Currently, there are approximately 20 million students enrolled at colleges in the US. And, when they graduate, around 70 percent of them will owe money on at least one student loan. In fact, the average student loan debt owed by a single graduate is over $37,000, based on statistics from 2016.
Most students view student loans as a necessary evil. Without the funds, they can’t afford college, leaving them with little recourse.
However, many students, especially incoming freshman, struggle to use the money wisely. But failing to act responsibly can come with significant consequences, ranging from failing to cover school expenses to increasing debt loads. Since approved student loan uses can vary depending on the kind of loan, knowing the right approach to managing this money is a must.
If you have your first student loan and aren’t sure how to handle the money wisely, here are some tips.
Educational Expenses
The primary purpose of student loans is to cover educational expenses. Federal student loans have strict requirements regarding how you can spend the money. Typically, funds from federal student loans are sent to the school first. This ensures the college receives payment for your primary expenses, including:
- Tuition
- Room and Board
- Fees
After meeting these expenses, you can get a student loan refund from the school. Usually, this is a check that you can deposit in your bank account. Then, you can use the money for other qualifying costs, including:
- Books
- Supplies
- Equipment
- Personal Computers
- Dependent Child Care
- Transportation (Not Including a New Car)
By design, the federal student loan program almost forces you to use the money wisely. You cannot spend the funds on anything that does not qualify. If you receive an amount that exceeds your need, then an adjustment to your student loan may occur, or you have to use the excess to make a payment on your student loan.
Private student loans are different. They aren’t always as restrictive in regards to student loan uses the bank views as appropriate. However, the exact terms vary by lender. You’ll need to read your loan documents to find out how you can use the money.
Additionally, the funds might not go to the school first, though they usually do. In cases where the money doesn’t go to the school, it is sent directly to you. After receiving the cash, you are fully responsible for paying your educational expenses.
While you aren’t under the same restrictions, it’s smart to use the federal student loan guidelines to help you spend the money in the right places. You always want to cover your educational costs first, beginning with your primary expenses and then your other qualifying costs.
After covering those, you do end up with some choices.
Additional Student Loan Uses
Once you handle your educational expenses and school-related costs, you have some decisions to make. However, if you want to use the money wisely, certain options are better than others.
For example, you can send the excess money back to the lender to pay down your student loans. This can help you lower your balance and avoid some interest, ensuring your debt remains as small as possible.
If you have a federal student loan and have an entire disbursement you don’t need, the easiest thing to do is cancel that loan. You have 120 days after the disbursement to handle the process but may need to work with your school’s financial aid office to handle it properly.
For private loans, you just send the money back as a payment. Usually, you can handle this online through your loan account portal.
What About Fun Money?
When you have student loan money that doesn’t have to be spent on educational expenses, it can be tempting to spend it anyway. The idea of a dinner out or a nice vacation during spring break may be enticing, or getting a new wardrobe may leave you invigorated.
The thought of spending the money usually relates to having a little fun, something that can be important in college. After all, earning a degree can be hard, so it’s easy to assume the mindset that you deserve a reward.
But, it’s important to remember that those examples above aren’t smart ways to spend your money.
Student loans are debt. This means you will pay interest on the amount you borrow. Furthermore, the size of your loans impact your creditworthiness, and large debts make it harder to finance other things you may want in the future, like a house or a car.
Plus, the higher your debt, the higher your payment. For example, if you borrow the average amount of $37,000 with a 6 percent interest rate, on a 10-year repayment plan, you’ll be paying around $411 per month. Over the life of the loan, that comes out to approximately $49,300, $12,300 of that being interest.
However, if you don’t use $4,000 of that money (just $1,000 per year) and send it back to your lender immediately, you’ll owe $33,000. The monthly payment then is about $366. You’ll pay a total of just under $44,000 (about $11,000 in interest), resulting in a pure interest savings of $1,300, not including the $4,000 in principal you don’t have to repay.
If you double the amount you send back, making it $8,000, you’ll get a bigger benefit. Then, you’ll borrow $29,000 and have a $322 monthly payment. You’ll repay around $38,600 over 10 years, with $9,600 being interest. That creates a total interest savings, in comparison to the first scenario, to $2,700. When you add in the principal you don’t have to worry about, you avoid $10,700 in student loan debt payments.
There are numerous repayment programs out there and there are even times your loans can be discharged, but don’t use this information to make poor choices, use it to gain more knowledge of paying loans back when the time comes.
Ultimately, limiting your student loan debt is always a smart move. It helps your creditworthiness, lowers your payments, lets you avoid some interest, and can even provide peace of mind.
If you want to be wise with your student loans, only use the money for important educational expenses. Then, if you have any left over, send it back to the lender. Your future self will appreciate your smart thinking and your wallet will too.
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- The Current State of Student Loan Debt
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