Student loan forgiveness might be a ticket out of debt

Student loan borrowers dream of the day they’re debt-free the way others fantasize about winning the lottery. If you qualify for federal loan forgiveness, you may be able to wipe out your loans sooner than you think.

Federal programs that discharge, or cancel, your loans after a period of time fall into two categories: those based on your job and those based on your repayment plan. Follow these steps to learn what programs are out there, whether you’re eligible and how to take advantage of them.

Step 1: Explore forgiveness options

There are four primary ways to have your federal loans canceled or reduced. It’s important to remember that your loans can’t be in default — meaning they’ve gone unpaid for more than nine months — in order for them to qualify for forgiveness. Follow the links on each program’s name for more details.

Private loans don’t offer forgiveness, though some lenders will let you make interest-only payments or take a temporary interest rate reduction if you’re having trouble affording your bill. Call your private lender to see what options are available to you.

Public Service Loan Forgiveness (PSLF)

• How it works: If you work full time for a nonprofit or the government for at least 10 years — qualifying workers include firefighters, teachers, military personnel and nurses, among others — your remaining federal loan balance will be forgiven. You’ll save the most money on PSLF if you repay your loans on anincome-driven plan for those 10 years. The program started in 2007, so the first PSLF recipients will have their loans discharged in 2017.

• Which loans are eligible: Only federal Direct Loans are eligible for forgiveness, but you can consolidate other loan types in order to repay them on PSLF. Consider keeping your Perkins Loans separate if you qualify for Perkins Loan cancellation, which we’ll explore further below.

• Best for you if: you plan to work in public service for at least 10 years and you’re already on, or are willing to switch to, an income-driven repayment plan.

Here’s why: Since you must still be working in the public interest when you apply for forgiveness — after your 120th loan payment — PSLF is a big commitment. It’s worthwhile only for grads who plan to pursue a career in public service anyway, says Kristin Bhaumik, assistant director for special programs in the University of Michigan’s office of financial aid.

“You don’t want to seek a job only because of a promise of possible forgiveness down the line,” she says. “Ten years is a very long time for most people to plan out their future just for loan forgiveness.”

Teacher Loan Forgiveness

• How it works: Teachers who work full time for five consecutive years can have up to $17,500 in Direct or Stafford Loans forgiven. The program is available only to teachers who work in low-income public elementary or secondary schools, and who took out their first loans after Oct. 1, 1998.

• Which loans are eligible: Direct Loans and Stafford Loans

• Best for you if: you plan to teach full time in a low-income public school for at least five years and have a loan balance of $17,500 or less. If you have a larger loan balance and plan to teach for 15 years or more, consider enrolling in PSLF after five years.

Here’s why: Participants will also qualify for PSLF, which is more generous, but Teacher Loan Forgiveness will reduce or eliminate your loans in half the time: five years instead of 10. Although the two programs can’t overlap, you can take advantage of both if you plan to teach for 15 years or more.

Perkins Loan cancellation

• What it is: Borrowers with federal Perkins Loans can have up to 100% of their loans canceled if they teach full time in a low-income public school, or teach qualifying subjects like special education, math, science or a foreign language. This program has a lower commitment term than the others: Just one year of teaching service will make you eligible, but you’ll get the maximum cancellation benefit after five years. You can also postpone your loan payments while you’re teaching if you know you’ll qualify for cancellation.

Borrowers who work in other public service jobs — such as firefighters, nurses, police officers, school librarians and public defenders — can have their Perkins Loans forgiven over five years of service too. Check this chart and call your loan servicer or the financial aid office at the school you attended for more details on your eligibility for those programs.

• Which loans are eligible: Perkins Loans only. The total amount of Perkins Loans you can borrow as an undergrad is $27,500; as a grad student, you can borrow an additional $32,500.

• Best for you if: you have Perkins Loans and you plan to work in an eligible public service job for at least one year.

Income-driven repayment

• What it is: The federal government offers three income-driven repayment plans, which calculate your monthly loan payments as a percentage of your income. All of these programs automatically forgive your remaining loan balance after a certain number of years. A fourth plan, called Revised Pay As You Earn (REPAYE), will be available in December 2015.

Income-based repayment (IBR): There are two versions of IBR, and the one you qualify for depends on the year you first took out your loans. If you took out loans for the first time before July 1, 2014, and your monthly payments on the standard repayment plan are more than 15% of your discretionary income, you’ll pay 15% of your income toward your loans for 25 years. Then the remainder of your loans will be forgiven. If you took out loans for the first time after July 1, 2014, and your monthly payments on the standard repayment planare more than 10% of your discretionary income, you’ll pay 10% of your income toward your loans for 20 years. Then forgiveness will kick in.

Pay As You Earn (PAYE): PAYE caps your monthly student loan payment at 10% of your income, and the balance on your loans will be forgiven after 20 years as it would under the new version of IBR. You can sign up if you borrowed your first Direct Loan after Sept. 30, 2007, and borrowed another after Sept. 30, 2011. For the upcoming REPAYE program, Direct Loan monthly payments will be capped at 10% of the borrower’s income, regardless of financial hardship or the year the loans were taken out; loans for undergraduate study will be forgiven after 20 years, and graduate student loans after 25 years.

Income-contingent repayment (ICR): This plan, which became available in 1994, caps your payments at 20% of your income. It’s less generous than the others, but there’s no financial hardship requirement in order to sign up. It will forgive your loans after 25 years.

• Which loans are eligible: The loan requirements vary among plans. In general, if a loan type isn’t eligible for income-driven repayment at first, it will be once it’s consolidated into a Direct Consolidation Loan. Check your loans’ eligibility for income-driven repayment here.

• Best for you if: you have substantial student loan debt or can afford your payments only on an income-driven plan, and you’re willing to save money to pay your future tax bill.

Here’s why: Forgiveness is certainly a benefit of the income-driven plans, but it’s not a reason to sign up for one of them. You’ll accrue more interest on these plans than you would on a standard or graduated repayment schedule, and as tax law is currently written, you’ll be required to pay income taxes on the amount forgiven.

“Borrowers need to plan for that,” Bhaumik says. A tax professional can estimate what you’ll owe upon forgiveness so you can start saving now. Keep in mind that it’s worth the tax bill if repaying your loans on an income-driven plan is the only way you can afford your payments.

“I would rather a borrower take a reduced monthly payment and make that payment on time, every time, than go into delinquency or default,” Bhaumik says.

Step 2: Certify your employment and/or income with your loan servicer

Organization is the key to making sure you get the loan forgiveness you’re eligible for. First, call your student loan servicer, the company that manages your federal loans, to let it know what program you’re interested in and to confirm that you qualify. The company will let you know if you have to consolidate your loans to make them eligible for the program and what paperwork you need to fill out.

Next, gather the information you need to certify your employment or income. If you plan to apply for PSLF, for instance, you and your employer will fill out the employment certification form annually, or whenever you change jobs, to make sure you’re on track for forgiveness. Send the form to FedLoan Servicing, which oversees the program.

To receive forgiveness from an income-driven repayment plan, you’ll first sign up for one of the plans by completing an Income-Driven Repayment Plan request on the Federal Student Aid website. Then you’ll certify your income information every year through your servicer until your repayment term ends.

Step 3: Apply for forgiveness

The forgiveness process differs from program to program. Income-driven repayment plans forgive your loans automatically after you make payments for a certain number of years, so there’s no separate forgiveness application to fill out. You won’t apply for forgiveness under PSLF until after you’ve made your 120th payment. The same goes for Teacher Loan Forgiveness; you’ll fill out the application after you complete the five-year teaching requirement.

Perkins Loan cancellation, however, discharges your loans incrementally each year you serve. For example, you’ll get 15% of your loans canceled your first and second years as a teacher, 20% canceled your third and fourth years and 30% canceled your fifth year. Since Perkins Loans are disbursed to you directly by the school you went to, call the financial aid office and ask for a loan cancellation application. You’ll need to show proof that you work in a qualifying public service job during the period you apply for forgiveness.

What’s next?

It takes several years for loan discharge to happen under most of these programs, so it might be tempting to sit back and wait for forgiveness. But make sure to complete your annual income or employment certification forms, if those apply to you, so there are no major surprises when your time is up.

Just as important, changes to the terms of forgiveness programs could take place at any time, Bhaumik says. That’s because financial aid is dependent on the federal budget and higher education law.

“You’ve got to listen to political conversations surrounding these programs because so much of it involves the political and public policy climate in the U.S.,” Bhaumik says.

Stay organized and informed, and once you receive forgiveness, you’ll finally know that lottery-like feeling of being rid of your loans at last.

This article first appeared at NerdWallet.