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January 14, 2016

Comparing Income-Driven Repayment Plans

There are now five different income-driven repayment plans: Income-Contingent Repayment (ICR), Income-Based Repayment (IBR), Pay As You Earn (PAYE), Income-Based Repayment for New Borrowers (New IBR), and now Revised Pay As You Earn (REPAYE). 

Calculating Monthly Payments
Income-driven plans calculate payments as a percentage of “discretionary income”.  Discretionary income is defined as the difference between a borrower’s Adjusted Gross Income (AGI) and 150 percent of the poverty guideline for the borrower’s family size.  Monthly payments are set at 10 or 15 percent of discretionary income, depending on the plan.

A single borrower with an Adjusted Gross Income of $40,000 pays $186 per month if payments are set at 10 percent of discretionary income, but the same borrower pays $279 per month if payments are 15 percent.

Income-Contingent Repayment (ICR) is the oldest of the income-driven plans and is rarely the best choice for today’s student loan borrowers because payments tend to be higher than under the other plans; under ICR a single borrower with an Adjusted Gross Income of $40,000 and a student loan balance of $40,000 would pay $336 per month. 

Establishing Eligibility to Select an Income-Driven Plan
PAYE and New IBR provide for 10 percent payments, but are limited to “eligible new borrowers”.  New IBR is limited to those who began borrowing very recently--having no outstanding student loans on July 1, 2014.  PAYE is limited to those having no outstanding student loans on October 1, 2007. 

Those of us with older student loans are excluded from PAYE and New IBR, but IBR is available without regard for when a graduate borrowed.  Under IBR, payments are set at 15 percent of discretionary income.  REPAYE provides the first opportunity for borrowers with older student loans to make payments set at 10 percent of discretionary income. 

Most income-driven repayment options require that a borrower demonstrate a “Partial Financial Hardship” to establish eligibility for income-driven repayment.  Generally, a borrower meets this requirement if his or her loan balance is higher than annual discretionary income.  A Partial Financial Hardship exists when a borrower’s debt-to-income ratio results in lower payments calculated under the income-driven plan than payments calculated under a standard repayment plan based on a 10-year repayment period. 

REPAYE does not require that borrowers demonstrate a Partial Financial Hardship (PFH). REPAYE is available without regard for a borrower’s debt-to-income ratio. 

The maximum monthly payment amount the borrower is required to repay under IBR, PAYE, and New IBR is capped at the amount the borrower would have paid under the standard repayment plan based on a 10-year repayment period using the amount of the borrower's eligible loans outstanding at the time the borrower began repayment.

There is no cap on monthly payments under REPAYE.  The lack of a monthly payment cap is intended to ensure that high-earning borrowers, including those with high student loan balances, will continue to make payments set at a percentage of income.

Treatment of Married Borrowers
Under ICR, IBR, PAYE and New IBR, whether a spouse's income is taken into consideration when determining the borrower's payment depends on the tax filing decisions of the married couple. If a married couple chooses the “Married Filing Jointly” tax status, the joint AGI reported on the joint tax return will be used for calculating monthly student loan payments.

Under ICR, IBR, PAYE and New IBR, married couples may choose either to:

  • file taxes jointly and have monthly payments based on joint AGI and combined student debt, or
  • file taxes separately and have monthly payments based on individual AGI and individual student debt  

Under REPAYE, married borrowers must pay based on combined income; no option to separate income is provided.

A total income-driven student loan payment amount for the couple will be calculated taking into account both spouses’ debt and both spouses’ income.  A proportion of the total payment will be assigned to each spouse based on their share of the couple’s total student loan debt. 

Earning Loan Forgiveness

Under PAYE and New IBR, if a borrower has not repaid his or her loan in full after 20 years of qualifying monthly payments, any outstanding balance on the loan will be forgiven.  Under IBR, the forgiveness period is longer—25 years rather than 20.  Borrowers in government and nonprofit careers may earn Public Service Loan Forgiveness of remaining balances more quickly--after making 120 qualifying payments (over at least 10 years). 

REPAYE provides for loan forgiveness after 20 years if the loans being repaid were borrowed for undergraduate study.  But if the loans include debt the borrower received to pay for graduate or professional study, the borrower will be required to continue making payments for 25 years before forgiveness of any remaining balance.

Payments made under REPAYE, as under other income-driven plans, are eligible for Public Service Loan Forgiveness.

Interest Accrual and Capitalization
As in the Pay As You Earn and IBR plans, for borrowers whose monthly payments do not fully cover interest (negative amortization), no unpaid interest accrues on subsidized loans during the first three years a borrower is in the REPAYE plan. In addition, under the REPAYE regulations, if the borrower is in negative amortization, only 50 percent of any unpaid interest will accrue on subsidized loans after the first three years, and only 50 percent of any unpaid interest on unsubsidized loans will accrue at any time.

Unlike IBR and PAYE, under REPAYE, unpaid interest is not added to the principal balance, or capitalized, as a result of the borrower's debt-to-income ratio falling below a particular threshold.

Check out the Department of Education's handy info sheet.

By Heather | Category: REPAYE, Pay As You Earn, IBR, Student Loan Repayment  
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