Student Loan Forgiveness, Deferment, Forbearance Explained!

Welcome back! This is part three in our
series on federal student loans. In part One we covered the details of income
centric plans like Pay as you Earn and Revised Pay as you Earn. In part two we covered
discretionary income and how it’s used under these plans to figure out what
your payment will be and today we’re going to go a little broader. we’re going to talk about deferment forbearance and what happens to your
federal student loans where they are forgiven under these plans let’s get
started many people hear the terms deferment and
forbearance and really don’t understand the difference in terminology.
and while it is true that with both of these you’re not paying your loans or
your principal or interest back for a period of time, the ways that they could
affect your loans are very different depending on the type of strategy you’re
using and the type of loans that you have.what are some of those differences?
deferment means that for a period of time you’re not paying the loan
principle or the interest back on your loans. and you could be in deferment for
a number of reasons you could be in school you could be active-duty military
you could be someone who’s had a real financial hardship or can’t find a job.
all of these are reasons why you could be in deferment and the way that that
will affect your loan and whether you need to handle it one way versus another
could be greatly impacted by the type of loans that you have. and to explain that
we need to introduce a couple terms we need to introduce unsubsidized loans and
subsidized loans. subsidized loans are typically loans that are taken out
for undergraduate studies and the difference between a subsidized loan and
an unsubsidized loan is with subsidized, loans while interest accumulates on your
loans in periods of deferment, the government pays for the interest for you.
so for example you are in school and you’re taking out a loan of say $20,000. as
the interest accumulates on that $20,000, by the time you start repaying it you
won’t have to pay the $20,000 plus the interest, you will only have to pay the
$20,000 that is a subsidized loan. unsubsidized loans work differently.
unlike their counterpart, with an unsubsidized loan, which you typically
find in graduate studies, any interest that’s accumulating during that time of
deferment, you are responsible for. the government is not paying it for you. so
if you’re comparing the two, let’s say that you’re in a period where you owe
$20,000 and you have an unsubsidized loan, during a period of deferment you
have the option of paying these with the principal or the interest, or you could
decide to pay at the very least the interest that’s accumulated. why would
you want to do that? well I’ll tell you, and we have to introduce
another term: capitalization of loan interest. let’s go back to the person who
owes $20,000. if they hold $20,000 in an unsubsidized loan, let’s say they’re in a
period of deferment, and by the time they’re ready to start paying they find
out that $5,000 of interest has accumulated on that loan. if they have
chosen not to pay back the interest during their deferment and they choose
not to pay it back before their loan payments start, then that interest will
capitalize, meaning it will be added on to their principal. so now instead of
paying back $20,000, they will be paying back $25,000. now if you’re saying if
they’re paying the interest, what’s the difference between paying the interest
and the principal? it’s all about their loan payment. you see if you have a
standard repayment plan, whatever you’re paying is based off of what it will
actually take to pay your loan balance off in full in a given period of time. so
if you started and took out $20,000 in loans and have a 10-year standard
repayment plan, that payment that you’re offered is going to be what’s needed to
pay off the $20,000 with interest in a 10-year period of time. but if you have
$5,000 of interest that’s accumulated and you let it capitalize, well now
they’re basing your 10 years worth of payments off of not $20,000 but $25,000.
and because of that it could take far more to pay off that loan which means
you have a higher monthly payment. so if you’re in deferment with an unsubsidized
loan and you have the option of paying the interest on that loan, it is worth
considering, because if you don’t you could risk having a higher payment when
you come out of derment and resume your payments in full. forbearance is
similar to deferment in that you have a period of time where you’re not paying
the principal or interest, you’re not required to.
but unlike deferment many of the things that would lead someone to being in
forbearance are centered on things such as financial hardships. you find people
who are in medical residences who don’t make enough to pay their loans who are
offered forbearance, or people who are active military duty. and there are two
different types of forbearance. there is discretionary forbearance and
there is mandatory forbearance. discretionary forbearance means it is at
the discretion of your loan servicer, meaning you submit a written request you
tell them your situation and that loan servicer determines whether or not
they’re going to offer forbearance to you.
mandatory forbearance works differently. with mandatory forbearance it means you
are in a certain program or meet certain criteria that means your loan servicer
is required to at least offer you forbearance. some of the things I
mentioned earlier like a medical internship, a dental residency, active
military duty, those are examples of things for people who would require or
be offered a mandatory forbearance by their loan servicer, and it’s up to you
whether you choose to take it or not. now the difference in terms of how it
affects your loans compared to deferment is unlike with a subsidized versus
unsubsidized loans, in deferment it doesn’t matter what type of loans you
have: when you’re in forbearance, interest will accumulate on that loan
and it will not be paid by the federal government. so we mentioned that with a subsidized loan you could be in deferment and not worry about the interest
capitalizing before you start your payments. if you’re in forbearance it
doesn’t matter what type of loan you have, by the time you start paying those
loans, interest will have have capitalized if you didn’t pay it during your time
with forbearance. so again if this is something that you find yourself in you
want to make the decision of whether it’s worth even during that period of
time paying the interest that’s accumulating on that loan to make sure
that you don’t have a higher loan payment when you start back up. now let’s
talk about loan forgiveness. when I started this series I was going to
include the public service loan forgiveness in this video and I’ll tell
you that could be an article in and of itself or a video in it of itself. so
what we’re going to do is we’re going to write a blog post about it and we’ll
link to that article. today we’re going to talk about loan forgiveness in
the context of the three income-based plans that we covered in the first
video: the income based repayment plan the pas as you earn plan and the revised pay as
you earn. see if you remember that video we talked about the stipulations and the
requirements of that program. and at their core they all ask you to pay a
percentage of your discretionary income, remember it’s based on
how much you make instead of how much you owe. and when you do that there’s a
possibility that all of your loans would not be paid off by the end of the
repayment period. so those loan programs give you the opportunity of having those balances
wiped away after either 20 or 25 years depending on the type of plan that you
have. it’s important that we talk about how those loans are forgiven. if
you get to the end of the repayment period and you have an amount of loan
that is wiped away or forgiven, the following year you’ll have to pay income
taxes on whatever has been forgiven by your loan servicer or by the federal
government. let’s look at an example: let’s say we have a person who makes
$75,000 a year and they have been paying on a income based repayment plan for 25
years. so they have completely fulfilled their requirement of 25 years of
qualifying payments under this program. that means that anything that’s left
this year will be wiped away. so let’s say at the end there are $25,000
of loans that they still have that the federal government is
going to forgive at the end of this period. the next year when they file
their income taxes, come April they will not only pay income taxes on their
$75,000 salary but also the $25,000 worth of loans that were forgiven. now I
hear a lot of people that complain about this but I would say if I were this
person I would much rather pay the taxes on $25,000 then actually have to pay
back that $25,000. that’s all I’ve got for you today I hope you enjoyed
this video I will make sure that we link to the article on the public service
loan forgiveness. but I do want to remind you that if you have information that
you want to read further on or just things we didn’t cover that you can find
it on Everything is available for you there. if you liked what you
heard I invite you to share with as many people as you possibly can because we
want to help as many people as we possibly can, and if you have a question
you want the minute for future video you can do that by going to my website, and under the blog section there is a questionnaire you can fill
out for future topics. hopefully you’ll join us in part 4. if you are here in
part 4 we’re going to cover loans for married couples will cover how
it affects your payment and even what happens to your student loans when you
die or if maybe unfortunately you divorce your spouse and you have student
loans. see you next time

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