Although it is not interesting, reading about student loans can make a big difference in your life financially. It is important to research your options for taking out and repaying loans because when it comes to student loans, making the wrong decisions can cost you a lot of money.
Here are some real-life examples of how failing to research your options can result in costly consequences.
Refinancing Student Loans Too Soon
One of my younger client's came to me with $194,100 in student debt, at an interest rate of 6.8%. She worked for Ohio State University, a 501(c)(3) organization, and planned to do so for the foreseeable future. She made a $35,000 salary during her veterinary fellowship, which increased to $125,000 in 12 months, after she was fully certified. She was in the 10-year standard payment plan with a projected total cost of $268,000.
Compare that to refinancing with a private lender at 4% for the same 10 years and the total interest savings of $32,000 looked like a no-brainer. However, refinancing would have been a big mistake. My client was eligible for public service loan forgiveness (PSLF), which combined with the pay as you go payment plan (PAYE), would save her a total of $158,000. In other words, had my client refinanced without careful consideration she could have cost herself $126,000! (For related reading, see: The Worst Things That Can Happen if You Don't Pay Your Student Loans.)
Tax Filing Status and Failing to Consolidate FFEL Loans
My next two clients offered me two lessons. They are married with two kids enrolled in daycare. He is an attorney with an annual salary of $92,000, and she is a second-grade teacher making $41,000. He had $284,000 in student debt, she had none. They were making monthly payments via the old income-based repayment (IBR) plan, and half of the loans were from the Federal Family Education Loan (FFEL) program. They said they needed help right away. Why the urgency? They were thinking they should file income taxes separately because Jerry received a $10,000 pay raise the prior year. They also took an early withdrawal from his IRA to pay off some medical expenses, so the (IBR) payments were going up by $250 per month based on this increase in income. Also, he was on the fast track to making partner at his firm, which meant substantially higher raises (and subequent higher loan payments) in the near future.
This string of events caused my clients to panic because their cash flow was already very tight paying for two kids in daycare in addition to the student loans and other regular bills. Filing separately meant they would be forfeiting a $4,200 tax refund.
Here's the problem: The couple didn't compare the cost of filing separately to the difference in monthly student loan payments. Remember, their payments went up $250 a month, which is $3,000 annually. Obviously that $3,000 is less than the $4,200 return they would have received, so they would actually lose $1,200 if they filed taxes separately. Most people don't take the time to slow down and carefully analyze their entire financial picture. (For related reading, see: Top Reasons to File Separately When Married.)
The second learning opportunity with these clients was consolidating the FFEL loans. Restructuring the FFEL loans meant all of the federal debt qualified for the revised pay as you earn (REPAYE) plan. Therefore, their monthly payments went from 15% to 10% of discretionary income. This bumped their payments down to about where they were before we met. In other words, they saved $250 a month in monthly payments with REPAYE vs. IBR. And don't forget, they saved $4,200 year in taxes after analyzing the facts and deciding to file jointly after all.
A Student Loan Plan Makes It Easier to Achieve Financial Goals
The complexity and administrative burden that is inevitable with student debt is a tall order for most. Don't let fear of not knowing where to start get in the way of taking action. By removing the root of your financial problems, you can begin living a more prosperous life. With a student loan plan in place, it becomes a lot easier to buy that new dream house you had your eye on, pay for your children to go to college one day and eventually retire with a substantial nest egg.
(For more from this author, see: Beware of the True Cost of Private Student Loans.)
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