Student Loans and Planning Considerations
There are many nuances to student loans that are important to understand, whether a client or child of a client is coming to you with existing loans, or contemplating taking out new loans for further education. Decisions surrounding student loans can impact other areas of a client’s financial plan, such as their progress toward other goals, life insurance coverage needed, and even tax filing status. Here, we delve into characteristics of different types of loans, and some planning considerations.
Federal Loans
- Regular Fixed Payment Repayment Plan options are Standard (fixed payment amount, typically ensuring loans are repaid within 10 years), Graduated (lower payments initially, then increasing amounts over time), and Extended (ensuring loans are repaid over 25 years, with either Fixed or Graduated payment amounts).
- An Income-Driven Repayment (IDR) Plan is a repayment plan that sets the monthly student loan payment at an amount that is intended to be affordable based on income and family size. The remaining balance is forgiven at the end of the term and is considered taxable income. There are multiple IDR Plan Types, each with different eligibility requirements, payment calculations, and repayment periods. For those on these plans, income must be recertified each year, and the required payment may be recalculated based on any changes to income, or family size or structure. Life events such as marriage or divorce can cause changes to IDR Plan payment amounts.
- Public Service Loan Forgiveness (PSLF) is loan forgiveness at the end of 120 payments made while working for a public service organization. Documentation needs to be submitted annually to qualify for eventual forgiveness. Loan balances forgiven due to PSLF are not considered taxable income. Note: Clients can be (and in many cases are) on an IDR Plan while waiting to qualify for forgiveness from PSLF.
The best way for a client to find out information about their current loan situation, including what repayment plan they are on, is from their loan servicer.
Private Loans
These are generally more straightforward and function more similarly to other types of loans. These loans typically require a cosigner, and repayment terms typically cannot be changed without refinancing. In addition, private loans generally lack some of the options and protections of federal loans such as IDR Plan qualification, forbearance options, discharge at death, etc.
Planning Considerations
- Make sure the client is on the best repayment plan for their individual situation, especially given all the available options for Federal loans.
- With certain IDR Plans, married couples can elect Married Filing Separately on their income tax returns to benefit from a lower required payment. Married Filing Separately can affect strategies such as the ability to contribute to a Roth IRA.
- A client on an IDR Plan who would like to benefit from loan forgiveness typically will only make their required payment because they are essentially “waiting out the clock.” However, interest does accrue, so if their income increases, marital status changes, etc., and IDR is no longer an option, the remaining balance may be greater than it would be if they had been paying more than the required amount due.
- If a client has private student loans, doesn’t qualify for IDR or PSLF, or just wants to pay off their loans faster, conventional debt repayment methods such as snowball and avalanche can be used, taking into consideration other debts. A custom repayment strategy can be designed utilizing a combination of both snowball and avalanche.
- The snowball method prioritizes paying off the smallest balance first, to build momentum.
- The avalanche method prioritizes paying off the highest interest rate debt first, to save on interest.
- Student loan refinancing is an option, but popularity varies based on the interest rate(s) on the original loans versus rates currently available. Refinancing federal student loans should only be done with careful consideration due to the loss of federal loan protections.
For Use with the General Public. Financial Planning and Advisory Services offered through Vicus Capital, Inc., a federally Registered Investment Advisor.
