When should I pay off my student loans?
We often get a question as to when to pay off student loans. This comes down to both Priority and Preference. Some people prefer to get out of debt as fast as they can taking short term losses for longer term gain (pay off the loan now to not have payments in the future).
Priority
What is the interest rate of the loan vs. the rate of return you’d receive if you invested that cash into a high yield savings account or into an index fund on the market. If the interest rate on the student loan is 3% and the return on a high yield savings account is 4.65%, I'd rather pay the monthly student loan payment over the life of the loan and intentionally invest that money I would use for the payoff into a liquid account (savings account or index fund). In this case, the debt would be working for you (assuming the index fund has a greater than 3% return which historically always has).
You can take the same view of the practice loan. You could use extra cash (after ensuring you have enough saved for taxes, etc) and make decisions on priority. What return will I get if I invest this money vs. payoff the loan? Often times, you’ll receive a greater return on investment than loan payoff.
Preference
Some people hate any kind of debt and want to eliminate it as fast as possible. That’s completely okay and a legitimate long term strategy. If it stresses you out, get rid of the debt. But if you do know that keeping that debt is working for you, sometimes that can change our preferences.
Advice
Make sure you have a tax plan- getting to April and realizing you owe an additional $40,000 is quite a weight and can change your view of that money sitting in your bank account quickly. Paying in 110% of last year’s tax as well as transferring a percentage of your increased income for the year to a reserved tax account can bring reality to the cash you have.
Prioritize- do you maximize retirement vs. paying off debt? Do you fund a 529 plan for the kids vs. paying off that debt. These are all decisions of priority and long term what will create the most value.
Do what you want- after you have planned for taxes and prioritized what you want to do with excess cash, do what you want as far as paying off debt. If you don’t want to burden of thinking about that debt, pay it off as long as you know you have a plan and have priorities.
