One of my favorite projects to work on as a financial planner is to help a client create a savings strategy. For some that means starting their first job and determining how much they should put towards their 401(k) vs. their Health Savings account. For others that might mean determining the path of least resistance fresh out of medical school as they enter residency and consider the most cost-effective method of paying down federal direct student loans. Like an onion, there are many layers to consider in this decision, and we are here to help you.
Below is a list of some of the questions we begin with as we help determine the best strategy for individuals paying down federal direct student loans:
1. Do you plan on working in the public sector?
If you are considering working in the public sector, you may qualify to receive public student loan forgiveness on your outstanding loans after making 120 qualifying monthly payments while working full time for a qualifying organization. In short, this means you could find yourself paying significantly less than your outstanding loan balance assuming you meet all the requirements. Before committing to this route, we suggest individuals first consider if their career path provides a route to work for a qualified organization and then make sure they are certifying their employment each year along the way.
2. Standard Repayment, or an Income Driven Repayment Plan?
Income Driven Repayment Plans are designed to help students pay amounts relative to their current income, avoiding drowning in debt payments fresh out of school. Standard repayment schedules are a 10 year payback period. The four Income Driven Repayment Plans are:
- Revised Pay as You Earn Repayment Plan (REPAYE Plan)
- Pay As You Earn Repayment Plan (PAYE Plan)
- Income-Based Repayment Plan (IBR Plan)
- Income-Contingent Repayment Plan (ICR Plan)
Each of these repayment plans has a slightly different set of rules in determining the monthly payment you will be making.
3. What are your projected earning in the next 3, 5, 10 and 20 years?
In determining whether you should be using the standard 10-year repayment plan or an income driven repayment plan, one of the first questions we ask is what do you expect to be earning in the next 3, 5, 10, and 20 years? These expectations are a significant driver in finding the ideal repayment schedule.
4. Are you married, and if so, what is your partners income levels?
Generally, monthly payments on the Income Driven Repayment Plans are determined based on a determination of your discretionary income, which takes into account your family size and state of residence. It is important to consider whether married filing separate is a good option, and if that separation in income is accepted under your repayment plan. Be sure to work with your CPA to determine if the potential savings in payments is better than the tax savings of filing joint.
5. Are your loans subsidized or unsubsidized?
Whether your loans are subsidized or unsubsidized makes a difference when considering interest subsidy benefits of the different repayment plans. If you qualify for an Income Driven Repayment Program and you are making smaller payments than the standard 10-year repayment schedule, unpaid interest can accumulate and capitalize. Some of the income driven repayment plans provide relief on this unpaid interest. Subsidized and unsubsidized loans are treated differently, and each repayment program also treats that “unpaid” interest differently.
6. What are the rates on your current loans?
Most graduates have a collection of loans, with varying interest rates. In determining the ideal repayment plan, rates on the loans should be reviewed. Does it make sense to refinance some of the loans into private loans, and keep some federal debt?
7. When should you start repaying your loans?
While some loans will remain deferred longer than others, should you start your repayment earlier? In the event you are working towards public student loan forgiveness, and you expect to be earning lower wages now, with higher wages later, starting to make payments towards the 120 mark early might make sense.
8. Did you have a big life changing event?
Many of these programs are set up to be able to shift from one program to the next if you have a big life changing event such as a new job with higher or lower paying wages or a marriage. While it is easy to switch between repayment options, there are factors to be aware of such as capitalization of unpaid interest.
Like an onion, there are many layers to consider, and these are just a few. Life changes, and the right decision this year might be different two years from now. As your financial advisor, we are here to help ask the questions and coordinate with your team. If you or someone you know is looking for help navigating the world of student loan repayment, we can help. The last thing we want is for someone to get lost in all the details and just choose one option because their friend told them it was best. Let us help you launch your new career with a plan. Click here for a free 15-minute introductory call to see if we can help.
Sadie Bjornsen Maubet
Associate Financial Advisor
7/10/23
