Resident & Student Finance

Medical student loans: Federal repayment vs. private refinancing

When it comes to student-loan debt, you’re far from alone. There’s no need to stress out or feel embarrassed about your situation. Instead, gain an understanding of the options available and make things manageable.

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In an episode of the AMA’s “Making the Rounds” podcast, Laurel Road’s Alex Macielak and anesthesia fellow Chirag Shah, MD, take a deep dive into both loan options and review the scenarios where one might make more sense than the other.

Below is a lightly edited, full transcript of their conversation. You can also listen to the whole episode on Apple Podcasts, Google Play or Spotify.

Dr. Shah: Most of our loans are initially through the federal government and then we graduate, and we're faced with the task of starting to pay those off—putting them into forbearance or signing up for a payment plan or refinancing through one of the private companies that are out there such as Laurel Road. Can you just go over, top line, what the difference is between federal repayment versus private refinancing?

Macielak: I think, speaking specifically to medical professionals, it’s a very unique repayment situation, No. 1, given the large amount of debt—almost always six figures, a lot of times over $200,000. It’s a unique employment situation where you're going to spend three, four, five years in training making—call it $50,000 to $70,000 or $80,000 as a fellow. And then, obviously, there’s a huge upside after that as a practicing physician where the expectation is that you're going to earn a strong six-figure salary thereafter.

There are a number of factors at play on the federal side, and most people, when they’re going to school, take out federal loans. About 90% of all the loans outstanding—all the student loans outstanding—are federal. And I think it's probably even a higher percentage within the medical world. Given that, the first strategy any physician should look at as you're exiting school and formulating your repayment strategy for residency and thereafter is examining those federal repayment programs you mentioned.

During residency, specifically, there are three variations of income-driven repayment options—there's income-based repayment, pay as you earn, and revised pay as you earn. All three of these ask the borrower to make their monthly payments based solely on their income and family size, as opposed to what they owe. Instead of paying based on the thought that you owe $200,000, you're paying based on your $50,000 or $60,000 residency salary, and that yields a monthly payment that's far more in line with your monthly cash flows.

Dr. Shah: But the thing to keep in mind there is that your principal is still building up because you're not covering the principal with the interest payment you're making. So, your loans will be larger by the end of your residency or fellowship, what have you.

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Macielak: And that's going to be the case in basically any strategy you implement during residency. I mean unless, again, you had a pile of cash, or maybe a spouse or a parent who wanted to help pay on the loans. I was never a resident, but I couldn’t fathom any resident having another job outside of residency. Unless you have those extra funds, whether you had refinanced, whether you are in forbearance, whether you are in income-driven repayment, there’s a high likelihood that your monthly payment isn't even covering the accruing interest on the loan. That, I think, is a factor that's always going to be in play as a resident.

There’s a nice benefit in one of these income-driven options, revised pay as you earn, where the interest that's accruing that your monthly payment is not covering—half of that does not get charged to you. To put some numbers to that idea, let's say you're accruing $1,000 a month in interest, which is a realistic amount given this amount of debt. And let's say your monthly payment is $400 based on your income. That leaves $600 every month that is not being paid off and, typically, would be your responsibility to pay at the conclusion of the loan. In revised pay as you earn, half of that $600 is not charged to you. Instead of being left with $600 of outstanding interest each month, you're only left with $300.

Dr. Shah: Is that $300 just forgiven by the government?

Macielak: The verbiage in the actual program is not charged. I don't think they use the word forgiven, but effectively, it's like it never even existed. And this is incredibly beneficial to residents in this scenario, and it can reduce your effective interest rate. If the interest rate written on your loan is 7%, but half of that unpaid interest isn't getting charged to you, well your effective interest rate maybe is now more like 5% because of that benefit. That's a program that wasn't necessarily intended for residents and fellows but can be incredibly beneficial for them.

One thing I would note: if you have a working spouse, when they're calculating your monthly payment, they're going to consider the spouse's income. Theoretically, if you're making $60,000 and you have a spouse making $80,0000, your monthly payment will be based on the cumulative $140,000 household income. It'll yield a much higher monthly payment and therefore less interest that is not getting charged to you. People who benefit most from repay are high student-loan balance borrowers with a modest residency income and no other household income. That's how you reap the benefits of that program the most.

Dr. Shah: That sounds like a great strategy for repayment. Is there any difference between the pay as you earn versus the income-based repayment? How should residents think about applying to either of those or picking either of those if, let's say, they're married or for some reason are making larger payments?

Macielak: There’s a ton of nuance to these programs. For example, income-based repayment asks for 15% of discretionary income to go towards the loan, whereas pay as you earn and revised pay as you earn ask for 10%. Terms of forgiveness are also a factor. Outside of any public service type of work, if you were to stay in any of these programs for 20 or 25 years, making payments based on your income, at the end of that time, if there's any balance remaining, it gets forgiven. The caveat with forgiveness through income-driven repayment is it's a taxable event. Theoretically, you have $100,000 forgiven after 20 years, but that $100,000 is added to your adjusted gross income for that year, and you've got to pay taxes on it. So, certainly a consideration in determining the optimal repayment strategy.

But back to the nuance. The IBR is 25 years to forgiveness, pay as you earn is 20 years. Revised pay as you earn is 20 years for undergraduate borrowers, 25 years for graduate borrowers, which a medical professional would fall squarely in that bucket. Again, there are a lot of little differences between these programs. Another one, for example, is that with revised pay as you earn, even if you filed your taxes separately with your spouse, they still consider their income in calculating the monthly payment. That's not the case in pay as you earn or IBR. If you file separately, they'll only consider your individual income in calculating the payment. There are a lot of little differences, and I think if you were a resident, or someone who's soon to be graduating from medical school, it's something you have to take a very close look at and do your due diligence, do your research.

We actually, at Laurel Road, built a student-loan assessment tool that allows borrowers to enter in all of their loan financial information—where they work, if their spouse is working, if they have children, how long they plan to stay in residence—and all of these factors get plugged into the model we've built. And we'll provide the borrower with a personalized breakdown of each of these programs along with what things would look like if they chose to refinance. It's a really helpful tool. I think that people who are on the fence one way or another find a lot of value in it, and it's free to use. You can use it as many times as you'd like. A bit of information in a very complex decision, which I think goes a long way.

Dr. Shah: You touched a little bit on this, but public service loan forgiveness—that is a 10-year forgiveness program if I'm correct. And I guess, for most residents, we're at not-for-profit institutions. If you're in a five-year residency, that's five years towards repayment at a much lower rate, and then you would have to have five more years of nonprofit work. Is that the right way to think about it?

Macielak: It is. And I think one point that residents should really be aware of is, if you're planning on pursuing this public service loan forgiveness option—which is a tremendous program. Frankly, if your residency program qualifies for it and you think there's even a chance you'll continue to work for a nonprofit thereafter, there’s really no harm in setting yourself up for the program.

It's not something you need to commit to. I think there's a lot of misconception around that idea. But there’s nothing wrong with setting yourself up, and setting yourself up more or less entails enrolling in one of these income-driven options, which very likely would've been in your best interest even outside of the forgiveness program.

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Dr. Shah: Does it make sense to refinance right away after you graduate medical school, or should you wait after residency?

Macielak: It's a good question, and there's no one answer. I think everybody's situation is different. I started talking about folks with a working spouse. If that's the case, these income-driven options really don't benefit you, and that could be a great reason to refinance right after medical school. Alternatively, you might be someone who plans to practice family medicine at a non-profit for the duration of your career, that's what you're envisioning.

If that's the case, certainly utilize income-driven repayment and hope to have something forgiven through that public service loan forgiveness option at the end of 10 years. And I say hope because there has been some legislative discussion around the program. It's been proposed that they eliminate the public service loan forgiveness option as part of the most recent education budget proposal.

Dr. Shah: Would that be retroactively enforced?

Macielak: That is the big overhanging question that many borrowers are facing now. Past precedent has always been when they change these programs, previous borrowers—people who've already taken the loans out—get grandfathered through based on the original construction of the program. That's what we would expect to happen here. If you're someone who's seven years into pursing public loan forgiveness and very likely have made career decisions based on that program and the relief it can provide, the rug likely will not be pulled out from under you.

I would recommend though, if that's something you're planning on pursuing, keep a very close eye on the legislative proceedings. Certainly, I mean, as exemplified by the number of income-driven options that exist, the program's consistently changing. I mean, those four options rolled out over eight to 10 years. It's an ever-evolving marketplace, even on the federal side. So, maintain a good idea of what's going on relative to the program and keep very close records of making your payments and where you've been working.

Dr. Shah: Yeah, and speaking of records, I think one thing I learned during my journey was, if you're at a not-for-profit, make sure that you filled out your not-for-profit paper work, because you need to do that every year is my understanding for the public service loan forgiveness.

Macielak: That's right. It's called the employment certification form, which you can get filled out at your residency program. It's not a stated requirement of the program. Quite frankly, I think it was probably introduced as a budgeting tool by the government to get a sense of how many people are planning to pursue this loan forgiveness option. But it is certainly recommended that you do fill it out. It, I guess, makes clear at the end of the 10 years that you were intending to have your loans forgiven that entire time and had been working at a qualifying nonprofit institution that entire time.

Dr. Shah: If I want to refinance through a private company like yours and I wanted to do that because the interest rates are going to be lower, do you guys offer any limited payments during residency? Or is it just a regularly structured loan where you have even payment throughout the term of the loan?

Macielak: That's a good question. We at Laurel Road were actually the first lender in the country to introduce a dedicated refinancing program specifically for medical residents and fellows when the program was introduced back in 2015. And since then, residents and fellows have been able to refinance their loans to lock in that lower interest rate as soon as possible, and people are eligible to refinance as soon as you've matched to a residency program. Even in your final semester of school, you could lock in this rate with a monthly payment of $100 throughout the entirety of training, so residency and fellowship.

You do need to tell us when training will end so there will be a finite date at which standard repayment will start. And the idea is that standard repayment doesn't start until you're a practicing physician, earning an attending salary, and therefore can far more comfortably afford a standard monthly payment. We even allow residents a six-month grace period of sorts to continue making those $100 payments into practice. You don't need to, in your first month of earning a six-figure salary, immediately make a full monthly student loan payment. You can delay that for up to six months after the end of training.

Dr. Shah: If you're paying $100 a month, your interest is still building up. For example, in the repay program, you mentioned that some of that interest is forgiven, but here that principal amount and the interest will continue to build throughout your three, four-year residence. Is that right?

Macielak: It is, and what you're looking at and what you're trying to determine is the effective interest rate via revised pay as you earn with that loan subsidy component—is that lower than the rate at which you could get via refinancing? Not necessarily an easy, straightforward calculation. But again, that's part of the reason we built the loan-assessment tool that we offer to borrowers, to make those kind of decisions, because it isn't a straight forward one always. That's a great question and something people should be aware of.

Dr. Shah: If you go through private refinance versus the government, do you lose any benefits? Or are there any changes that occur if you're not backed by the government loan anymore?

Macielak: There are. I think the high-level tradeoff is you're trading the ability to utilize income-driven repayment, which, inherently, is a bit more flexible. It ensures that your monthly payment will never be a financial burden. Your monthly payment is always a product of your income, and therefore you'll never have a payment obligation that's out of whack with what you’re expecting.

So there's some inherent flexibility there that's only available on the federal loan. If you were to refinance the federal loan into a private loan, you lose the ability to utilize those programs. The same goes for public service loan forgiveness. You can no longer pursue loan forgiveness if you refinance. The trade off with refinancing, obviously, is that you're able to secure a lower interest rate.

I typically tell people: If you're someone who knows you're going to pay the loan back, you have no illusions of pursuing any type of forgiveness and you feel comfortable financially making a full monthly payment, refinancing tends to be the best fit for those type of circumstances. Whereas, as we've discussed, if you want to work at a nonprofit clinic, or work for the government for that matter, or you're maybe unsure of your income in the coming years, the federal options tend to be a better fit.

We have tried to mirror the benefits of our private loan program to the federal programs as much as possible. For example, we offer up to 12 months of forbearance should the borrower come into any periods of economic duress and are unable to make monthly payments—you had to take a leave of absence from work, whatever it may be—you can put the loan with Laurel Road on hold for up to 12 months.

We also forgive the loan in the event of death or permanent disability. Same as the federal loans. If anything happens to you, the loan is discharged even if you had a cosigner. That's a question we get asked a lot: If I have a cosigner on this loan, are they going to be responsible for it if anything happens to me? Simple answer is no, which I think people have some security in.

The AMA’s Career Planning Resource features a primer on medical student loans that explains the basics of loan interest, grace periods, deferment and forbearance, and delinquency and default. It also features links to loan-repayment assistance and scholarship programs.

AMA members who refinance their student loans with Laurel Road receive an additional 0.25% rate discount through AMA Member Benefits PLUS.

You can listen to all “Making the Rounds” podcasts on Apple Podcasts, Google Play or Spotify.