Because of money on student loans, it can feel like a huge financial burden. After all, you have to send money to lenders every month and tons of debt appear on your credit report.
While you may be tempted to get rid of your student loan ASAP by making extra payouts and spending so much money on what you can, this may not really be the best financial decision. In fact, there are some important reasons why paying for your student loans early can be a bad idea indeed. Here are four of them.
. Federal debt comes with loan protection you cannot get with other debt.
With most types of debt, lenders don't particularly care about financial issues – you have to repay what you owe on the schedule. And you can't just change your payment plan to reduce your payment so that it matches your earnings, and you can't expect to get any of your debt forgiven if you do public service work.
On the other hand, if you have a federal student loan debt, it is unmatched loan protection available to you. Depending on your situation, these loan protections include:
- Eligibility to get a loan forgiveness if you work in public service and make 120 on-going payments
- The option to set a loan for indulgence or deferment, and pause payments if you return to school, are unemployed, earn in the military, participate in peace corps, or meet other qualification needs
- Ability to change repayment plans and choose a plan that caps payments with a percentage of income
The government can even subsidize interest on someone of your loans during periods when payments are postponed.
It is rare to add extra money to paying off loans with all these loan protections. After all, if you could pay a small percentage of your earnings for 10 years and get the rest of the loans forgiven because you work for the government or an ideal, why pay you the loans early?
2. The interest rates on your student loans may be lower than other debts.
Often federal student loans – and even many student loans from private lenders – have lower interest rates than other types of debt. The interest rate on student loans is typically well below the typical interest rate on a credit card, for example. And it can even be below the price you can qualify for on a personal loan.
If you have a debt with a higher interest rate, it makes sense to focus on paying the other debt before paying any extra on student loans.
And if you pay extra on student loans, you may risk getting into other, more expensive types of debt, nor should you. If you do not have an emergency fund, you are vulnerable to falling into credit card debt if something goes wrong. You will probably be better off saving a contingency fund, rather than making extra debt payments, so you don't stop holding a balance on a high-interest card.
3. You can potentially make a better return on your money by investing it.
When you pay off student loans early, the return on the investment you receive on your additional payments equals the interest rate on your loans. Chances are good. You can surely get a better return by putting your money into the stock market instead.
Why spend extra money on student loans when you can get more money for the money by investing the money instead? This is especially true if you are able to invest in a 401 (k) to earn an employer's battle (free money) with cash. With a dollar-for-dollar match, your guaranteed return is 100%, well above the interest rate you will pay on any type of student loan.
You can also score tax shots by investing in a 401 (k) or IRA. Tax deductions you receive from your retirement allowance reduce your taxable income. This guaranteed tax saving further increases the chances of you getting a better return on your money by investing instead of using it to pay off student loans early.
Of course, if your student loans are private loans and you pay a high interest rate – close to 7% or 8% – this changes the calculation. You will still have a maximum of 401 (k) to get the employer fight. But once you do, it may be more sensible to pay extra on student loan debt and get this guaranteed return than to take a chance of actually beating that value by investing.
4. You will give up tax deductions (if you qualify.)
When you pay interest on qualifying student loans, you are allowed to take a tax deduction for up to $ 2,500 of that interest.
This deduction does not require It does not require you to specify to claim it, even if your modified adjusted gross income must be below $ 70,000 if you file as an individual, principal or qualified widower. The deduction begins to decrease with higher income. If you hit $ 85,000 in revenue with these filing statuses, you will lose your deduction altogether. And if you deposit as a married filing jointly, you will start losing the $ 140,000 deduction of income and lose it entirely when household income reaches $ 170,000.
Student Debt Tax Deductions Reduce the Cost of Interest You Pay It, So it is not a good idea to put extra money on student loans than to pay higher interest rates (which usually do not have tax credits) or invest (especially if you are considering investing tax fraud).
Should you pay off your student loans early?
If you have private student loans, instead of federal student loans, it is a stronger argument for being paid to pay your student debt early. After all, you don't get all the loan protections available with federal help, and your loans may be higher than federal student debt. But you still need to consider the opportunity cost – including the lost tax break and the lost opportunity to do something more lucrative with cash.
By carefully considering all your options on how to spend your money, you can decide whether paying your student debt early is the best use of savings, or if the funds will be better spent elsewhere, such as investing for your future. Just after taking this step, you should decide to pay your student debt, is the right choice for you.