Pay As You Earn (PAYE) Plan

By davidgaoUpdated April 17, 2018


Overview

The Pay As You Earn (PAYE) Plan is an income-driven repayment plan available to borrowers with loans made under the Direct Loan Program. Under PAYE, participants pay at least 10% of their discretionary income towards their student loans, but never more than the amount that would be paid under the 10-Year Standard Plan. Any outstanding balance after 20 years of repayment is forgiven, though the amount forgiven is considered taxable income.

Eligibility

  • All Direct Loan types except Direct PLUS Loans made to parents and consolidation loans that repaid PLUS Loans made to parents
  • Must be considered a new borrower on or after 10/1/2007
  • Must have received Direct Loan disbursement on or after 10/1/2011
  • Required payment amount must be less than the amount owed under the Standard Plan (i.e. Partial Financial Hardship)
  • To remain eligible, borrowers must re-certify their income and household size every year

Terms

Monthly Payment
10% of Discretionary Income

Discretionary income for PAYE is defined as:

Adjusted Gross Income (AGI) – 150% of Poverty Rate (based on the borrower’s state and household size)

If the borrower is married, his or her spouse’s income and debt will only be considered if he or she files a joint tax return.

Required Payment Minimum
None

Payments can be $0 if AGI is equal to or less than 150% of the Poverty Guideline Rate.

Required Payment Cap
Payments cannot exceed the amount paid under the 10-Year Standard Plan
Maximum Repayment Period
20 Years
Loan Forgiveness
100% of the outstanding balance is forgiven after the maximum repayment period

The amount forgiven is considered taxable income.

Interest Benefit
If monthly payments do not cover the full amount of interest that accrues on subsidized loans, the government will pay the difference for the first three years.
Interest Capitalization
If payments do not cover the interest, outstanding interest is capitalized if the borrower ceases to have a financial hardship (i.e. forced to leave plan) or voluntarily leaves the plan. Interest capitalization is limited to 10% of the original loan at the start of entering PAYE.
Switching Plans
Borrowers can switch to any other plan for which they are eligible.

Best For

  • Borrowers with high debt relative to income.
  • Borrowers seeking Public Service Loan Forgiveness (PSLF).

Additional Notes

  • Because the repayment period is significantly longer under PAYE than the Standard Plan, some borrowers may end up paying substantially more interest. However, borrowers are always able to pay more than the minimum to achieve student debt freedom faster.
  • Borrowers who work in the non-profit or government sector (estimated to be about 25% of Americans) should strongly look into applying for Public Service Loan Forgiveness (PSLF). With PSLF, borrowers under PAYE will need to make just 10 years of qualifying payments. All outstanding balance will be forgiven, and the forgiven amount will not be considered taxable income.
  • If income increases significantly, it may be worthwhile for certain borrowers to consider refinancing their loans to get to a lower interest rate.

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