Should You Pay Off Your Student Loans Early?
CEE Standard: Using Credit
Help your students weigh the pros and cons of paying off student loans early, and determine if they need them in the first place. It is possible to take out student loans responsibly and pay them off quickly.
Understandably, student loans get a lot of hate from young adults who are eager to pay off their loan balances. And yet, student loan balances in the United States are $1.64 trillion according to the U.S. Federal Reserve.
Those who are hell-bent on paying off their student loans as quickly as possible are making sacrifices left and right to spend less, earn more, and hustle their debt away. They’ve seen how student loan debt can be a burden and a roadblock when trying to pursue their dreams.
But should these young people really be in such a hurry to pay off their student loan debt early? Student loan debt has a silver lining — the interest you pay can be tax-deductible.
The student loan interest deduction can reduce the amount of your taxable income by up to $2,500. But like anything else, the subject isn’t cut and dry according to the IRS.
In an effort to help you decide if the student loan interest deduction is worth not paying off your student loans early, we spoke to Eric Nisall, a tax accountant and founder of AccountLancer.
“The general purpose of the deduction was to increase access to education and to help with the debt servicing after graduation. As a beneficial tax deduction, I think it sucks!” Nisall said.
Nisall pointed out that there are a few flaws with the deduction, such as it is phased out for people with an adjusted gross income (AGI) of $70,000, and the benefit goes away entirely if your AGI is over $85,000.
Of course, the AGI limit is higher for those who are married and filing jointly, but the deduction is still limited to $2,500, even if both spouses are paying back on qualified student loans.
According to Nisall, the “sweet spot” for filers to take full advantage of the deduction is for those single or head-of-household filers with an AGI of less than $65,000. Even then, Nisall said that the tax savings would be only between $625 and $700 based on filing status.
“It’s important to remember that this is a deduction, not a credit, meaning that you are only reducing the taxable income by the interest amount, not reducing the actual tax dollar-for-dollar,” Nisall said.
So from a tax point of view, it doesn’t make much sense to stretch out your repayment schedule. But are there other reasons to consider?
Consider Your Quality of Life
Sure, I’m willing to make some sacrifices to pay more toward my debt, but not at the expense of my overall health and happiness.
Before you throw every penny you earn toward your student loans, make sure that you are satisfied with other things in your life. Getting out of debt is important, as is taking care of your basic needs. If you pay off your loans early but don’t have enough money every month to buy nutritious food or other items, consider paying the required monthly payment.
Take Stock Of Your Finances
Another obvious thing to consider is the rest of your financial situation. If you have no money in savings and a maxed-out credit card, repaying your student loans should not be at the top of your list of financial goals.
Most financial experts agree that having a small emergency fund before tackling debt head-on is the key to long-term financial success. Instead of putting extra money toward your debt only to risk facing a financial emergency that you can’t afford the very next day, focus on building up a small savings fund first.
A small emergency fund to take care of things like a new tire (if you get a flat) or getting a new phone (if yours dies) can make a huge difference in your life. If you have a savings account for these types of situations, it can reduce your stress levels.
Next, you should look at the overall picture of your debt. If you have other debt besides your student loans that costs you more in interest, then that should be your primary focus.
Once you get down to having only student loans and other low-interest debt, the decision of how aggressive you want to be with your debt becomes more complicated.
If your interest rates are low enough, it might actually be a better idea to save and invest instead of paying your debt off early.
“There are people who have no problem having low-cost debt if that frees them up to use their cash to earn more than the loans cost,” Nisall said.
In the end, the decision of whether or not to pay off your student loans early is up to you. The answer will be different for everyone, as no two situations are the same.