Student Loans and Financial Planning for the Young Doctor
I recently was invited to speak to the 4th year dental students at USC. My subject was student loans and personal finance. The level of student loans these hard working, very bright students have accumulated is generally between $400,000 and $600,000. This isn’t unusual for students in other dental programs throughout the country. The questions I received from these students were:
- What is the difference between IBR, PAYE, and REPAY and which program should I be on?
- Can I just pay the minimum payments and have the remainder forgiven after 20 years?
- What effect will student loans have on my ability to purchase a practice and home?
- Should I refinance to private student loans?
- A level 10-year payment plan. A $400,000 student loan, at 7% interest for 10 years would have a required payment of $4,644/month.
- The IDR payment plan (IBR, PAYE, and REPAY). The payment is limited to 10% of your discretionary income. Discretionary income is defined as your Adjusted Gross Income, “AGI”, less 150% of the federal poverty levels, adjusted for you household size. If your first year out of dental school you earn $150,000 of income and you are single, your monthly payment would be $1,098/month.
- Your monthly payment is capped at 10% of your discretionary income. So your initial monthly payment would be the same under all three programs. This is not true for IBR loans acquired before 2014. Those loans are capped at 15% of your discretionary income instead of 10%
- The government will provide an interest subsidy for the first three years in all three programs. This is very important. If your initial monthly payment is $1,098 (as in our example above), but the interest portion of the level 10-year payment plan above is $2,000, then your payment of $1,098 doesn’t even cover the interest portion. It’s short by $902. The government will pay that for you for the first three years in the program. During that time, you won’t see the balance rise. So make those first three years count!
- After the three years, the unpaid interest is added to your loan balance.
- If you file a joint tax return with your spouse, your income will be combined for purposes of determining your loan payment amount.
- All loans are forgiven upon death.
- Any forgiven debt in all three programs is taxable upon discharge.
- REPAYE on the other hand, does not require hardship.
- IBR: After three years, all interest is capitalized (added) to the balance of your outstanding loans.
- PAYE: Like IBR, after three years, all interest is capitalized to the balance of your outstanding loan. However, the total capitalized interest cannot exceed 10% of your original loan balance. For example, if your original student loan balance was $400,000, then only $40,000 of interest can be capitalized to the loan, therefore maxing at a total loan balance of $440,000.
- PAYE: After three years, the government will continue to pay for 50% of any unpaid interest. The remainder will be capitalized to the balance of your student loans.
* For example, if your income is $300,000, look at that column. Your consumption-to-income ratio is 53% or $13,250/month. ($159,000 divided by $300,000)On a macroeconomic level, the total student loans in our country are approaching 1.5 trillion among 45 million borrowers. Colleges and banks have made student loans a for-profit business. And it’s getting us into a consumer debt crisis. Given much of that debt will be paid by the US government from student loan forgiveness the writing is on the wall. Changes are around the corner. Some of these changes might include:
- A tax incentive for employers that pay a portion of their employees’ student loans, similar to making 401K contributions on behalf of employees.
- All repayment plans may be consolidated into one program; i.e. no more IBR, PAYE, and REPAYE. Just one plan, such as IDR.
- The Public Service Loan Forgiveness program may be discontinued. This program allows for a forgiveness after 10 years of service in a qualified government or charitable work place.
- Forgiveness timelines for graduate loans might extend to 30 years. (Undergraduate loans may reduce to 15 years)
- It’s even possible forgiveness will be eliminated altogether, but limiting capitalized interest to only the first 10 years. But the full loan will eventually be paid off in its entirety.
- The discretionary income cap may increase from 10% to 12.5 or 15%.