The Ultimate Guide To Income-Driven Repayment Plans - Make Lemonade

The Ultimate Guide To Income-Driven Repayment Plans

By Make Lemonade Staff | Updated October 30, 2019

Are you paying too much for your student loans?

Student loan payments can be expensive. If you have high student loan payments, it may be challenging to save for retirement, buy a home or pay other living expenses. So, how can you lower your student loan payments?

If you can’t afford your monthly federal student loan payments or you plan to apply for Public Service Loan Forgiveness, then you may want to consider income-driven repayment.

The U.S. Department of Education offers income-driven repayment plans for your federal student loans, and they can lower your monthly student loan payment to as little as $0. There are four income-driven repayment plans so it’s important to choose the income-driven payment that is best for you. Before you enroll, it’s important to understand the advantages and disadvantages of income-driven repayment plans.

In this guide, we will address everything you need to know about income-driven repayment plans, including:

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What is an income-driven repayment plan?

An income-driven repayment plan is a student loan repayment plan for your federal student loans that is offered by the U.S. Department of Education. The federal government does not offer any income-driven repayment plans for private student loans.

There are four types of income-driven repayment plans for federal student loans:

  • Income-Based Repayment (IBR)
  • Pay As You Earn (PAYE)
  • Revised Pay As You Earn (REPAYE)
  • Income-Contingent Repayment (ICR)

Each income-driven repayment plan will cap your monthly federal student loan payment at 10-20% of your monthly discretionary incomeand will forgive your remaining student loan balance after you make 20-25 years of student loan payments.

Let’s explore each income-driven repayment plan in detail.

Income-Based Repayment (IBR)

Income-Based Repayment (IBR) is an income-driven repayment plan that caps your monthly federal student loan payment at either 10% or 15% of your monthly discretionary income, depending when you borrowed your federal student loans. You can receive student loan forgiveness on your remaining federal student loan balance after 20 or 25 years, depending when you borrowed your federal student loans.

If you are a new federal student loan borrower after July 1, 2014:

  • Your monthly student loan payment is capped at 10% of your monthly discretionary income
  • Your student loan payment will never be more than the 10-Year Standard Repayment Plan amount.
  • You are eligible to receive student loan forgiveness on your remaining balance after 20 years of payments.

To qualify as a new borrower, you must (a) have Direct Loans, and (b) have no outstanding balance on a William D. Ford Federal Direct Loan (Direct Loan) Program loan or Federal Family Education Loan (FFEL) Program loan when you received a Direct Loan on or after July 1, 2014.

If you are not a new federal student loan borrower after July 1, 2014:

  • Your monthly federal student loan payment is capped at 15% of your monthly discretionary income.
  • Your federal student loan payment will never be more than the 10-Year Standard Repayment Plan amount.
  • You are eligible to receive student loan forgiveness on your remaining balance after 25 years of payments.

Pay As You Earn (PAYE)

Pay As You Earn (PAYE) is an income-driven repayment plan that caps your monthly federal student loan payment at 10% of your monthly discretionary income and forgives your remaining federal student loan balance after 20 years. Under PAYE, you will not pay more than the 10-Year Standard Repayment Plan amount.

Most borrowers who qualify for PAYE can’t afford their student loan payments and started college after 2007. If you enrolled before 2007, you may still qualify for PAYE if:

  • You borrowed federal student loans after October 1, 2007;
  • You didn’t have a federal student loan balance when you borrowed federal student loans after October 1, 2007; and
  • You received a Direct Loan on or after October 1, 2011.

Revised Pay As You Earn (REPAYE)

Revised Pay As You Earn (PAYE) is an income-driven repayment plan that caps your monthly federal student loan payment at 10% of your monthly discretionary income and forgives your remaining federal student loan balance after 20 years (undergraduate student loans) or 25 years (graduate student loans).

Income-Contingent Repayment (ICR)

Income-Contingent Repayment (ICR) is an income-driven repayment plan that caps your monthly federal student loan payment at the lesser of the following:

  • 20% of your discretionary income; and
  • What you would pay on a repayment plan with a fixed payment over the course of 12 years, adjusted according to your income

Since monthly payments are capped at 20% of discretionary income, ICR is considered to be more expensive than other income-driven repayment plans. After 25 years of payments, you can receive student loan forgiveness on your remaining federal student loan balance.

How does an income-driven repayment plan work?

There are four income-driven repayment plans: IBR, PAYE, REPAYE and ICR. Each income-driven repayment plan has the same purpose: to allow you to repay federal student loans based on your discretionary income and still have enough money for living expenses. Your discretionary income is the amount of money you have remaining after you pay for essential living costs such as food and housing.

Each year, you provide your annual income to the U.S. Department of Education. Based on your income, family size and state of residence, as well as federal poverty guidelines, your discretionary income and student loan payment is calculated.

Who qualifies for income-based repayment?

Each income-driven repayment plan has its own qualifications:

Income-Based Repayment (IBR)

To qualify for IBR:

  • You must demonstrate financial need based on your income and family size; and
  • The student loan payment you would be required to make under IBR (based on your income and family size) must be lower than what you would pay under the Standard Repayment Plan.

Here is a simple test to know if you qualify for IBR: if your federal student loan debt is higher than all or most of your discretionary income, you likely qualify.

For IBR, only certain types of federal loans are eligible:

  • Direct Loans (subsidized and unsubsidized)
  • Federal Stafford Loans (subsidized and unsubsidized)
  • Direct PLUS Loans made to graduate or professional students
  • Direct Consolidation Loans that did not repay any PLUS loans made to parents
  • FFEL PLUS Loans made to graduate or professional students (but not made to parents)
  • FFEL Consolidation Loans that did not repay any PLUS loans made to parents
  • Federal Perkins Loans (if consolidated)

Payment Amount: 10% – 15% of your discretionary income.

Your discretionary income is equal to the difference between your adjusted gross income and 150% of the federal poverty guidelines based on your family size and state of residence.

You will pay 10% of discretionary income if you first borrowed federal student loans starting July 1, 2014 and previously did not borrow a Direct Loan or FFEL loan. You will pay 15% of your discretionary income if you borrowed federal student loans prior to July 1, 2014.

You can use this income-based repayment calculator to determine what your monthly payment and student loan forgiveness would be under income-based repayment.

Repayment period: 20-25 years.

If you borrowed federal student loans for the first time after July 1, 2014, then your student loan repayment term is 20 years. All other borrowers have a student loan repayment term of 25 years.

Advantages:

  • You can receive lower monthly payments based on your income
  • You can receive student loan forgiveness

Disadvantages:

  • You may pay more student loan interest
  • You may pay off your student loans before you receive student loan forgiveness
  • Any student loan forgiveness you receive may be taxable

Pay As You Earn (PAYE)

To qualify for PAYE:

  • You must demonstrate financial need based on your income and family size;
  • The student loan payment you would be required to make under PAYE (based on your income and family size) must be lower thanwhat you would pay under the Standard Repayment Plan;
  • You borrowed federal student loans after October 1, 2007;
  • You didn’t have an outstanding federal student loan balance when borrowing these student loans; and
  • You must have received a Direct Loan on or after October 1, 2011.

Eligible Student Loans:

  • Direct Loans (subsidized and unsubsidized)
  • Direct PLUS Loans made to graduate or professional students (but not made to parents)
  • Direct Consolidation Loans that did not repay any PLUS loans made to parents

Eligible Student Loans, if consolidated:

  • Federal Stafford Loans (subsidized and unsubsidized)
  • FFEL PLUS Loans made to graduate or professional students (but not made to parents)
  • FFEL Consolidation Loans that did not repay any PLUS loans made to parents
  • Federal Perkins Loans

Payment Amount: 10% of your discretionary income.

Your discretionary income is equal to the difference between your adjusted gross income and 150% of the federal poverty guidelines based on your family size and state of residence.

You can use this Pay As You Earn (PAYE) calculator to determine what your monthly payment and student loan forgiveness would be under PAYE.

Repayment period: 20years.

Advantages:

  • You can receive lower monthly payments based on what you earn
  • PAYE offers one of the lowest monthly payments of any income-driven repayment plan
  • You can receive student loan forgiveness

Disadvantages:

  • You may pay more student loan interest
  • You may pay off your student loans before you receive student loan forgiveness
  • Any student loan forgiveness you receive may be taxable

REPAYE

To qualify for REPAYE, you don’t have to demonstrate financial need nor does it matter when you borrowed federal student loans.

Eligible Student Loans:

  • Direct Loans (subsidized and unsubsidized)
  • Direct PLUS Loans made to graduate or professional students (but not made to parents)
  • Direct Consolidation Loans that did not repay any PLUS loans made to parents

Eligible Student Loans, if consolidated:

  • Federal Stafford Loans (subsidized and unsubsidized)
  • FFEL PLUS Loans made to graduate or professional students (but not made to parents)
  • FFEL Consolidation Loans that did not repay any PLUS loans made to parents
  • Federal Perkins Loans

Payment Amount: 10% of your discretionary income.

Your discretionary income is equal to the difference between your adjusted gross income and 150% of the federal poverty guidelines based on your family size and state of residence.

You can use this Revised Pay As You Earn (PAYE) calculator to determine what your monthly payment and student loan forgiveness would be under REPAYE.

Repayment period: 20 – 25 years.

The repayment period for undergraduate student loans is 20 years. The repayment period for graduate student loans is 25 years

Advantages:

  • You can receive lower monthly payments based on what you earn
  • REPAYE offers one of the lowest monthly payments of any income-driven repayment plan
  • You can receive student loan forgiveness after 20 or 25 years

Disadvantages:

  • You may pay more student loan interest
  • You may pay off your student loans before you receive student loan forgiveness
  • Any student loan forgiveness you receive may be taxable

Income-Contingent Repayment (ICR)

To qualify for ICR:

  • You must have an eligible federal student loan.
  • There are no income requirements
  • This is the only income-driven repayment plan for borrowers with Parent PLUS Loans

Eligible Student Loans:

  • Direct Loans (subsidized and unsubsidized)
  • Direct PLUS Loans made to graduate or professional student
  • Direct Consolidation Loans

Eligible Student Loans, if consolidated:

  • Parent PLUS Loans
  • Federal Stafford Loans (subsidized and unsubsidized)
  • FFEL PLUS Loans
  • FFEL Consolidation Loans
  • Federal Perkins Loans

Payment Amount: The lesser of:

  • 20% of your discretionary income, and
  • Your monthly payment on a 12-year fixed repayment plan, adjusted based on your income

Your discretionary income is equal to the difference between your adjusted gross income and 100% of the federal poverty guidelines based on your family size and state of residence.

You can use this Income-Contingent Repayment (ICR) calculator to determine what your monthly payment and student loan forgiveness would be under ICR.

Repayment period: 25 years.

Advantages:

  • There are no income requirements, which means it’s easy to qualify
  • Parents with Parent PLUS Loans can enroll in ICR once they consolidate federal student loans into a Direct Consolidation Loan
  • You can receive student loan forgiveness

Disadvantages:

  • You may pay the highest monthly payment under ICR than any other income-driven repayment plan
  • Your monthly payment under ICR may be higher than your monthly payment under the Standard Repayment Plan
  • Any student loan forgiveness you receive may be taxable

How do I enroll in an income-driven repayment plan?

If you have federal student loans, you can enroll in an income-driven repayment plan at StudentLoans.gov. You can enroll in an income-driven repayment plan at any time. Alternatively, you can complete a paper form through your student loan servicer.

How do you know if you have federal student loans? Follow these steps:

  1. Check the National Student Loan Data System.
  2. You will need for Federal Student Aid ID, which you created when you applied for the Free Application For Federal Student Aid (FAFSA®).
  3. All your federal student loans will be listed in the National Student Loan Data System.
  4. If there are no student loans listed, then your student loans are likely private student loans.

Alternatively, you can contact your student loan servicer, who can tell you whether you have federal student loans, private student loans or both. If you only have private student loans, you won’t qualify for an income-driven repayment plan. However, you can lower your interest rate and lower your monthly payment through student loan refinancing.

Once you verify that you have federal student loans, it’s time to enroll in an income-driven repayment plan. You will need the following:

  • Your Federal Student Aid ID
  • Your social security number
  • If you are married, your spouse’s social security number
  • Recent pay stubs or a signed letter on company letterhead from within the last 90 days showing dates and hours worked
  • Your spouse’s income and whether you spouse has student loan

Once you have this information, you will be asked several questions. Make sure to follow these steps:

1. Enter Personal Information
You will be asked to enter basic personal information.

2. Choose an income-driven repayment plan
You can either choose an income-driven repayment plan, or you can have your student loan lender help choose the income-driven repayment plan that qualifies you for the lowest monthly payment.You will be asked whether you want to enroll in a new income-driven repayment plan, switch to a different income-driven repayment plan or resubmit the same information. Each year, you will need to re-certify your personal information, income and financial information.

3. Enter information about your spouse and family
First, you will provide information about your family, including your children and dependents. Then, you will provide information about your spouse, including your spouse’s social security number, date of birth, income, whether your spouse has student loans and tax filing status. If you are not married, you will provide your income information.

4. Provide your income information
Next, you will provide your income information, which is supported by either a pay stub or letter from your employer. You can verify your adjusted gross income from your most recent federal tax returns. Alternatively, you can use the IRS Data Retrieval Tool, which will add your income information directly to your income-driven repayment planapplication. If you did not file an income tax return, you can provide a paystub. If you are unemployed, you can provide documentation that shows your unemployment benefits.

5. Certify your request to enroll in an income-driven repayment plan
Certify whether you are requesting a specific income-driven repayment plan, or you can ask your lender to place you in an income-driven repayment plan with the lowest monthly payment.

What is the best income-driven repayment plan?

The best income-driven repayment plan depends on your unique financial situation, circumstances and goals. The best income-driven repayment plan is typically the repayment plan with the lowest monthly payment. Rather than choose your own income-driven repayment plan, you can let your student loan servicer enroll you in the plan you qualify for with the lowest monthly payment. You can select this option when directly on the income-driven repayment plan application.

Income-Based Repayment (IBR)

Income-Based Repayment (IBR) is the best income-driven repayment plan when:

  • You don’t qualify for Pay As You Earn (PAYE)
  • You have FFELP loans
  • You expect your income to remain steady or decline over time
  • You have student loan debt from graduate school
  • You are married and both you and your spouse generate income

Pay As You Earn (PAYE)

Pay As You Earn (PAYE) is the best income-driven repayment plan when:

  • You have graduate school student loans
  • You don’t expect your income to increase over time
  • You are married and both you and your spouse generate income

Revised Pay As You Earn (REPAYE)

Revised Pay As You Earn (REPAYE) is the best income-driven repayment plan when:

  • You are not married
  • You expect your income to increase over time
  • You do not have graduate school student loans
  • You want to minimize interest accrual on your student loans

Income-Contingent Repayment (ICR)

Income-Contingent Repayment (ICR) is the best income-driven repayment plan when:

  • You have Parent PLUS Loans

What are the advantages of income-driven repayment plans?

There are two main advantages of income-driven repayment plans:

  • You can make a lower monthly student loan payment
  • You can receive student loan forgiveness

You can make a lower monthly student loan payment

Income-driven repayment plans help you lower your monthly payment for your federal student loans. Income-driven repayment plans typically have lower than monthly payments than the Standard Repayment Plan. Your new monthly payment will be capped as a percentage of your adjusted gross income. For example, PAYE and REPAYE cap your monthly student loan payment at 10% of your discretionary income. IBR caps your monthly student loan payment at either 10% or 15% of your discretionary income. ICR caps your monthly student loan payment at 20% of your discretionary income or your monthly payment on a 12-year fixed repayment plan, adjusted based on your income, whichever is lower.

With a lower student loan payment, you have more money to spend for living expenses, to save for retirement or invest in your future. You also keep all your benefits that come with federal student loans such as forbearance and deferment.

You can receive student loan forgiveness

All four income-driven repayment plans offer student loan forgiveness for your federal student loans at the end of a required payment period, which is 20 to 25 years, depending on which plan you choose.If you plan to enroll in the Public Service Loan Forgiveness program, you must make the majority of your 120 student loan payments while enrolled in an income-driven repayment plan. Which income-driven repayment plan is best for public service loan forgiveness? This public service loan forgiveness calculator compares all the income-driven repayment plan and shows you which income-driven repayment plan maximizes student loan forgiveness for you based on your personal financial situation.

Is Income-Based Repayment A Good Idea?

You may ask: “What are the disadvantages of income-driven repayment plans?”
There are several disadvantages of income-driven repayment plans:

You might pay more for your student loans

Income-driven repayment plans lower your monthly payment, which can provide flexibility and extra money for living expenses, savings and investments. However, an income-driven repayment plan does not lower your interest rate. While an income-driven repayment plan saves money in the short-term, it can be more expensive in the long run. While you pay less each month, interest will accrue on your federal student loans. Therefore, you could pay more in total interest with an income-driven repayment plan than you would under the Standard Repayment Plan. If you want to lower your interest rate, then consider student loan refinancing.

For example, let’s assume you have $50,000 of student loans at a 7% interest rate. On a 10-year Standard Repayment Plan, you would pay $581 each month, and total interest over 10 years of $19,665. On a 20-year repayment plan, you would pay $388 each month, and total interest over 10 years of $43,036. Therefore, while your monthly payment decreased $193, your total interest payment increased $23,371.

You may not receive student loan forgiveness

Income-driven repayment plans offer you federal student loan forgiveness after 20 or 25 years. However, you may pay off your student loans before you receive any student loan forgiveness. Understand which income-driven repayment plan option provides you with the maximum student loan forgiveness. These student loan calculators can help:

You must recertify income each year

When you enroll in an income-driven repayment plan, you provide income information for you, and if applicable, for your spouse. Each year, you must recertify your income to determine your monthly payment and to ensure that you qualify for the same income-driven repayment plan. If your income increases, your payment can change and you may not qualify for the same income-driven repayment plan. Therefore, an income-driven repayment plan takes more time and energy given the annual recertification.

Your student loan payments can increase

If you have a Standard Repayment Plan, you will pay the same, fixed monthly student loan payment. With an income-driven repayment plan, however, your payments may increase over time if your income increases. When you recertify your income each year, you may receive a new monthly payment amount. This amount may be higher or lower than your current payment. Generally, if your income increases from one year to the next, your student loan payments can increase. If you’re enrolled in Income-Based Repayment (IBR) or Pay As You Earn (PAYE), the good news is that you will never pay more than you would have under the 10-Year Standard Repayment plan. However, Income-Contingent Repayment (ICR) or Revised Pay As You Earn (REPAYE) do not cap how much your monthly student loan payment can increase.Therefore, ICR and REPAYE could become more expensive than the Standard Repayment Plan.

You may owe income tax

All income-driven repayment plans offer some form of student loan forgiveness. After 20 or 25 years of on-time payments, if you have a remaining balance on your federal student loans, you won’t have to pay any more. However, you may be liable for income tax on the amount of student loan forgiveness that you receive. The federal government views any forgiven student loan debt as taxable income. Therefore, you may owe thousands of dollars in income tax when you receive student loan forgiveness through an income-driven repayment plan.

Can you really get student loan forgiveness?

You may be wondering whether you can really get student loan forgiveness. If you have federal student loans, you must be enrolled in an income-driven repayment plan to receive student loan forgiveness. Income-driven repayment plans offer student loan forgiveness after 20 or 25 years, depending which income-driven repayment plan you choose. To qualify for student loan forgiveness, you must make on-time payments for 20 to 25 years, and then you can receive student loan forgiveness on any remaining balance. Remember, the federal government treats any student loan debt balance that is forgiven as taxable income. Therefore, you may owe income tax on the amount of federal student loan forgiveness that you receive. Student loan forgiveness through income-driven repayment plans apply only to federal student loans, not private student loans.

It is possible to receive federal student loan forgiveness earlier than 20 or 25 years. For example, the Teacher Loan Forgiveness Program offers partial student loan forgiveness after five complete and consecutive academic years of full-time teaching in a low-income school.

The Public Service Loan Forgiveness Program offers complete student loan forgiveness if you work in public service and make 120 on-time monthly payments. The majority of your monthly student loan payments must be while enrolled in an income-driven repayment plan. The good news with public service loan forgiveness is that you will not owe income taxes on the amount of student loan forgiveness you receive.

Does income driven repayment affect my credit score?

The most popular income-driven repayment plans are Income-Based Repayment (IBR), Pay As You Earn (PAYE) and Revised Pay As You Earn (REPAYE). If you enroll in an income-driven repayment plan, you may ask the following questions regarding your credit score:

  • Will signing up for income-driven repayment hurt my credit score?
  • Will signing up for income-driven repayment help my credit score?

Will signing up for income-driven repayment hurt my credit score?

When you enroll in an income-driven repayment plan, there is minimal impact to your credit score. An income-driven repayment plan does not signify to lenders that you are delinquent on your student loan payments, nor does it signify late payments or skipped payments. Rather, income-driven repayment plans help you manage your student loan payments relative to your income.

Will signing up for income-driven repayment help my credit score?

When you sign up for an income-driven repayment plan, there is little impact to your credit score. The good news is that you can take proactive steps to increase your credit score when you enroll in an income-driven repayment plan.

Pay off other debt: Since your monthly student loan payment will be lower, you have more money available each month. You can use that extra money to pay off other debt, such as credit card debt.When you pay off debt, you can increase your debt-to-income ratio. A higher debt-to-income ratio can increase your credit score.

Avoid missing payments: An income-driven repayment plan can also remove the burden of high monthly student loan payments. This can mean you are less likely to skip a payment or make a late payment for your student loans. Making a late payment or missing a payment are two major ways to lower your credit score. With more income each month, you have more money and flexibility to pay off your student loans and avoid bad financial decisions.

While enrolling in an income-driven repayment plan may not directly impact your credit score, you can increase your credit score by paying off debt and improving your debt-to-income ratio.