You may be tempted to refinance or consolidate your Canadian student loans to get a lower interest rate or more management payments. But student loan refinancing and consolidation is a bit more complicated than you might think.
What Is Student Loan Refinancing and Consolidation?
It’s important to distinguish loan refinancing from loan consolidation.
Loan refinancing means paying off one loan with a new loan. Typically, the new loan has a lower interest rate or better terms than the loan you are paying off. If you can’t find a new loan with a lower interest rate or better terms, then there usually isn’t any benefit to refinancing.
Loan consolidation means combining multiple loans into one new loan. Consolidation can make it easier to manage multiple loans because, after consolidation, you only have one loan to manage and pay. Sometimes, when consolidating loans, you can get an overall lower interest rate or better terms.
If you don’t have multiple student loans, then you don’t have any student loans to consolidate.
Your student loans may already be consolidated. This is because government student loans consist of a federal and provincial portion. In Ontario, the Ontario Student Assistance Program (OSAP) automatically consolidates provincial and federal student loans. This means that OSAP borrowers only need to consider consolidation if they have OSAP loans plus other private loans. StudentAid BC, however, does not automatically consolidate federal and provincial loans. You may want to consider consolidating government loans that are not automatically consolidated to make them more manageable.
How Do You Refinance or Consolidate Your Student Loans?
Loan refinancing and consolidation happens on the private market, meaning that the government won’t help you with refinancing and consolidation. You will need to find a private lender to offer you a new loan, such as a bank or alternative lender. You can then use this new loan to pay off your existing loans.
The loan terms that a lender will offer you depend on various factors. Some of these factors include:
- Your history of paying your student loans on time and in the proper amount (this is usually based on your credit report);
- Your credit score; and
- Your ability to pay the new loan (this is influenced by whether you have a stable job and a reliable income and your living expenses).
The better these factors are, the more likely you are to get a loan with favourable terms. Keep in mind that different lenders have different risk tolerances and standards. You may want to shop around when searching for a new lender to find the lender that offers you the best terms.
Are There Downsides to Student Loan Refinancing or Consolidation?
In a typical refinancing or consolidation, you will repay your government student loans in full and then have a single private lender who issued your new loan. This means that all of your government student debt has become private debt. This has two key consequences: the loss of certain debt relief programs and the loss of tax credits.
1. Losing Access to Government Relief
The provincial and federal governments tend to offer generous debt relief and repayment assistance programs to graduates that have trouble paying their government student loans. OSAP, for example, offers relief to borrowers who have financial need, which can include people with low incomes following graduation, single parents with young children, or victims of severe medical conditions or trauma. This relief can include interest relief (where OSAP temporarily covers the interest) and debt reductions.
Private lenders typically do not offer this type of relief if you experience hardship repaying your loans.
Before refinancing or consolidating, you should consider whether you may need to use a student loan relief program. If you think you may make use of such a program, then you should consider keeping your government student loans and not refinancing or consolidating.
2. Losing Student Tax Credits
If you have government student loans and file your taxes, then you may be eligible for student loan interest tax credits. Private loans do not benefit from a student loan tax credit.
The student loan interest tax credit has two components. The federal component is worth 15% of the total amount of interest paid on student loans. The provincial component varies by province. In Ontario, for example, the provincial component is worth 6.05% of the total amount of interest paid on student loans. In British Columbia, the provincial component is worth 5.06%.
The interest tax deduction is important because it reduces the actual interest rate of government student loans. A borrower who lives in Ontario, for example, and paid $100 of student loan interest last year, is eligible for a tax credit of $21.05 (being $100 x (15% federal credit + 6.05% Ontario credit)). If the OSAP loan carries an average interest rate of 2.75%, then the student loan interest rate is actually 2.17% when accounting for the tax credit (2.75% interest rate x (1 – 21.05% tax credit)).
If you plan to refinance or consolidate your student loans, make sure you compare interest rates using the tax credit-adjusted interest rate for government student loans. Sometimes, the tax credit-adjusted interest rate is more favouable then competing rates.
Jeannine Mitchell created a helpful tool for calculating the value of the interest tax deduction in your province. You can access it here.
Should You Refinance or Consolidate Your Student Loans?
There is no easy answer to this question. It all depends on your personal situation. The following questions should help you in making your decision:
Is Refinancing Right For You?
- If you refinance, will you get better terms (e.g. lower monthly payments, longer payment terms, lower interest rate)? If “no”, then there probably isn’t a benefit to refinancing.
- Is the interest rate on the new loan lower than your existing rate, even after accounting for the tax credit on government student loans? If “no”, then really consider what the benefit to refinancing is.
- Do you think there is a chance that you may default on your student loans? For example, is your income unreliable, do you have a steady job, do you frequently make late payments)? If “yes”, then you may want to keep your government loans in case you need to use a debt relief program.
Is Consolidation Right For You?
- Do you have multiple student loans? If “no”, then you have no student loans to consolidate.
- Do you have problems managing multiple student loans (e.g. do you forget to make payments on some loans, do you have trouble dealing with multiple lenders)? If “no”, then there may not be a benefit to consolidation.
- Did you find a lender who is offering you better terms (e.g. lower monthly payments, longer payment terms, lower interest rate)? A “no” answer is ok if you answered “yes” to #2. If you answered “no” to both questions, then there may be no reason to consolidate.
- Is the interest rate on the new loan lower or comparable to your government student loans, even after accounting for the tax credit on government student loans? If “no”, then you will pay more interest after consolidating. This may be worthwhile if you find it difficult to manage multiple lenders.
- Do you think there is a chance that you may default on your student loans? For example, is your income unreliable, do you have a steady job, do you frequently make late payments)? If “yes”, then you may want to keep your government loans in case you need to use a repayment assistant plan.
Deciding whether to refinancing or consolidate your student loans is an important financial decision. In making your decision, carefully consider your personal situation and determine what is best for you.