Income Driven Repayment Plans: How much could you save?
Student Loan Debt for Therapists 🤯
Does it feel like you're drowning in student loan debt? Are you worried you'll never be able to pay off your federal student loans? If so, this post is for you. Today we're going to discuss the five different Income Driven Repayment plans and how they might reduce your monthly payment and even allow a portion of your debt to be forgiven.
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As a therapist, you had to complete quite a bit of education, and that education did NOT come cheap. Between undergraduate, graduate and perhaps even doctorate-level education, having over $100,000 in student loans is far from the exception, it's pretty much the rule. And when you have that much student loan debt, it's understandable if you feel like you might never be able to fully pay that debt off.
I'm here with good news: you will be able to rid yourself of student loan debt. And perhaps even better, your monthly payment doesn't need to eat up a huge portion of your budget, leaving you with little money to pay for life's other necessities (not to mention some well-deserved luxuries). Income Driven Repayment plans were created for this exact reason.
Before we jump into the details, remember that nothing I'll cover here is financial advice for you to implement without careful thought and reflection. This is general education to help you decide the right path for yourself. I can't cover all of the important details of student loans in a single post. There are so many details and so many gotchas in student loans, please really think things through and double check all your work before making any changes. If you suspect you need professional guidance, please seek that out.
Will I benefit from an Income Driven Repayment Plan?
In general, if your student loan balances are larger than your annual income, you will likely benefit from an Income Driven Repayment Plan. Benefitting means that it will reduce your monthly payment and that at the end of 20 or 25 years or payments (yes, I know that's a long time), the remaining portion of your balance will be forgiven.
Check out my first blog post on Ten Student Loan Tips Every Therapist Should Know for a complete explanation on how to calculate this debt-to-income ratio. Remember, if you're married we want to look at your income alone and disregard the income of your spouse. If you live in one of the community property states, your income will be 50% of your total household income.
Disregarding your spouse's income does require that your file your taxes Married Filing Separate. The default way of filing taxes when married is Married Filing Joint. Moving to Married Filing Separate is complicated and usually has some financial downsides. You'll want to work carefully with a qualified CPA to determine the impact of moving to Married Filing Separate. You'll need to weight any savings on the student loan front against any cost increases on the tax side.
What is an Income Driven Repayment Plan
Income Driven Repayment (IDR) plans are a category of repayment plan available for federal student loans. There is no actual repayment plan called the "income driven repayment plan." Rather, there are five different types of Income Driven Repayment Plans:
- Income Contingent Repayment (ICR)
- Income Based Repayment (IBR)
- NEW Income Based Repayment (New IBR)
- Pay as You Earn (PAYE)
- Revised Pay as You Earn (REPAYE)
Why so many? Are they just trying to confuse you? I mean, probably not but it is really confusing. There are so many plans because the federal government kept introducing new (and arguably better) plans to help borrowers out.
All those different plans are super confusing, so let's run through your five different options. For each we'll cover:
- What loans and borrowers are eligible
- How your monthly payment is calculated under the plan
- How long you have to pay before any remaining balance is forgiven
- What unpaid interest subsidies are offered
- Special unpaid interest capitalization rules.
You can also download my IDR Overview Table to help you keep track of all of this.
Wait... what is unpaid interest and what does it mean if it gets capitalized?
The defining feature of IDR plans is that your income alone determines how much your monthly payment will be. If you're making $20k each year, it doesn't matter if your loan balance is $10,000 or $100,000 dollars, your monthly payment will be the same.
In some cases that means your monthly payments aren't even covering the interest that's accruing on the loans. That means you're accumulating unpaid interest each month, and that unpaid interest will result in increasing student loan balances over time.
I know increasing loan balances sounds terrible, but it isn't actually a bad thing if you plan carefully. That unpaid interest doesn't increase your future interest payments unless it capitalizes. Once unpaid interest capitalizes, then it WILL increase your future interest charges.
Some of the IDR plans will waive a portion of that unpaid interest each year. And some IDR plans have special rules around when and how much of that unpaid interest capitalizes. These differing treatments may impact how much interest you incur as well as how much you ultimately have to repay (or have forgiven).
I realize this detail is confusing, and yet it is an important one. This is one of the complexities that underscores the benefit (if not the need) to work with a fiduciary professional with specialized knowledge in student loans. (Again, the loan servicers are not going to give you great advice on this front.)
Looking for more great resources? Get my free Finance Quick Start Guide for Therapists. Click here to access!
Income Contingent Repayment (ICR)
This is the oldest and least generous IDR plan. (Remember, IDR is the general term for all these plans, there is no IDR plan per se.)
Only Direct Federal Loans are eligible for ICR. And ICR is the only payment plan for Parent PLUS loans. (There is a loophole to make Parent PLUS loans eligible for the other IDR plans through what's known as a "double consolidation," but this is a complicated move to speak with a professional about.) If you hold older FFEL loans, they are not eligible for ICR.
Under ICR your monthly payment is the smaller of two different amounts:
- 20% of your taxable income above 100% of the Federal Poverty Line; and
- A 12 year repayment plan reduced by an income factor.
There is no cap on the monthly payment, it will always be one of these two numbers.
Confused on how to calculate the payment? You're not alone. Use my spreadsheet to make it easy on yourself.
After 25 years (!!) of payment, any remaining balance on your student loans will be forgiven. But don't forget that is likely taxable forgiveness, so be sure and save up for that tax bomb (Tip #9).
ICR offers no unpaid interest subsidies. And every year any unpaid interest is capitalized. That annual "scheduled" capitalization is unique to ICR. The one upside here is that total unpaid interest capitalization is capped at 10% of your student loan balances.
ICR is rarely the best IDR option, unless we're talking about Parent PLUS loans - where it's pretty much the only option.
Original Income Based Repayment (IBR)
IBR is the second-oldest and second-least-generous IDR plan out there.
The big benefit of IBR is that both FFEL and Direct Federal Loans are eligible. Original IBR is the only plan available for FFEL loans. But remember you can always consolidate your FFEL loan to a Direct loan to gain access to the other IDR plans. Be sure and think that through because consolidation does have downsides. See my Ten Student Loan Tips Every Therapist Should Know for additional pointers.
Your monthly payment will be limited to 15% of your taxable income above 150% of the Federal Poverty Line. And if your income grows over time, your monthly payment is capped at the standard ten-year repayment amount.
Just like ICR, with Original IBR after 25 years of payments, any remaining balance on your student loans will be forgiven. Again like ICR, this is likely taxable forgiveness so be sure and save money to pay that tax bomb.
Unlike ICR which offers no unpaid interest subsidies, for the first three years of IBR, 100% of any unpaid interest on your SUBSIDIZED student loans will be waived. There is no unpaid interest waived on your unsubsidized loans.
Unlike ICR, there is no scheduled capitalization of unpaid interest. However, that unpaid interest will capitalize once you no longer can demonstrate a Partial Financial Hardship. What the heck is a Partial Financial Hardship? All that means is that the IBR-based payment is less than the standard ten-year monthly repayment. So if your income increases to that point, any unpaid interest will capitalize (and increase you interest charges from that point forward).
New & Improved Income Based Repayment (IBR)
If you had no Federal Student Loans outstanding as of July 1, 2014, then you may qualify for new and improved IBR. Unliked Original IBR, however, you will need to have Direct Federal Loans - FFEL loans are not eligible for the New & Improved version of IBR.
Under New IBR, your monthly payment will be limited to 10% (not 15%) of your taxable income above 150% of the Federal Poverty Line. And like Original IBR, if your income grows over time, your monthly payment is capped at the standard ten-year repayment amount.
New IBR also reduces to 20 years the length of time you need to be making payment before any remaining balance is forgiven. Again, that's taxable forgiveness so be sure and save for the tax bomb.
The rules around unpaid interest are identical as the Original IBR plan: for three years you unpaid interest on subsidized loans is waived; and unpaid interest is capitalized once you can no longer demonstrate a Partial Financial Hardship.
Pay as You Earn (PAYE)
Now we're getting to the good stuff. For many borrowers, either Pay as You Earn (PAYE) or Revised Pay as You Earn (REPAYE) are the two best options.
For both PAYE and REPAYE, you must have Direct Federal Loans.
But PAYE has more particular requirements. You must not have had any outstanding Federal Student Loans on October 1, 2007; AND you must have borrowed after October 1, 2011. You must meet both of those requirements. If you didn't borrow after October 1, 2011, note that completing a consolidation of pre-existing loans counts as borrowing. So completing a consolidation within the Federal Direct system can satisfy the second "borrowed after" requirement.
The monthly payment under both PAYE and REPAYE will be 10% of your income above 150% of the Federal Poverty Line. This is the same as the monthly payment under New & Improved IBR. Under PAYE, your monthly payment will be capped at the standard ten-year repayment amount.
And also just like new and Improved IBR, under PAYE, any remaining balance will be forgiven after 20 years. Still a long time, but better than 25 years!
The treatment of unpaid interest under PAYE is similar to both versions of IBR. Like IBR, for the first three years of PAYE, 100% of any unpaid interest on your SUBSIDIZED student loans will be waived. There is no waiver of unpaid interest on your unsubsidized loans.
There is no scheduled capitalization of unpaid interest, but like both IBR's, that unpaid interest will capitalize once you no longer can demonstrate a Partial Financial Hardship.
But there is one big benefit of PAYE when it comes to the capitalization of unpaid interest. That capitalization is limited to the 10% of your total student loan balances when you entered PAYE. That might sound familiar because it's the same limit as under ICR. You might be beginning to see how these IDR plans tend to mix and match a similar set of provisions.
This 10% limit on capitalization of interest, means that in virtually every case, PAYE will be a better option than New & Improved IBR.
Revised Pay as You Earn (REPAYE)
As the name "revised" implies, REPAYE is a modification of PAYE.
Is REPAYE better than PAYE? Well, sometimes, but not always - it depends on your particular situation. And note that REPAYE is typically the default IDR plan that the servicers will place you in. But make sure that REPAYE is actually the best IDR plan for. And again, the servicers are not equipped to answer that question.
How is REPAYE different from PAYE? There are six important differences (which, yah, that's a lot of differences):
- Any borrower with Direct Federal Loans is eligible. There aren't those funky timing requirements which PAYE has.
- REPAYE offers enhanced waivers of unpaid interest. In addition to waiving all unpaid interest on subsidized loans during the first three years, 50% of all unpaid interest on UNSUBSIDIZED loans is waived each year. And after the first three years, 50% of all unpaid interest which accumulates will be waived away. This can be a meaningful benefit if you expect you'll ultimately have to pay off your loans without a big portion forgiven.
- There is NO LIMIT to your monthly payment. Your payment will always be 10% of your income above 150% of the Federal Poverty Limit. This can be a big downside if your earnings grow substantially.
- If you're married, your payment will always be calculated on your joint income - even if you file Married Filing Separate. This is unique to REPAYE; all other plans allow married borrowers to file taxes separately.
- Any remaining balance on your student loans is forgiven after 20 years of repayments under REPAYE but ONLY if you borrowed exclusively for undergraduate. If you have ANY borrowing for post-graduates studies (and I'm guessing you do), the forgiveness period is 25 years.
- Finally, REPAYE does not offer the 10% limitation on capitalization of unpaid interest that PAYE offers.
What IDR Plan is Best for Me?!
That's a hard question to answer. You have to run the numbers. As is probably clear, there is a LOT of complexity here. And remember, please don't trust the representative of the loan servicers to recommend the best repayment plan for you. They simply have no idea.
Check out my spreadsheet which will begin to give you a sense of how much each of the different plans might save you. But that's really just a starting point to help you determine if further analysis and consideration is warranted.
I really urge you to consider working with a fiduciary financial professional (like me, or someone here or here) to help you figure this out. Especially if you're married and especially especially if both you and your spouse have student loans, things get really complicated really quickly.
Whatever IDR plan you choose, you will need to certify your income annually to stay in the program. You do want to make sure and do that, because there are big financial downsides to falling behind on this. You can find all the other rules and procedures around entering into (and remaining in good standing with) these IDR plans on the StudentAid.gov website.
You may be eligible for PSLF if you're in one of these IDR Plans.
Public Service Loan Forgiveness (PSLF) is distinct from these repayment plans. Generally you need to be in one of these types of repayment plans to be eligible for PSLF. But PSLF is a whole other thing to navigate, so I will be covering that in an upcoming post!
That's a Wrap 🎬
Alright, I hope you found this post helpful! This was a LOT of information. So, let me know if that avalanche of information was helpful! What made sense, and what points are still confusing? What else would you like to hear about that would be helpful? Give me a shout and lemme know!
And if this all feels a bit much, give me a shout. I work one-on-one with therapists from all over the country helping them address issues just like the ones we talked about today! There are a bunch of different ways to work with me which I describe on my services page.
Turning Point is a registered investment advisor in the state of California. Please visit turningpointhq.com for important information and additional disclosures. This article is provided for general information and illustration purposes only. Nothing contained in the material constitutes financial, legal or tax advice; a recommendation for purchase or sale of any security; or investment advisory services. I encourage you to consult a financial planner, accountant, and/or legal counsel for advice specific to your situation. Read the full Disclaimer here.