As higher education gets expensive with each passing year, loans have definitely proved as a convenient source for the people who are not so financially strong. Consolidation is an effective way to merge one’s repayments in order to reduce the stress of multiple payments. It also lowers down the interest rate as compared to those applicable for individual borrowings.
With advancements in the field of science, technology, and business, higher education is now one of the most important factors which employers look for. The cost of education has increased sharply in the past few decades because of the involvement of private players. To bear these expenses, many people opt to borrow capital, which is paid back in certain period of time and with due interest. If a person takes multiple loans in order to finance his studies, there is always a problem in paying multiple monthly installments. To assist him, there is the provision of consolidation, with the help of which he can combine all his borrowings from a single lender and make a single monthly payment. It also sorts the inconvenience of going to different places and dealing with different authorities in order to make all the defrayals.
Almost all the federal borrowings can be consolidated to form a single repayment scheme with a fixed interest. There are many programs like FISL, Perkins, HEAL, NSL, Guaranteed Student Loans, Direct loans, and FFELP (Stafford, PLUS, SLS), under which students can borrow money. These financial aid packages generally include a combination of grants, scholarships, work-study packages, etc. There a some lenders who offer this provision on private education borrowings too. Both student and parent borrowers can opt for consolidation. However, they cannot inter-combine their loans, as consolidation is individual specific. In case of married students, each spouse becomes responsible for the full amount, and the amount cannot be separated if the couple gets divorced.
The interest rate on a consolidated amount is the weighted average of the interest rates on the respective borrowings along with the principal amount. It is rounded up to the nearest ⅛ of a percent and capped at 8.25% which means the maximum rate of interest can be 8.25%. In this case, let us suppose that the principal amounts and their respective rates of interest are as follows:
| Loans | Balance | Rate of Interest |
| Loan A | $5000 | 5.2% |
| Loan B | $4000 | 6.5% |
| Loan C | $7000 | 6.1% |
The weighted average rate of interest comes out to be ((5000*5.2%)+(4000*6.5%)+(7000*6.1%)) / (5000+4000+7000) = 5.91% which on being rounded off to ⅛ of a percent results in the fixed 5.875% consolidated rate of interest. Now let’s take a look at whether the borrower has really saved anything in his pocket. The total amount he has borrowed is USD 16000 (5000+4000+7000). If he pays the individual loans at their respective interests he will have to repay a total amount of USD 16947; whereas if he makes the consolidated payment for USD 16000 at the fixed rate of 5.875% in a span of 15 years, he will have to pay USD 16940, saving USD 7. This might not sound as a very promising offer, but when huge amounts are involved, these loans do make a difference.
There are different plans when it comes to such repayments. Besides standard repayment which is of 10 years, there are also schemes like graduated repayment, income contingent repayment (Direct Loans only), extended repayment and income sensitive repayment (FFEL only). There is also a provision of extending the term from 12 to 30 years. The total amount of interest paid will increase unless one continues to make the same monthly payment as before, which decreases the amount of interest to be paid. So while opting for consolidation, one should always keep in mind the following benefits and drawbacks:
Benefits
- Lower overall payment as compared to the amount which has to be paid considering individual loans.
- Reduced interest rate.
- Longer span of time for repayment.
- All payments in excess of scheduled payments go directly to principal so there is no issue of prepayment penalty.
Drawbacks
- As the rate of interest is fixed, one may be paying more if there is a sharp dip in the interest rates.
- Even if the monthly payments are lower, one might end up paying more because of the extended time.
- The perks offered for EFT (electronic funds transfer) and on time payments tend to be less for consolidation holders.
Before availing this facility, one should always look at the pros and cons and decide accordingly. He should also calculate the amount he’ll have to pay after consolidating and whether the profits will be significant in the long run.
