We've talked before about Income Based Repayment. Since then, you've had a few questions about how the program works, so I wanted to revisit some of them.
First, a refresher course: Income Based Repayment uses your adjusted gross income, family size and state of residence to calculate your monthly payment on certain federal student loans. IBR is a federal program, so private student loans don't qualify. And to eligible, the loan can't be in default. Also, remember that the Health Care and Education Reconciliation Act that we talked about last week includes some changes to the program, but that won't happen until 2014.
Now, let's dive in to some of your questions....
If I no longer qualify, do I have to leave IBR?
If your income rises, and you no longer have a financial hardship that makes you eligible for Partial Financial Hardship (PFH) payments under an income-based repayment schedule, you can still repay under IBR. There are added benefits to the program, like loan forgiveness after a certain period of time, which you can still take advantage of even if your payments are no longer based on your income.
What happens to my payment if I no longer qualify for PFH payments?
When you no longer qualify for PFH payments, your required monthly payment reverts back to a standard 10-year repayment schedule that is based on the amount of your eligible loans that were outstanding when you began repaying under IBR. Because the principal balance on your loans may have increased while you were making PFH payments (see the next question for more info), your actual repayment period may be longer than 10 years.
Will my interest be capitalized?
If your payment is no longer based on your income, the interest that you've accrued will be capitalized (added to the principal balance, which means it will accrue interest of its own). Before you decide on IBR, it's best to compare the total amount of interest you'd end up paying with IBR versus a standard repayment plan.
What about the debt that's forgiven after 25 years?
You know that any remaining debt after 25 years of payments in IBR is forgiven. One thing folks have been wondering about, though, is paying taxes on the forgiven amount. Yes, any forgiven debt is treated as taxable income.
This has a couple of readers worried. After all, the amount forgiven could be pretty significant. Just remember that if there is a forgiven amount, it will happen quite some time from now. So the amount you'll have to pay taxes on may not seem as scary when you think about the net present value of the tax you'd have to pay.
Are there special steps married borrowers need to take in order to qualify?
IBR payments are calculated using a borrower's adjusted gross income. In order for one spouse to calculate the IBR payment using his/her own AGI, the married borrowers must file taxes as "married filing separately." This situation is a tough one because you're weighing the repayment option with possible tax benefits from filing as a married couple. It might be wise to speak with a tax advisor before making your decision about IBR. Also, if you live in a community property state, you might want to check into whether your spouse's income would be considered.
Do you have any other questions about IBR? Let us know what you're wondering!