Changes to Student Loans with the new SAVE Income Driven Repayment Plan
The main feature of the new SAVE Plan, which will replace the existing REPAYE plan is that it will reduce the monthly student loan payments for many borrowers by decreasing the required payment for loans taken out for undergraduate education from 10% to 5%, while also adjusting the calculation for discretionary income to a lower amount for most borrowers. Graduate borrowers will still have payments based upon 10% of their discretionary income, but the federal poverty level, which is subtracted from adjusted gross income in the calculation, goes from 150% of the FPL to 225%, which could lower the payments by a significant amount. This new plan will also allow borrowers to file their taxes returns as Married Filing Separately, which was not allowed on the previous REPAYE plan. This can also have the effect of substantially reducing their student loan payments. Another benefit is that the new SAVE plan subsidizes any interest that is not covered by the monthly payment, so that the loan balance does not keep increasing because of accrued interest that is not paid. The prior REPAYE plan only subsidized unpaid interest at 100% for the first three years, and then only for 50% after that. This is a huge benefit for borrowers whose payments do not cover the accrued interest.
While there are many benefits to switching to the new SAVE plan, for some borrowers, it will make sense to stay on their IBR or PAYE plans because there is a payment cap equivalent to the monthly payment that would have been made on the loan based on a standard ten-year repayment plan. For example, if a borrower’s income is expected to rise significantly, such that their calculated payment on an income driven repayment plan exceeds the amount that would be paid on a standard repayment plan, it may be worthwhile to stay on one of these plans that offer a payment cap.
Some provisions of the SAVE plan will be implemented this summer, prior to the restart of payments expected October 1, 2023, including those listed below:
- The calculation of discretionary income will change. The current calculation is adjusted gross income -150% of the federal poverty level. The new calculation will be adjusted gross income -225% of the federal poverty level. This reduces discretionary income and will result in a lower calculated payment.
- Married borrowers who file their taxes separately can exclude spousal income from gross income. The former REPAYE program considered both spouse’s income, regardless of how the taxes were filed.
- Interest not covered by the loan payment will not accrue on the loan. The current REPAYE plan subsidizes only the first three years at 100%, and the remaining years at 50%. The accumulated interest causes the loan balance to increase, and when the loan is eventually forgiven, results in a higher tax bill for the borrower.
Phase II of the SAVE plan happens on July 1, 2024 when the REPAYE plan formally becomes the SAVE plan. On this date, borrowers can no longer choose to enter the PAYE plan. They can remain on it if they are already enrolled prior to this date. ICR will be closed to all new borrowers (except those with Direct Consolidation loans used to repay Parent Plus Loans, and IBR will still be available to new enrollees, but borrowers will be prohibited from switching to the SAVE plan if they have made at least 60 monthly payments on the REPAYE/SAVE plan after July 1, 2024. Starting next summer, only the SAVE and IBR plans will be open to new enrollees, while new and existing borrowers will have until July 1, 2024 to decide whether they want to opt into the PAYE or ICR plans while they still can. Provisions of SAVE that go into effect on July 1, 2024 include the following:
- The calculation for payments for undergraduate borrowers goes from 10% of discretionary income to 5% of discretionary income, so the payments will be cut at least in half as compared to the REPAYE plan. If the borrower has both undergraduate and graduate loans, the payments are calculated using a weighted average based upon the loan’s original balances, using 5% of the borrower’s discretionary income for undergraduate loans and 10% of discretionary income for graduate loans.
- Borrowers with loan balances of no more than $12,000 will now be eligible for forgiveness after 10 years of monthly payments as opposed to 20-25 years under the other IDR plans. Additionally, borrowers will be able to get credit for forgiveness during months where they did not make payment as well as for payments on loans that were consolidated, which previously set the clock on forgiveness and required the borrower to make another 20-25 years of payments to be eligible for forgiveness. The number of months credited prior to consolidation is equal to a weighted average of each of the original loans’ initial principal amounts times the number of payments made on that loan prior to the consolidation, rounded up to the nearest month.
Borrowers on income driven repayment plans are required to recertify their income and household size each year to confirm and/or recalculate their required payment account. The earliest date that borrowers are required to recertify is 6 months after the end of the loan pause, which in this case would be March 1, 2024. Depending upon the borrower’s recertification date, some borrowers won’t need to recertify until early 2025. Also, the recertification process will be automated going forward, and borrowers can check a box to provide approval for the Department of Education to access their tax return directly from the IRS, eliminating the need to remember to do this annually. A lot could have happened during the repayment pause, including marriages, divorces, children, deaths, new jobs, layoffs, and income changes, and this will determine if you should recertify early. If payments would be set to increase after recertification, it makes sense to wait as long as possible. On the other hand, if your payment may be lower, it would make sense to recertify sooner, rather than later.
It is also important to determine if it makes sense to file separately. The new SAVE plan allows for this, as opposed to the REPAYE plan that used both incomes to calculate payments. Some things to keep in mind are that there are some credits and deductions that are not available for borrowers who are married, but choose to file separately including these listed below:
- Child and dependent care Credit
- American Opportunity Credit
- Lifetime Learning Credit
- Student Loan Interest Deduction
- Qualified US Savings Bond Interest deduction
Also, both spouses must either itemize or take the standard deduction if filing separately.
There have been so many changes to the student loan repayment options that it makes sense to take another look at your situation to make sure you are on the best repayment plan for your circumstances.
About the Author
Patti Hughes is a Chicago Fee-Only Financial Planner. Lake Life Wealth Advisory Group provides comprehensive and objective financial planning, retirement planning, and investment management to help clients organize, grow and protect their assets through life’s transitions. She is a fiduciary, and does not sell products or earn commissions, so she truly acts in the best interests of her clients.