Welcome back to another episode of The Student Loan Show. On today’s show, some exciting news to report from the US Department of Education about repaying your federal student loans.
On October 30, 2015 The US Department of Education amended the regulations governing the William D. Ford Federal Direct Loan (Direct Loan) Program to create yet another income dependent repayment plan.
It’s all part of President Obama’s initiative to allow more Direct Loan borrowers to cap their loan payments at 10 percent of their monthly incomes.
This new payment plan is called the Revised Pay As You Earn repayment plan (REPAYE plan), and it will go into effect in December 2015.
The press has been loving it, and says it’s going to save 5 million student loan borrowers a TON of money.
And though there’s a lot of good in REPAYE, it’s not right for everyone. In fact, I’ll go so far as to say it’s a terrible idea for some federal student loan borrowers.
Here’s what you need to know about REPAYE.
Qualification for REPAYE
REPAYE is available to all Direct Loan student borrowers regardless of when the borrower took out the loans or their income level. A Direct PLUS Loan made to a parent borrower, or a Direct Consolidation Loan that repaid a parent PLUS loan, may not be repaid under the REPAYE plan.
One benefit of REPAYE over all other income dependent repayment plans is that REPAYE eliminates the requirement for a partial financial hardship entirely.
Calculating the Payment Due Under REPAYE
Payments are set at 10% of discretionary income, even if that leads to a higher payment than under a standard repayment plan.
Discretionary income is calculated as being your adjusted gross income minus 150% of poverty line for your state and family size
If a process becomes available in the future that allows borrowers to give consent for the Department of Education (the Department) to access their income and family size information from the Internal Revenue Service (IRS) or another Federal source, the regulations will allow use of such a process for recalculating a borrower’s monthly payment amount.
If you are married but file a separate Federal income tax return, the adjusted gross income (AGI) of you and your spouse is used to calculate the monthly payment amount. A married borrower filing separately who is separated from his or her spouse or who is unable to reasonably access his or her spouse’s income is not required to provide his or her spouse’s AGI.
In cases where couples have separated their finances and the joint AGI reported on your Federal tax return is no longer applicable, you will be permitted to submit alternative documentation of income. If you do so, your spouse will be excluded from the determination of your family size regardless of the tax filing status of the borrower and the spouse.
This differs from how payments are calculated under PAYE, IBR, and ICR. Under those plans, married borrowers who file their Federal income taxes separately exclude their spouse’s income from payment calculations yet include their spouse in their family size. This results in an artificially low monthly payment for married borrowers who earn a low income and file taxes separately even if his or her spouse is a high income earner.
Effect on Interest Accrual and Negative Amortization
REPAYE places limits on the interest charged to a borrowers to 50 percent of the remaining accrued interest when monthly payment is not enough to pay the accrued interest (resulting in negative amortization). This limitation applies after the consecutive three-year period during which the U.S. Department of Education doesn’t charge the interest that accrues on subsidized loans during periods of negative amortization.
Though the same three-year period exists for subsidized loans under PAYE and IBR, there is no limit on the interest charged. Therefore, many loans paid through PAYE and IBR negatively amortize.
Student Loan Forgiveness After REPAYE
If you are repaying only loans received to pay for undergraduate study through REAYE then the remaining balance of your loans repaid under the REPAYE plan is forgiven after 20 years of qualifying payments. If you have at least one loan through REPAYE that was received to pay for graduate study, the remaining balance is forgiven after 25 years of qualifying payments.
What If You Get Kicked Out of REPAYE?
If you are in REPAYE and don’t provide the income information needed to recalculate the monthly repayment amount, you are removed from the REPAYE plan and placed in an alternative repayment plan.
The monthly payment amount under the alternative repayment plan will equal the amount required to pay off the loan within 10 years from the date you begin repayment under the alternative repayment plan, or by the end date of the 20- or 25-year REPAYE plan repayment period, whichever is earlier.
You are allowed to return to the REPAYE plan if you provide the income information for the period of time that you were on the alternative repayment plan or another repayment plan. If the payments you were required to make under the alternative repayment plan or the other repayment plan are less than the payments you would have been required to make under the REPAYE plan, your monthly REPAYE payment amount will be adjusted to ensure that the excess amount owed is paid in full by the end of the REPAYE plan repayment period.
This is to discourage borrowers from intentionally failing to report their income accurately when they experience a significant increase in earnings.
This system is contrary to current IBR, ICR and PAYE – which provide that if you fall out of the program then you’re out for good unless you can still demonstrate a financial hardship.
Using REPAYE For Public Service Loan Forgiveness
Payments made under the alternative repayment plan will not count as qualifying payments for purposes of the Public Service Loan Forgiveness Program, but may count in determining eligibility for loan forgiveness under REPAYE, ICR, IBR, or PAYE if you return to the REPAYE plan or change to another income-driven repayment plan.
If you made qualifying public service loan forgiveness payments on an eligible Direct Loan Program loan under the IBR plan and later begin repaying that loan under the REPAYE plan, the prior payments that were made under the IBR plan will still count toward public service loan forgiveness.
As with other income dependent plans, if you consolidate loans on which you made qualifying payments under an IDR plan into a Direct Consolidation Loan, you don’t receive any credit toward loan forgiveness for the pre-consolidation payments and would be required to make an additional 20 or 25 years of qualifying payments before receiving loan forgiveness on the new Direct Consolidation Loan.
Taxability of Forgiven Balance At the End of REPAYE
Under current tax law, any loan amount forgiven under the terms of the REPAYE plan or any other IDR plan is treated as taxable income. In the comments, the US Department of Education states that it
is supportive of a change in tax law so that loan amounts forgiven under the income-driven repayment plans would no longer be treated as income. However, such a change would require action by Congress.
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