If you’ve set a goal to get your monthly budget under control, refinancing your student loan to a shorter term or longer term based on your unique financial situation can be one way of achieving this.
Here are some ways you can think about maximizing the value of student loan refinancing.
1. The value of shorter term vs. longer term refinancing.
As you may already know, the amount of interest paid on a loan is based on the principal. Therefore, the less principal you have, the less interest you have to pay. On one hand, if you pay down your principal faster through a shorter-term refinance, you will pay less in the long run and be out of debt faster. However, refinancing to a longer term with lower payments can do a lot to help you get your monthly expenses under control now. With more funds available, you can invest into your retirement account, your savings account, or pay more off other debts that you have. Whether longer term or shorter-term refinance is the better choice for you will depend on your unique financial situation and goals.
2. More mortgage options.
Refinancing your student loan to a shorter term means your monthly expenses will be higher, but the upside is that you’ll be lowering your debt-to-income ratio (DTI) quicker. With a better DTI–an important number considered by mortgage lenders –the more likely you are to qualify for a larger mortgage balance. The sooner you can become a homeowner, a cornerstone of wealth-building, the sooner you can begin building equity in your home.
3. More auto loan options.
Similar to mortgages, a better debt-to-income ratio achieved by paying off your student loan debt faster could potentially make more auto loan options with higher balances and lower interest rates available to you. While cars do depreciate over time, if a larger balance car loan gives you the opportunity to purchase a better, more reliable new or used car, you can potentially save more money in the long run by not having to purchase another vehicle anytime soon. On the flip side, if you have many months of auto loan repayment ahead or if your auto loan payments are higher than you’d like them to be, refinancing your student loan debt to a longer term may help you get your monthly expenses in check.
4. Increased savings for retirement.
Allocating a portion of your monthly income toward your retirement savings is a smart move, but you may not be able to invest as much as your need or want because of student loan debt. Refinancing your student loan debt may give you the ability to save more each month toward your retirement. Let’s say, for example, through your refinancing you were able to invest an extra $400 a month in your retirement. If you invest that amount monthly for 40 years and have a 7% annualized return on investment, you would have a $1 million balance by the time you retire.
In order to get the maximum value out of student loan refinancing and payment options, it’s essential to continually re-evaluate your financial situation and monthly budget as your career and circumstances change throughout your life.