Time to consolidate student loans

Elizabeth Hira has seen the pitch many times before.

Since graduating last June from Stanford University, Ms. Hira has received piles of postcards and letters, littered with exclamation points, percentages, and the infamous tagline "consolidate now."

"I feel like a fugitive," she says about the flood of offers from lenders to consolidate her student loans. "I've been out of school for a year, and they're still trying to track me down."

As she considers attending graduate school, Hira has held off consolidating her loans. She'd like to say that's the only reason she's wavered.

"Really, I'm not sure what to do," she admits. "There's just a lot of confusing information out there, and I have yet to find a legitimate and impartial source."

With news of student-loan scandals and new laws giving borrowers more options, figuring out whether to "consolidate now" is trickier than ever. While there are more choices this year – some great, some deceptive – students and recent graduates shouldn't fret, says Kevin Walker, CEO of the loan comparison website SimpleTuition. They just need to be smart shoppers.

"Things are different this year," he says. "Consolidating can still be a great way to make loans more manageable. You're just going to have to read the fine print really carefully."

New York Attorney General Andrew Cuomo's investigation into shady deals between lenders and universities has led to multimillion-dollar settlements nationwide. Last week, his office subpoenaed 90 college alumni associations to determine if the schools accepted undisclosed gifts in exchange for steering graduates toward consolidating their loans with "preferred lenders."

But savvy borrowers who hunt for the best deals have little to worry about, says Mark Kantrowitz, founder of student loan advice site FinAid.org. The scandal is about conflicts of interest, not unfair lending.

Careful consumers are in a great position to find deals, says Mr. Kantrowitz. That's because last year Congress axed the "single holder" rule. The decades-old law forced students who borrowed from only one lender to stick with that lender if they wanted to consolidate. Now borrowers are free to consolidate with whoever offers the best plan, Kantrowitz says.

Another new wrinkle: The Class of 2007 is the first to graduate with fixed-rate federal Stafford loans. Before July 1, 2006, when all Stafford loans had variable interest rates, consolidation was a good move for almost every borrower, says Mr. Walker. It was the best way to lock in low-interest rates before they could climb.

"Last year, it was a no-brainer that students should consolidate," he says. "This year, it is not quite as clear."

For variable-rate loans, consolidation is wise

For most people who still have older, variable-rate loans, consolidation is still a good bet, says Rob LaBreche, president of consumer marketing for College Loan Corporation, a top student lender.

"For students graduating this year, 3 out of 4 of their [Stafford] loans will still have variable rates, and those rates will change again this summer," he says. New rates are tied to the interest on three-month Treasury bills, and Mr. LaBreche expects that rate to rise this year, "though not by much."

No one can predict how the Treasury-bill market will change before the Class of 2007 is done paying off its student loans. "So consolidating now will let you lock in one rate and not have to worry about what will come," he says.

This year's rates will be calculated before the end of the month, and even if they increase, many lenders offer "best rate guarantee" plans. These deals give borrowers the chance to fill out all the paperwork before the new numbers are released, and whichever is lower will be the consolidated rate. The new rates go into effect July 1.

But this advice doesn't help Jason Myers, who will graduate from Boston University later this month.

He took the almost universally recommended move and consolidated his Stafford loans last summer, before the program switched from a variable rate to a fixed – but much higher – rate of 6.8 percent. But Mr. Myers says he needed another Stafford loan to finish his senior year and still has unconsolidated private loans.

Myers cannot combine them all together – each loan can only consolidate once. So what other benefits come with consolidation?

For one thing, it can lower monthly bills. Normal Stafford loans must be paid back over 10 years. But by consolidating, borrowers can stretch out their payments over 15 or 30 years, reducing the monthly costs. The sacrifice is that interest will pile up, so borrowers will wind up paying much more in the long run. (Remember, though: For some income levels, a lot of student-loan interest can be tax deductible.)

"If your entry-level salary feels a little tight, having lower monthly bills can really help," says Janet Bodnar, a columnist for Kiplinger's personal finance magazine. "You can always pay down the loan faster than necessary later on, once you've finally gotten that dream job."

Another perk, she says, is dealing with fewer bills. If a student takes out a mixture of Stafford, Perkins, and other loans, consolidating can lump everything into one tidy bill.

In the end, very few loans are repaid on time

But the biggest bonus is borrower benefits, says Walker. Since rates for consolidation are capped by the government, many lenders try to entice borrowers by offering rewards to diligent bill payers. Deals can include lowering interest rates by half a percentage point if the company can take payments automatically out of the borrower's bank account or providing cash-back deals to borrowers if the graduate makes 36 on-time payments.

Don't write off these offers as scams, says Walker. They can offer great incentives for starting out on the right track.

"But read the fine print," he warns. "Find out exactly what it means to make an on-time payment. Is one day late too late or is 15 days late too late?"

Walker adds that since these loans are paid back over such a long period of time, it's usually better to opt for a lower interest rate than a drop in the amount the borrower owes.

Kantrowitz agrees that borrower benefits can seem like a great way to save money, but he cautions that few graduates will ever see the return. Using statistics from Sallie Mae, he calculates that less than one-quarter of borrowers make their first 36 payments on time, and less than 6 percent will pay back everything on time.

"Don't assume that money is as good as yours," Kantrowitz says. "Sure, you can save hundreds, or thousands – if everything works out. But that rarely happens."