need advice on managing a large amount of debt

[m3racer]

I currently owe $240,000 in student loans at a fixed interest rate of 4.5%. I have the means of paying this off over the next 3-4 years. However, I was advised by a friend to make minimal payments on my student loans and invest my money in something this has a higher annual return like index funds. Any feedback would be greatly appreciated.

[sweeps]

You're going to get a split decision on that question here. Most people here are completely averse to debt and will advise you to pay it off. Others will tell you to invest the money in a stock index fund in a Roth IRA. Assuming you can earn 9%, that easily beats a tax-deductible 4.5%.

[poundwise]

Sweeps is right to advise you to expect answers from two camps on this issue.

I won't tell you what you already have been told and know yourself, namely:

a) You can pay it off in a few years
b) You can pay minimum payments and invest money instead

Personally, I'd pay it off. Not so much because of an anti-debt slant or because I fail understand the concept of earning interest (in a tax favored account no-less) v. paying interest (deductible interest no-less) but primarily due to the answer to one question -- If you pay the minimum payment on the student loan, in what year will you pay it off?

Once you calculate that, you may realize that you'll be withdrawing funds for retirement before you've paid off the student loan. (I exaggerate, of course, but the point stands.)

Maybe a hybrid theory would be best. Set up a plan to pay the student loan off in X# of years. Invest, starting now, but continue making a loan payment in an amount necessary to pay off the student loan in that time-frame you establish.

[krayziebone33]

Originally Posted by poundwise

Sweeps is right to advise you to expect answers from two camps on this issue.

I won't tell you what you already have been told and know yourself, namely:

a) You can pay it off in a few years
b) You can pay minimum payments and invest money instead

Personally, I'd pay it off. Not so much because of an anti-debt slant or because I fail understand the concept of earning interest (in a tax favored account no-less) v. paying interest (deductible interest no-less) but primarily due to the answer to one question -- If you pay the minimum payment on the student loan, in what year will you pay it off?

Once you calculate that, you may realize that you'll be withdrawing funds for retirement before you've paid off the student loan. (I exaggerate, of course, but the point stands.)

Maybe a hybrid theory would be best. Set up a plan to pay the student loan off in X# of years. Invest, starting now, but continue making a loan payment in an amount necessary to pay off the student loan in that time-frame you establish.

I totally agree with the hybrid theory.

Just one question . . . how the heck did you get so much student loan debt?

[Bluezy]

I've spoken with many people who depend solely on student loans to get through university. $240k is not unheard of for private uni, ivy league medical or law school.

Did you consider how you were going to address the debt while in school?

[Magicman]

Whew! That seems like a lot of money. You must have a good job to pay it off in 4 years.

The hybrid theory sounds good. I would probably treat it as a long term debt.

[Broken Arrow]

Wow. Until now, my ex-wife had the highest I've ever heard of, and that's 130k before finishing her masters. We took out more than what was needed for tuition... and just spent the rest. I also racked up almost 40k that way.

I've learned my lesson since then, and am pushing to rid of mine. I also do not presume that you or anyone else borrow unwisely.

It's true that I am adverse to debt, and all things being equal, I'm all for paying things off. Having said that, I also believe in numbers more than anything, and that is, if you can find a way to come out much further on top by investing, then feel free to to so.

As others have suggested, this does not have to be either-or proposition.

I would also caution against using any of the suggestions so far as a means of rationalization.

And finally, I hope that you have an emergency fund set aside first. Student loans is a black hole. Any money you drop in there is gone. Granted, the hole shrinks, but you can't leverage it somehow if you find yourself in a financial crunch. As an example, I prefer to build up my emergency fund instead, and if no crisis occurs, I'll also have the option of paying down or paying off my student loans later.

Just some food for thought.... Provocative alias, by the way.

[disneysteve]

Originally Posted by poundwise

Maybe a hybrid theory would be best. Set up a plan to pay the student loan off in X# of years. Invest, starting now, but continue making a loan payment in an amount necessary to pay off the student loan in that time-frame you establish.

Voice of experience here. I graduated med school with 6-figure debt in 1993. The loans had a 25-year repayment schedule which I thought was insane. I was determined to pay them off in 10 years. That just seemed like a good round number.

At that point, I was married and we had already started our first investment account. I also started my IRA and my wife had a plan at work, so were were investing some money too.

I made substantial extra principal payments (like $1,200/month) to the student loans but also designated money for saving/investing - initially 6% of income and gradually increased that as income rose.

I would have met my goal of 10-year repayment except I left my job after 7 years and was without income for a few months, then took a new job at lower pay. Despite that, I finished repayment in 12 years, 13 years ahead of schedule. By the time I made that final payment, we were also investing 15% of my gross income for retirement and other goals.

One thing that you can never replace in your investing life is the value of time. Compound growth is a wonderful thing. So I advise you to accelerate your loan payments but also be aggressively investing for the future. Max out whatever retirement accounts you have available to you - 401K, 403B, Roth, etc. And put money aside in taxable accounts for other needs. Use what remains to make those extra loan payments. Good luck.

[Aleta]

Along with all of the advice above, I'd make sure that I had contributed the max to my retirement fund, had an adequate emergency fund, and then decide how I'd want to pay off the loans.

I thought that DisneySteve's comments were important because they show you even with good planning anything can happen. As was said, there are two camps of thinking here, but I would advice caution and alot of thought before you invest. Paying off debt is investing.

[creditcardfree]

Because you appear to have a large income, I think I agree with DisneySteve's points. It's important to be saving a large amount for retirement, but at the same time accelerate the loan payments on the loan. It really doesn't have to be either or in this situation.

Honestly, if you can pay off that much debt in 3 years. That is awesome. Then you have plenty of money to invest once the debt is off your back. Best of luck to you.

[Gailete]

Try not to forget the tax implication of investing the money at a higher rates and then pulling it out to pay on the other bill, it won't be such a spread at that time. I paid my student loan, such as it was off ASAP when I went to nursing school as I didn't want that debt over my head due to personal reasons. I was glad I had when my husband told me he had filed for divorce, which made one less bill for me to cope with in a single state.

Money used to pay off a bill is never gone--what is gone is the bill which has to be paid off. The sooner the better any bill gets paid off.

Gail

[Aleta]

A good point made by the above poster is that any money in an interest bearing account earns interest and is taxed at your rate. The credit card rate is not deductible, so you are losing both ways. You'll have to declare your interest on your return and you're also paying the loan company interest. Even though you take the money out of the accout to pay off a debt, you're eliminating interest that you are not able to deduct.

[sweeps]

Originally Posted by Aleta

A good point made by the above poster is that any money in an interest bearing account earns interest and is taxed at your rate. The credit card rate is not deductible, so you are losing both ways. You'll have to declare your interest on your return and you're also paying the loan company interest. Even though you take the money out of the accout to pay off a debt, you're eliminating interest that you are not able to deduct.

The original poster is talking about a deductible low-interest student loan, not a credit card debt. Also the assumption is the OP would invest in a tax-advantaged savings account (e.g. Roth) if he didn't want to pay extra toward the loan.

[Gailete]

"and invest my money in something this has a higher annual return like index funds"

Actually the OP hadn't mentioned a Roth, etc., a different poster had. Investing in a roth just displaces taxes until later, so the same thought applies. Whatever the original poster chooses, he still needs to compare savings rates and tax implications which was the only point I was trying to make. It is very easy to think about making a higher interest rate and forget the possible tax implications either now or later of the higher rate.

As someone who was struck down with a permanent disability at the height of my earning power, I feel very strongly that the sooner bills are paid off the better, as no one knows what is around the corner for them no matter what their earning power.

Gail

[poundwise]

Originally Posted by Gailete

Investing in a roth just displaces taxes until later...

Incorrect.

Investments in an a Roth are made with post-tax dollars and earnings grow tax-free; qualified withdrawals are not taxed.

Don't confuse a traditional (tax-deferred) IRA with a Roth IRA.

[m3racer]

Thanks everyone for the great feedback. I accrued my debt by graduating from an Iy League school (annual tuition alone was 40k ) and then having that principal sit for 6 years until I finished my surgical residency. This is my first year out and I've managed to save enough cash for emergency funds by still living like a student. Now I've got to decide what to do next. I really like that "hybrid theory"....pay off the student loan in a shorter time and still save enough to invest. Hedging my bet seems like the most practical thing to do....thanks again for the input.

[LivingAlmostLarge]

Can I point out something? Save for retirement first, then pay off CC, car loans, and mortgages before the student loans? Why?

If it's 6 figures like steve, they at least go away with debt. If you focus too much on student loans, and ignore other debt and savings, if you died you'd have a paid for education without the brain behind it.

I believe in paying it off as you can, but not ahead of off things.

[Scanner]

I had $53,000 of student loan debt upon graduating chiro. school (managed to not borrow for living expenses).

I recommend aggressively paying down and here's why:

Student loan debt is one of those debts that is difficult to discharge. The government doesn't like to loan and not get paid back. I have colleagues where that debt is just constantly haunting them, no matter how hard up they get.

And our screwball Bush administration made it even more difficult to escape creditors (and at a time when lenders are going nuts and the healthcare crisis is looming large and people go bankrupt because of medical bills).

Point is, you never know what's going to lay over the horizon for you. You could get a disability and have to take a job with a pharmaceutical co. or something less paying. Unlike a house debt, you can't sell and move to a simpler house.

Normally, I'm a hybrid type of person too - but this time, I'd play it conservative and go after the debt - at least get it down to 5 figures, instead of 6.

As far as LivingLarge's comment - that's what term life insurance is for - I'd imagine a surgeon should command a term life policy of 20 years of at least a million, if not more. Death is one time the gov't will forgive your student debt (I think - mighty of white of them).

Good luck.

[m3racer]

I just got off the phone with my CPA and he recommended taking out a home equity loan to pay off the student loans. I would than be able to write off the entire amount I pay in taxes with the HELOC. What do you guys think?

[simpleyme]

I wonder if at some point if hel interest will not be tax deductible?
I remember a time when credit card interest was deductible.