender directly, they could have negotiated an even better outcome had they had spoken with their lending company directly.

Moreover, working with a debt consolidation company takes away the greater control a borrower could have had over outstanding debt. In fact, when borrowers put a third party in charge of negotiating their debt repayment, they need to beware that this third party might not have their best interest in mind.

Some debt consolidation lenders even offer consolidation to those with defaulted student loans. They’ll negotiate a settlement with the lender, and then charge the defaulted borrower for their services.

In this scenario, the debt consolidation lender sets up an escrow account for the borrower — which, in these circumstances, is generally not a creditworthy applicant — to pay the debt off slowly while the debt consolidator negotiates the settlement.

3. Federal student loans already offer the option of rehabilitating loans, if the borrower makes nine consecutive payments.

Once a loan is rehabilitated, the borrower’s loan is now in good standing, and the borrower once again qualifies for all the available federal student loan repayment assistance. This includes deferments, forbearance, income based repayment, pay as you earn and income sensitive repayment.

However, if borrowers choose to consolidate with a debt consolidation lender, they’ll miss out on this borrower-friendly caveat.



Now that you are apprised of all the above information, you may decide not to rush into any kind of consolidation – and that is a very good thing!

No matter what type of student loan consolidation you are considering, understanding your options and the impact that any type of consolidation will have on your loans and entire financial landscape is crucial when trying to make the best decisions for your financial future.

Consolidation is not a quick-fix solution that meets everyone’s needs. Make sure you speak with a trustworthy student loan industry professional who can guide you to the best possible decision with regards to repaying your student loans.

If you’ve made it through to the end of this article, congratulations! Kudos to you for taking the time to thoroughly read about student loan consolidation, and learn whether it’s right for you and your financial wellness.

If this post has brought you more questions than answers, please schedule a free consultation with me by clicking here.

Together, we’ll go over your student loan debt portfolio, best repayment strategy and what next tangible steps you can take to make the best of repaying your student loan debt.



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