Of the $1.5 trillion in current outstanding student loan debt, over 92% is in federal student loans—and for good reason; lower interest rates. Private student loan interest rates are significantly higher than federal student loan rates and can reach as high as 14%. Additionally, private loans don’t offer nearly as many flexible payment options and protections found in federal loans. Despite that, more than half of borrowers that took out private student loans did not fully exhaust their federal loan eligibility.
With all the talk in politics and the markets, it can be easy to lose sight of the impact these decisions can have later in life. Interest rates are historically low and getting lower. For loans disbursed between July 1, 2019 and June 30, 2020 rates have dropped by .52% for Undergraduate and Graduate Direct Stafford Loans and for parent and graduate student PLUS loans.
To put the effect of this into context, let’s look at an example. In the table below we have three students who each graduated with student loan debt totaling $100,000 but who have different interest rates. Assuming a standard payment schedule of 10 years, you can see that with only a 1% difference in interest rate, Jim saves $5,865 in total costs for his education compared to Joe. If we assume they take 15 years to pay down their loans, as many students may choose to do, this increases to a $9,377 savings toward Jim’s cost of attendance as a result of a 1% difference in interest rate.
*For illustrative purposes only.
Prior to sending your child or grandchildren off to college, you can work with a financial advisor to create a game plan for college savings, like setting up a 529 College Savings Plan. Starting to save when your child is young allows your investments to keep up with rising costs. College savings plans can be used for more than just traditional four-year universities and if they aren’t used at all, they can be transferred to another child.
While still in school, making interest-only payments for unsubsidized loans can have a large impact on the total amount paid over the life of the loan. If this is not done, the interest accrued during school is incorporated into the principle balance, and as a result will increase the overall cost of the loan.
Take a look at the students and their total loan amounts in the table below. Each student needed a total of $80,000 in student loans over the course of four years. By making interest-only payments while still in school, Cameron graduates with $4,199.27 less than Maya in debt owed. Scott, who didn’t accept any federal unsubsidized loans and instead has more private loans with a higher interest rate, ends his four years with an additional $1,507.62 owed above Maya.
**For illustrative purposes only.
After graduation, it may be advantageous to consider the potential pros and cons of refinancing and consolidating loans into one for a single monthly payment and potentially lower your interest rates.
While being proactive rather than reactive in planning often leads to the most impactful outcomes, wherever you and your loved ones are in the planning process, it’s important to discuss specific options as early as possible. When discussing your college funding plan, Wealth Enhancement Group advisors consider many factors, including how paying for college fits into the context of your overall financial planning, critical decision points (private versus public schools, how many years it will take to obtain a degree, whether to include graduate school, etc.), as well as alternative funding sources.
We don’t just “run the numbers” for you. We discuss strategy, funding options and tradeoffs so you can send your student off to college with confidence. Speak with one of our specialists to determine which college funding options may be best suited for you and your family’s success.
This article was written by Bob Wolfe.
The opinions voiced in this article are for general information only and are not intended to provide specific advice or recommendations for any individual.
Prior to investing in a 529 Plan investors should consider whether the investor’s or designated beneficiary’s home state offers any state tax or other state benefits such as financial aid, scholarship funds, and protections from creditors that are only available for investments in such state’s qualified tuition program. Withdrawals used for qualified expenses are federally tax free. Tax treatment at the state level may vary. Please consult with your tax advisor before investing.
Wealth Enhancement Group is a Greater Minneapolis-based independent wealth management firm offering comprehensive and customized financial planning and investment management services. Established in 1997, Wealth Enhancement Group uses a team approach with a focus on simplifying their clients’ financial lives and has offices nationwide.