What Students Need to Know About Income-Driven Repayment Plans

Kirsten Anderson
September 5, 2020

So many of us have student loan debt and especially in uncertain times such as the COVID pandemic, it’s good to know you have options for repaying your student loans. If your federal student loan is high compared to your income, income based student loan repayment might be for you. 

Income based student loan repayment plans or IBR is one of four IDR plans offered by the Department of Education. Instead of tying your payments to the balance of your student loan, your repayment under this plan will be based on your income. This will take into account your family size and discretionary income. Your IBR will be 10%-15% of whatever money you have leftover after your living expenses and taxes are paid. Your discretionary income is calculated by subtracting your adjusted gross income from 150 percent of the annual poverty line for a family of your size and state. 

You might be asking if IBR is a good idea. That depends on your situation. Something that may detract you from making the decision to apply for an IBR is how many life changes you anticipate. You must reapply for IBR each year before the deadline and the amount you pay may fluctuate based on your family size. 

Getting married? If your spouse makes more than you, it’s possible you may no longer qualify and revert to the amount specified in your original 10-year loan standard repayment plan. It is also important that at the end of your loan repayment term (20-25 years) you will be on the hook to pay income taxes on whatever the total amount is forgiven at that time is. However, if you are in over your head or just want to be able to stretch your income a bit further, IBR may be for you. Over 20-25 years you will have your loans consolidated into manageable payments based on your individual situation.

What are income-driven repayment plans?

There are four types of federal loan payment options where the amount you pay each month is tied to your earnings. This only applies to federal direct loans, so whatever amount of money you borrowed from a private lender is not eligible. There are three plans on top of IBR that fall under the IDR umbrella.

Pay as you Earn (PAYE)

Introduced in 2012, Pay as you Earn (PAYE) has helped strapped borrowers better manage their student loan debt payments. If you are struggling to meet your monthly payments and were a direct loan borrower (after October 1, 2007), and took out another direct loan (after October 1, 2011), then this repayment option is a good choice for you. 

As a borrower, your monthly loan payments are maxed out at 10% of your discretionary income. PAYE,  as for IBR, defines discretionary income as the difference between your annual income and 150 percent of the federal poverty guideline for your family size and state of residence. In order to qualify, you must prove that you will not be able to follow and meet the standard 10-year repayment plan.

This is one of the most generous offers available if you indeed qualify for PAYE. The plan is also a great opportunity for those who qualify for the federal Public Service Loan Forgiveness program. As a student loan borrower, if you repay your loans with PAYE, and qualify for the public service program, you don’t have to pay income tax on the forgiven loan.

The terms look like this:

  • Never more than 10% of your discretionary income
  • Promised forgiveness after 20 years

Need to rebuild credit? Possible is here to help.

Download

Revised Pay As You Earn (REPAYE)

Introduced in December 2015, Revised Pay and you Earn (REPAYE) is the newest option for income-driven repayment plans. Direct Loans, Stafford Loans, and Graduate PLUS Loans are eligible for REPAYE, as well as other non-parent federal student loans that are consolidated into Direct Loans.

REPAYE also includes a student loan interest subsidy that can be a huge benefit for borrowers with monthly payments that don’t cover interest charges. If they are on REPAYE, 100% of unpaid interest each month is paid for on subsidized loans. And 50% of unpaid interest is subsidized for unsubsidized student loans. 

Depending on your income, your monthly payment under an IDR plan may not be enough to pay off the accrued interest. This is called negative amortization in which the amount of interest you’re being charged doesn’t vary. This can lead to a situation where your monthly payment not only doesn’t pay off any principal at all, it doesn’t even cover the interest due.In this case, the government might cover at least some of your interest for a certain period.

The terms look like this:

  • Never more than 10% of your discretionary income
  • Promised forgiveness after 20 years or 25 years for graduate studies.  

Income-Contingent Repayment (ICR)

The Income-Contingent Repayment(ICR) Plan may be for you if you’ve applied for the other plans but was rejected. Like PAYE and REPAYE, you will be able to reduce your monthly student loan payment. You may be able to get a reduced payment if you plan to go into a low-paying but fulfilling career field or your student loan payments are so high that they’re unaffordable even with a great salary, an income-contingent repayment (ICR) plan could help. It’s the only IDR plan, for example, for which Parent PLUS Loans are eligible — though you will have to consolidate these loans first.

The interest rate for the income-contingent repayment plan is fixed for the life of your loan. If you first consolidate your loans, your interest rate through ICR is the weighted average of the interest rates on the loans included, rounded up to the nearest one-eighth of 1%. Two important details of this loan are depending on your income, payments could end up higher than with the standard repayment plan and any debt forgiven under ICR will be seen as taxable income after the forgiveness period is over at 25 years. 

The terms look like this:

  • Monthly payments either lesser 20% of your discretionary income or monthly payments when the loan is amortized over 12 years
  • Promised forgiveness after 25 years

Should you switch to income-driven repayment?

There are quite a few benefits to enrolling in an IDR plan as a student loan borrower. But IBR and other IDR plans have some potential disadvantages as well. 

Income-driven repayment (IDR) plans PROS

  • Monthly payments are more manageable
    If you have low income compared to your student loan balance, IDR plans for federal student loans can lower your monthly payments 
  • Adjust payments when your income or family size changes
    These plans allow for flexibility if your hours are cut or your family grows with recertification of your IDR plan. Your monthly payments will be recalculated according to changes in your income and circumstances. They can be as low as $0 if your situation fits the parameters.
  • Possible student loan forgiveness
    You may become eligible for student loan forgiveness after 20 to 25 years of on-time payments depending on the timing of your initial loans and the IDR plan you choose. Remember that the forgiven balance will likely be taxed as income for the year in which it’s forgiven.
  • Public Service Loan Forgiveness
    If you’re eligible for Public Service Loan Forgiveness, enrolling in IBR or a similar IDR can lower payments and help you maximize the benefits of this program. PSLF grants student loan forgiveness of any remaining balance after just 10 years of qualifying payments. Loans forgiven through PSLF won’t incur a tax bill, as this is not considered taxable income.

Income-driven repayment (IDR) plans CONS

  • Length of loan repayment
    It will take longer than the typical 10 years on the Standard Repayment Plan to get out of student debt because you’re paying less each month. IDR plans double the repayment term for over 20 to 25 years.
  • IDR student loan forgiveness will be taxed
    Any remaining student loan balance forgiven as part of income-driven repayment is considered taxable income. If your loan was large, you may have a scary tax bill at the end of the term.
  • You might pay more interest on an IDR
    Smaller payments are sometimes necessary but they can cause you to spend more over the life of your loan because you’ll be accruing and paying interest for an additional 10 to 15 years.
  • Your student loan balance could grow
    If your student loan balance is very high, you might have high monthly interest charges. But under IDR, your monthly payments might not cover your interest. Interest that goes unpaid could be added to your balance and cause it to grow instead of shrink.
  • Paperwork every year
    Yearly, you will be reapplying for income-based student loan repayment or IDR plans. You must also recertify your income every 12 months.
  • Limited Choices
    An IDR will not be an option for everyone. Only certain plans may be available to you and not all federal student loan borrowers will qualify for or benefit from an IDR. Other borrowers might have to consolidate their federal student loans to become eligible for IDR.
  • You might make too much money
    An IBR plan would not benefit you Ii 10 percent of your income is higher than your monthly payment on a Standard Repayment Plan.  If you’re married, payments might be the sum of your combined income. 

Monthly Payments

Your monthly payments under Income-Based Repayment (IBR), Pay As You Earn (PAYE), and Revised Pay As You Earn (REPAYE) are calculated as 10% or 15% of your "discretionary income", which is your income minus 150% of the poverty level for your family size and state. If you earn below 150% of the poverty level, your required loan payment will be $0. If you earn more, your loan payment will be 10% or 15% of whatever you earn above that amount. 

If your income hasn't changed much since you filed your last federal tax return, your monthly payments will be calculated using your Adjusted Gross Income (AGI). But if you had a significant change in income that is not reflected in your most recent tax return (e.g., if you lost your job or got a large raise), you will be asked to provide documentation of your current income and your monthly payment will be calculated based on that amount.

150% of the Federal Poverty Level for 2017

"Discretionary income" is your income minus 150% of the poverty level for your family size and state.In IBR and PAYE, your payment is capped at the fixed 10-year payment amount - the amount you would have been required to pay had you entered the 10-year "standard" repayment plan at the time you entered IBR or PAYE. REPAYE does not have that payment cap, so payments are always 10% of discretionary income.

Applying for an income-driven repayment plan

Your loan servicer will help you decide which plan is right for you. It is important that before you apply for an income-driven repayment plan, you ask any questions that may arise. To apply, you will submit an application called the Income-Driven Repayment Plan Request. Your loan servicer will supply you with an application. The application allows you to select an income-driven repayment plan by name, to request that your loan servicer determine what income-driven plan or plans you qualify for, and to place you on the income-driven plan with the lowest monthly payment amount.

If you have loans through more than one servicer that you want to repay under an income-driven plan, you will need to submit a separate request to each service.

During the application process, you’ll be asked to provide income verification information that will be used to determine your eligibility for the PAYE or IBR plans and to calculate your monthly payment amount under all income-driven repayment plans. This will, in most cases be your adjusted gross income (AGI). 

Your AGI will be used if you filed a federal income tax return in the past two years, and your current income isn’t much different from the income reported on your most recent federal income tax return.

You can provide your AGI in one of the following ways:

  • Apply using the online Income-Driven Repayment Plan Request and use the IRS Data Retrieval Tool in the application to transfer income information from your federal income tax return.
  • Use the paper Income-Driven Repayment Plan Request and provide a paper copy of your most recently filed federal income tax return or IRS tax return transcript.

If you haven’t filed a federal income tax return in the past two years, or if your current income is significantly different from the income reported on your most recent federal income tax return (for example, if you lost your job or have experienced a drop in income), alternative documentation of your income will be used to determine your eligibility and calculate your monthly payment amount. You can provide alternative documentation in one of the following ways:

  • If you currently receive taxable income, you must submit a paper Income-Driven Repayment Plan Request with alternative documentation of your income, such as a pay stub.
  • If you currently don’t have any income or if you receive only untaxed income, you can indicate that on the online or paper application. In this case, you’re not required to supply further documentation of your income.

Depending on whether you applied electronically or submitted a paper request form and whether you’ve submitted all required documents, it may take your servicer a few weeks to process your request, because they will need to obtain documentation of your income and family size. If you are currently repaying your loans under a different repayment plan, your loan servicer may apply forbearance to your student loan account while processing your request for an income-driven repayment plan.

Sign up for our newsletter