Reader Case Study: Help Me Decide How To Pay Off $185K In Student Loans
Welcome to this month’s Reader Case Study in which we’ll help Bridget figure out how to tackle her student loan debt. Case studies are financial dilemmas that a reader of Frugalwoods sends to me requesting that Frugalwoods nation weigh in. Then, Frugalwoods nation (that’d be you), reads through their situation and provides advice, encouragement, insight, and feedback in the comments section (for an example, check out a previous Case Study).
P.S. Another way to support each other on our financial journeys is by participating in my Uber Frugal Month Challenge! You can sign-up at any time to join the over 10,000 fellow frugal sojourners who have taken the Challenge.
I probably don’t even need to say the following because you all are the kindest, most polite commenters on the internet, but, please note that Frugalwoods is a judgement-free zone where we all endeavor to help one another, not to condemn.
With that I’ll let Bridget, this month’s case study subject, take it from here!
Hi, I’m Bridget! I’ll be 28 in March and I live with my boyfriend Jack, also 28, in Portland, Oregon. We’ve been dating for five years and live a simple life with no pets or kids. We don’t have concrete plans to get married yet, but we hope to do so in the next few years.
We’ll likely march down to the court house and have a big reception afterwards in someone’s backyard with catered Chipotle. No big dress, no frills, just a lot of fun with people we love.
In May, I used every penny I had to buy a 750 square foot home in Portland for $280,000 with a 30 year mortgage and a 4.25% interest rate. I put 5% down, which was $14K. This was my dream, but I’ve been living on a shoestring ever since the purchase in order to fund aesthetic renovations to the house (the house doesn’t require any improvements from a safety perspective).
Bridget and Jack
Jack and I love cooking together and renovating our tiny home. I’m the frugal planner out of the two of us and I make a sport out of minimalism and thrifting. Spending time with family and friends is very important to both of us. We keep our entertainment costs low and don’t have cable or Netflix and we also don’t go out to concerts or the movies. About four times a year, we take a camping or ski trip, which usually totals $100 per trip.
I graduated with an M.S. in Public Relations from NYU in 2013 and a B.S. in Corporate Communications from Duquesne in 2011. Jack graduated with a B.S. in Economics in 2011 from Tampa.
I currently work as a Social Media Manager for a healthcare start-up in the urgent care and health insurance field. It’s an extremely fast-paced job and I’m on-call 24/7. I’d really like to move into a more conventional, steady 9-5 in communications strategy/planning over the next year. My current employer offers a 401K plan with a 6% match.
Jack has worked primarily in software sales since graduation. He recently landed a new job and expects to make around $50,000/year (pre-taxes) after commission. He’d ideally like to move into the fitness apparel industry, but is fine staying in tech sales at present.
I recently cut up my credit cards and would like to move towards living entirely debt-free. I watched my parents go through a bankruptcy, lose their home and get divorced and it has scarred me for life. Jack has two credit cards that he pays on time every month.
Bridget’s Long-term Goals:
In 10 years Jack and I would like to be married, living debt-free in our fully paid for house in Portland. Maybe with a kid or two. Possibly with Jack staying home to raise them. We’d also like to have the financial freedom to frequently travel for pleasure.
I currently have $185K in federal student loan debt at a 7.25% interest rate. I had no idea what I was getting into at the time and took bad advice from broke people. The student loans and the house are my only debt. Jack is (mercifully) debt-free. I’ve researched working for non-profits where my federal student loans would be forgiven after 10 years (through the Public Service Loan Forgiveness program).
At this stage, I’m unsure if I should:
- Buckle down and start paying off my student loans more quickly while actively seeking out the highest paying job I can find.
- Pursue a career in the non-profit space (possibly making less money) and ride out the minimum student loan payments for 10 years, after which time the loans would be forgiven through the Public Service Loan Forgiveness program. If I did this, I think I could pay off my mortgage in 6 years (according to my estimates on how much extra I could throw at my mortgage payments each month).
I’ve gamed out these two scenarios a bit:
If I decided to pay off the loans myself and threw an extra $2,300 per month towards them, I estimate they’d be paid off in 6.7 years. This would be faster than the 10 year forgiveness program. On the other hand, if I used the income based repayment plan and utilized the 10 year Public Service Loan Forgiveness program, I believe I would save more money over time.
Option #1: Pay off the loans in a shorter timeframe on my own:
- I’d pay $2,300/month for 6.7 years, which would be a total of $184,920 paid off and without the potential savings of option #2.
Option #2: Utilize the PSLF program:
- I’d pay $151 to $300/month for 10 years, which would be a total of $18,120 to $36,000 (plus the tax I will have to pay on the forgiven portion, which I’ve unofficially heard is taxed at around 25%, so perhaps $30K in taxes?)
- Total = $60K-ish of the loan paid off and the rest forgiven
- I estimate I’d be able to save $276K while doing this ($2,300 saved/month for 10 years)
Bridget’s Questions For You:
- How should I pay off my student loans? (see options 1 and 2 above)
- Should Jack and I wait to get married until the student loans are paid off?
- Should we pay off the house first or the student loans first?
I think I make too much money to be this broke – help!
Yearly Take Home (Net) Income
|Bridget’s monthly take-home||$3,554.00||This is after taxes and other deductions|
|Bridget’s annual take-home:||$42,648.00||This is after taxes and other deductions|
A note on cars and cellphones: I don’t own a car and use the bus to get to work most days and sometimes Jack drives me. My office is 10 miles from my home. I’m currently on my Mom’s cell phone plan and she pays the bill (embarrassing), but I’d like to get on my own plan ASAP.
|Mortgage, taxes and insurance||$769.00||$1,536.65 monthly payment (boyfriend pays half at $769.00/month); $263,378.08 remaining; $2,621.92 in equity; 4.25% interest rate.|
|Groceries, household supplies, eating out||$300.00||This is just for me. We keep grocery budgets separate because I don’t eat meat.|
|Student loan payment||$151.00||$186K remaining; 7.25% interest rate. On an IBR plan based on my 50k income from last year. This payment will go up in November 2017, likely to around $300.|
|Bus pass||$100.00||I don’t have a car and ride the bus to work.|
|Home renovations||$100.00||We’re slowly fixing up the home I bought including finishing up a kitchen remodel and painting.|
|Internet||$41.00||$82 paid monthly, split 50/50 with boyfriend|
|Utilities: electric||$35.00||Averaging around $70 a month, split 50/50 with boyfriend|
|Vacations||$33.33||About 4 times a year we take a camping or ski trip totaling $100 per trip (or $400 per year)|
|Utilities: water and sewer||$28.50||$57 monthly, split 50/50 with boyfriend|
|Healthcare||$25.00||I work for a healthcare company so my payments are low and I have no known medical issues.|
|Clothing||$20.00||I hardly ever buy clothes but I’ll buy one big ticket needed item about once a year for around $240|
|Garbage/recycling||$16.00||$95 paid quarterly, split 50/50 with boyfriend|
|TOTAL each month:||$1,618.83|
$100,000 life insurance policy through employer
|Cash||$3,390.17||In a Betterment account earning 0.2% with a time-weighted return at 0.7%|
Mrs. Frugalwoods’ Recommendations
First of all, can I just say how THRILLED I am to hear from a young reader who is taking charge of her finances now! Hooray! While there are things you can do to improve your financial prospects at any age, time is certainly in Bridget’s favor here, which will be key to ironing our her debt situation–and to building her long-term wealth.
Bridget’s question #1: Student loan repayment
The elephant we want to address is her student loan debt and I commend Bridget greatly for tackling this debt head on. Plenty of folks would simply ignore debt like this, pay the minimum, and hope it’d disappear in a magic puff of unicorn dust (newsflash: it won’t). And so, before we get into the weeds, I want to encourage any other readers facing a debt load like Bridget’s to take heart that you CAN pay debt back and you CAN right your financial ship.
Kudos to Bridget for researching the Public Service Loan Forgiveness (PSLF) program–it’s wonderful that she’s explored these two options for payback. Unfortunately, there’s no one right answer here. The right answer is to pay it back. The strategy, however, is really up to Bridget.
It’s true that she could likely save more money by going the PSLF route. However, it’s also impossible to know what earnings she’d be sacrificing by leaving the for-profit sector. If Bridget is a hustler (and I highly suspect she is), she could climb the ladder and catapult herself into a mid-six-figure salary in a few years in the for-profit sector, which would mean she could throw mega dough at her debt and then quickly get to the business of building her net worth.
On the other hand, I hear from Bridget that she’s looking for a less fast-paced job with a better work/life balance. And so, aggressively climbing the ladder might not appeal to her. From that perspective, perhaps finding a slower-paced non-profit position would be a better fit. A word of caution here: don’t automatically assume that a non-profit position will be slower paced or will deliver that desired 9-5.
My entire career (prior to doing what I do now) was spent in non-profits and I’ve been at both 9-5 institutions and 8am-9pm institutions. From my experience, larger, more established non-profits are likely to: 1) offer higher salaries, and 2) provide better work/life balance. That being said, they’re also more competitive in their hiring.
I encourage Bridget to continue her research and start looking around at the non-profits that are hiring in her town and in her field. Try to suss out the salaries of these positions and also the general atmosphere of the non-profit. Is it well-established and well-funded (likely to be 9-5 with better salaries)? Or is it more of a bootstrapping start-up (likely to demand longer hours for lower pay)? And, more importantly, is it a cause you’re passionate about?
Similarly, I suggest Bridget start looking around at other for-profit positions. Could she command both a higher salary and a better work/life balance at a company that’s not a start-up?
Another consideration with the PSLF program is that 10 years is a long time. It’s a long time to stay at the same organization (Bridget–research whether or not you can change organizations but still accrue years in the program). It’s also a long time for a federal program to go unchanged. In our current political climate, I’m a tad concerned for the longevity of this program.
I wish I could give you a final answer on this one, but I think there are too many factors that you’ll need to determine on your own. From a mathematical and financial perspective, the right answer is to pay it off. How you get there is largely up to you.
Bridget’s question #2: Should Jack and I wait to get married until the student loans are paid off?
Debt itself is not a reason to delay getting married. If Jack is ‘the one’ and you’re certain you want to spend the rest of your lives together, then there’s no financial reason not to get married tomorrow. I’m delighted to hear that you’re planning on a frugal wedding and it sounds like a marvelous plan!
Aside from marriage, since you’re already living together, I’d advise looking for greater efficiencies in your budget. I imagine there could be savings to reap by combining the grocery/household/eating out line item. You two are a household, so I’d start spending jointly in that arena as I bet you can save more by doing so.
If you’d prefer to pay your loans off with your own money, that’s totally fine. If you’d prefer to pay them off as a couple, that’s also fine. Sit down and have a frank conversation with Jack (you probably already have, but just in case not… ) about the size of your debt and your plans for repayment.
Ask his opinion on how the debt should be paid off. Again, there’s not a right answer here, but there is a wrong answer: not discussing it. An absence of communication is the only danger I foresee. So, iron out how you want to handle the debt–singly or jointly–and then go get yourselves married.
As a sidenote, I think it’s wonderful you two have already discussed the possibility of Jack being a stay-at-home dad. That takes a lot of forethought and it demonstrates that you two have a good, open line of communication. Plus, you’ll save untold amounts of money on daycare!
Bridget’s question #3: Should we pay off the house first or the student loans first?
I have a definite answer for this one: THE STUDENT LOANS. The interest rate on the student loans is 7.25% whereas the mortgage is at a meagre 4.25%. This alone makes the student loans the priority. But there are several other reasons to pay the student loans off first: 1) unlike the house, the loans will not appreciate; 2) unlike the house, the payments on the loans aren’t stable–they fluctuate with your income.
Paying Off The Mortgage?
I hear from Bridget that she wants to pay off her mortgage; I actually advise against this. From a mathematical and financial perspective, the wisest course of action is to instead invest her extra money. Many people enjoy the psychological boost of paying off a mortgage, but it’s not a boost financially.
Bridget is suffering from what I call ‘mega debt aversion.’ I completely understand the desire to be debt-free, but the fact is that some debt can actually be a good thing. I also completely understand that she is scarred by the example of her parents and I commend her for wanting to chart a wiser financial path for herself. However, there’s a happy medium between having $185K in student loan debt and having absolutely no debt.
I discussed the folly of paying mortgages off early the other day and I’ve excerpted my notes below:
I view holding a mortgage–and having money properly invested in diversified assets (aka low-fee index funds)–to be a much less risky financial decision. Why? Say you funnel all of your extra money into paying off your mortgage early. Then, two months later, you lose your job and have a health crisis and your car breaks down and you need a new roof. And all of your money is now tied up in a potentially very illiquid asset–your home. While you might be able to get a HELOC (home equity line of credit), you also might not.
Furthermore, a mortgage is an excellent hedge against inflation. Inflation is when money becomes less valuable and the neat thing about a mortgage is that it’s denominated in the dollars you originally paid for the house and so, over time, as inflation increases (which generally happens), the money you’re using to pay off your mortgage is “cheaper.”
Essentially, it’s not bad to hold a mortgage and it’s actually a fine component of a diversified portfolio of assets. In sum: paying off your mortgage is a lot like putting all of your eggs in one basket.
If Bridget were to pay off her student loans and pay off her mortgage, in ten years she’d have $0 in savings. Conversely, if Bridget were to pay off her student loans and invest the rest of her savings, in ten years she’ll have diversified and robust assets: real estate AND low-fee index funds. Additionally, if Bridget and Jack decide to have kids, as she mentioned they might, having $0 in the bank is a risky way to start a family.
Bridget’s employer offers a matching 401K and I highly recommend she take advantage of it by contributing up to the max that her employer will match. By not doing so, she’s leaving free money on the table. Rather than put money into her IRA, she should be taking advantage of this matching 401K. For more on why you should almost ALWAYS utilize a matching 401K, check out this post.
Build An Emergency Fund
Another reason to table the mortgage payoff idea is the fact that Bridget doesn’t have an emergency fund. I’m delighted she’s saving now that her credit cards are paid off, and that $3,390 is a fantastic start! In addition to paying off her student loans, her other financial priority right now needs to be building an emergency fund. If she were to lose her job, or have a health crisis, or a major repair was needed on her home–she’d tunnel back into credit card debt in a hurry.
Before throwing her extra savings toward her student loans, Bridget should pay the minimum on the loans while building a robust emergency fund.
A good rule of thumb is to have six months’ worth of living expenses in an emergency fund, which would be $9.712.98 for Bridget. Save up this amount and THEN (and only then) start putting extra towards the student loans.
Bridget and Jack are some frugal folks! Their expenses are quite reasonable and they’ve clearly embraced the frugal ethos quite well. And if we weren’t dealing with the debt situation and the lack of emergency fund? I wouldn’t advise any tweaks to their spending. However, since we are, there are a few things Bridget could do in order to save more every month:
- Groceries, household supplies, and eating out: $300 isn’t terribly high, but if Jack is also spending $300? That’s a whopping $600 for just two people. I’d suggest eliminating eating out and carefully combing through the grocery and household lists to identify possible savings. As previously mentioned, since you and Jack are a household, I’d advise the approach of combine-and-save.
- Bus pass: HUGE kudos to Bridget for not taking on a car loan! Gold star here! However, $1,200/year on a bus pass is kind of a lot of money. I wonder if there’s any way that Bridget could bike to work? Or carpool with Jack every day?
- Home renovations: these need to stop. I completely understand the desire to fix up one’s home–especially one you’ve just moved into. But given her debt load and lack of emergency fund, these need to be put on hold for the moment. Since these renovations aren’t necessary for the safety of the home and are purely aesthetic, Bridget should instead be saving this money. There’ll be plenty of time in the future to spruce up the ol’ abode.
I’m pretty sure my girl Bridget took the Uber Frugal Month Challenge, but if not, take a moment to read through Uber Frugal Month: The Ultimate Guide To Saving More Money Than You Ever Thought Possible for tips on how to save even more.
Bridget is super smart to proactively tackle her finances now rather than waiting until she’s older. To summarize my advice, I think Bridget should:
- Build an emergency fund while continuing the minimum payments on her student loans
- Research employment options for: 1) a higher-paying for-profit position; 2) non-profit positions that qualify for the PSLF program. Decide which route she prefers and go for it sooner rather than later.
- Start contributing to her employer’s matching 401K program.
- Reduce monthly expenses.
- Get married :).
- Pay off her student loans.
- Invest any extra savings in low-fee index funds.
- Remember that eliminating debt is only one aspect of a healthy financial portfolio.
- Enjoy an awesome life that’s financially secure.
Ok Frugalwoods nation, what advice would you give to Bridget? She and I will both reply to comments, so please feel free to ask any clarifying questions!
Would you like your own case study to appear here on Frugalwoods? Email me (firstname.lastname@example.org) and we’ll talk.
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