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Should I Pay My Federal Student Loan Off Now?

Question: I have a federal student loan with an 8.5 percent interest rate. Should I pay it off now or consolidate all my debt after I graduate?

– Michelle Jossen, Springfield, Mass.

Answer: You won’t be penalized for repaying the loan early, experts say. But they still caution against becoming cash poor in the process—especially if you’ve got other looming postgraduation financial needs, like buying a car or having an emergency fund to help you ride out the wobbly job market. In that case, it might make more sense to wait and consolidate at a lower rate, and put your resources toward those other goals, says Scott Weingold, cofounder of College Planning Network in Mayfield Heights, Ohio. Plus, he points out, the Obama administration has proposed a “Pay As You Earn” plan that, if approved, could lower your monthly payments.

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    • In “The Gospel of Roth- The Good News About Roth IRA Conversions and How They Can Make You Money” by John Bledsoe it clearly steats in the book that NO ANALYSIS is needed and that everyone should convert to a Roth IRA regardless of income. There is NO risk! The IRS is giving us a year to recharacterize or “undo” the conversion. This book gives the ins and outs for Roth IRAS! It really helped answer all my questions.

    • I do think the answer provided is inadequate. I have a number of student loans that I prepay because 1. The rates exceed other debt obligations (e.g. car, mortgage) 2. I cap out on my max interest rate deduction every year 3. Need to free up cash flow.

      Student loans are very difficult to manage in the sense that there really aren’t many alternatives to how you can manage them. You can 1. Repay 2. Defer 3. Default or 4. Consolidate

      I’ll start with 4. Consolidation is a terrible option for me, because once you do so, you lose all benefits of government loans (e.g. subsidized interest payments). Also, the only way to consolidate nowadays is through the government. I explored this opportunity and realized that not only would me overall interest rate be higher, but I would also be paying more monthly.

      3. Default — This is an easy one for me. Despite my financial hardships, I have this thing that I see all to rarely in our world today and it’s called principles. I do not default on my loans and I do not condone it. I also do not recommend it as there are plenty of other rather interesting ways for the government to get their student loan money.

      1. Repay or prepay — I’ve built tons of great models to target how to spend any amount of prepayments on my loans (I have way too many student loans) but in general I would say that if you have extra cash to prepay, target high interest, highest balance first. When all balances are more/less equal, target just the highest balance. For me, repayment can also be a function of cash flow. If I want to free up an additional XXX/mo, I will target loans that will allow me to do that although from a finance perspective this isn’t the best solution.

      2. Defer — Go back to school. If you have subsidized loans, guess what? The government will pay your interest if you re-enrolled in a program at least half time. I have been in school every semester since I graduated and although you have to make payments every semester you get two benefits 1. You continue your education and 2. you save tons of money on interest. Keep in mind, that you can still pay your loans while in school but the US Taxpayer is picking up the interest for you. In 3 years I’ve saved over $20k in interest to full maturity this way. You can also enroll in something simple and easy (Don’t blow up your loans even more by going to get your MBA at a private school). I got a small certification in a graduate program and am now taking programming courses for fun. It’s simple, easy and by far the most cost effective.

      These solutions, of course, work best for me and my personal finances. I know that other people’s situations differ and circumstances change what would work best but hopefully this is a more complete answer.

    • Your federal student loan interest is tax deductible up to a maximum… so if you fall under that cap, put your extra money to work for you elsewhere

    • Terrible advice. I’m not sure what Scott is thinking here. The loan is likely a federal loan (they do go up to 8.5%), and those cannot be consolidated at a lower interest rate.

      They could 5 years ago. Maybe Scott is living in the past?

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