Hi Heather! My husband went to law school and we are about to start paying on the student loans (Sallie Mae, etc).

He heard that under the IBR plan, the monthly payments go towards the interest only, not the principal. And he heard that is the case for the duration of the 25 years. Is this true? We owe 160,000 and if we make the payments the IBR plan gives us and the payments go only towards the interest, we would still owe 160,000 at the end of 25 years, correct? And the government would forgive that? We also heard that in the 25th year, when the government forgives your loans, you have to report the amount that was forgiven as income on your taxes that year. If that is the case, we will probably owe a TON in taxes—more than we can afford pay. Is this true?
We also heard that if we miss even one payment during that 25 years, we are then ineligible for the loan forgiveness. Is this true? What if you are late on accident, for example?
We had no idea what we were getting ourselves into. We thought he’d have a great career as a lawyer after law school, and loan repayment wouldn’t be an issue, but the economy tanked. Any help or suggestions would be greatly appreciated!

Loan payments always go first to fees (if any), then to interest, and only then to principal.  Under IBR, unlike most repayment plans, a borrower can pay even less than the interest that is accruing.  But that interest does not capitalize (meaning gets added to the principal) unless or until the borrower no longer has a partial financial hardship (the debt to income ratio required to choose IBR) or the borrower choose to leave IBR.

IBR is not a fixed term repayment plan.  It is not a 25 year term.  Instead, it has a maximum term of 25 years.  Some borrowers may earn public service loan forgiveness after 10 years in IBR.  Some may repay their entire balance after 15 years in IBR, or 17 years, or any number of years.  Others will still owe money after 25 years.  The remaining principle and interest is then forgiven at the 25 year mark.

Under current law, 25 year IBR forgiveness IS taxable as income to the recipient (unlike public service loan forgiveness).  I am hopeful that there can be a legislative fix for that problem before any borrowers earn forgiveness, but that’s uncertain.  Bear in mind though, that money now is worth more than money later, and knowing that the tax bill is coming, you can prepare for it.  It’s still better to get forgiveness than not to!

Late payments do not count towards the 25 years required for IBR forgiveness, but a late payment does not erase the fact that on time IBR payments do count.  So no, one late payment doesn’t call off the whole deal, it just delays it by a month.  But be careful not to default, because payments made on a defaulted loan cannot count towards forgiveness.

Oh, and as for the whole problem of not paying down principal: it is cheaper to pay debt off quickly rather than slowly.  The longer it takes you to pay, the more interest accrues.  If you can afford to pay back your loans fast, by all means go for it.  But if you need access to a reduced monthly payment, what are your alternatives to IBR?  Well, you could get a 30 year repayment term on a consolidation loan.  You’d pay pretty much all interest in the early part of the term, your payments would be high, and you’d still pay a ton of interest over time, you just wouldn’t get forgiveness after 25 years.