A New Option: The Pay As You Earn Repayment Plan
The Pay As You Earn Payment Plan, which was finalized by the federal government in early November 2013, is a redesigned version of the Income-Based Repayment (IBR) program. In an attempt to further aid students who are struggling to meet their monthly payments, it will reduce the cap on loan payments from 15% of the borrower’s income to 10%, while accelerating loan forgiveness from 25 years to 20 years.[i] The hope is that students who failed to take advantage of IBR will make use of the new Pay As You Earn plan.
Who’s Eligible for Pay As You Earn?
According the U.S. Department of Education, to qualify for Pay As You Earn, you must have a partial financial hardship. This means the monthly amount you would be required to pay on your eligible federal student loans under the 10-year Standard Repayment Plan is higher than what you would have to pay under Pay As You Earn. [ii]
The Direct Loans below are eligible for Pay As You Earn:
- Direct Subsidized Loans
- Direct Unsubsidized Loans
- Direct PLUS Loans made to graduate or professional students
- Direct Consolidation Loans without underlying PLUS loans made to parents
The following loans are not eligible for Pay As You Earn:
- Direct PLUS Loans made to parents
- Direct Consolidation Loans that repaid PLUS loans (Direct or FFEL) made to parents
- FFEL Program loans
- Private education loans
To qualify, you must also be a new borrower as of October 1, 2007, and must have received a disbursement of a Direct Loan on or after October 1, 2011. You are considered a new borrower if you had no outstanding balance on a Direct Loan or FEEL Program loan as of October 1, 2007, or if you had no outstanding balance on either type of loan when you received a new loan on or after October 1, 2007. [ii]
How Much are Monthly Payments?
Your monthly payment amount may go up or down annually based on the size of your income and your family. If you’ve initially qualified for Pay As You Earn, you can continue to use the repayment plan even if you no longer qualify for partial financial hardship. Under the plan, monthly payments are:
- Calculated based on your income and family size
- Often lower than they are under other repayment plans
- Never over 10-year standard repayment amount
- Paid out over a period of 20 years [ii]
Advantages and Disadvantages of Pay As You Earn
As is the case with any repayment program, there are certain advantages and disadvantages that you should be aware of before you sign up.
Let’s start with the advantages according to the U.S. Department of Education:
- Your monthly payment under Pay As You Earn will never be more than the amount you would be required to pay under the 10-year Standard Repayment Plan (and may be less than under other plans).
- If your monthly Pay As You Earn payment doesn’t cover the interest that accrues on your loans each month, the government will pay your unpaid interest on your Direct Subsidized Loans (and on the subsidized portion of your Direct Consolidation Loans) for up to three consecutive years.
- If you repay Pay As You Earn and meet certain other requirements, any remaining balance will be forgiven after 20 years of qualifying repayment.
- If (while employed full-time for a public service organization) you make 120 on-time, full monthly payments, you may be eligible for forgiveness of the remaining balance of your direct loans under the Public Service Loan Forgiveness Program.
The following are some of the disadvantages of Pay As You Earn:
- You may pay more interest, if you end up repaying your loan for a longer period of time than under other repayment plans.
- You must submit annual documentation to your loan servicer to set your payment amount each year.
- You may have to pay taxes on any loan amount that is forgiven after 20 years.[ii]