Student Loan Case Studies # 4, 5, & 6

If you’ve visited my Student Loan Resource Page in recent months, you may have noticed the invitation to fill out a questionnaire to be considered for a case study. Last month, I shared the first few case studies analyzed by our in-house student loan expert, Dr. David Michael Frederick Anderson, a.k.a. DMFA

Today, I’d like to share a few more case studies. The first two are complete analyses, and the third is a more brief look, although I’ve realized that student loan studies can hardly be brief given the complexities of the various options for repayment, refinancing, and forgiveness.

Jump to:

 

 

 

 

I’m also partnering with Travis Hornsby (no relation to Bruce… I don’t think), a friend who happens to run Student Loan Planner, a service which saves professionals thousands of dollars on their student loans.

If you’d like a more in-depth look or a second opinion, for a few hundred dollars, he often finds tens of thousands of dollars in savings for you. If you opt to utilize his services, please mention I sent you in the consult form.

Let’s dive into Student Loan Case Study 004!


Student Loan Case Study 004: A Million in Debt at 43 with No Clear Path Out

 

The Questionnaire:

 

Student Loan(s): 

Current balance: $389k + $30k interest

Balance at time of entering initial repayment status: $325k, recently missed recertification so interest capitalized to $389k.

 

Direct Student Plus Loan ­ 06/26/12

  • Interest Rate: 7.65%
  • Original Balance: $28,751.00 Unpaid Interest: $3,095.19 Current Balance: $37,673.00
  • Monthly Payment: $38.50 Repayment Term: 208 Months

Direct Unsub Stafford Loan ­ 06/26/12

  • Interest Rate: 6.55%
  • Original Balance: $44,944.00 Unpaid Interest: $3,791.09 Current Balance: $55,828.40
  • Monthly Payment: $57.05 Repayment Term: 186 Months Expected Payoff Date: 09/21/2030

Direct Sub Stafford Loan ­ 07/01/11

  • Interest Rate: 6.55%
  • Original Balance: $8,500.00 Unpaid Interest: $553.04 Current Balance: $8,539.01
  • Monthly Payment: $8.73 Repayment Term: 151 Months Expected Payoff Date: 09/21/2030
  •  

Direct Unsub Stafford Loan ­ 07/01/11

  • Interest Rate: 6.55%
  • Original Balance: $38,667.00 Unpaid Interest: $3,469.87 Current Balance: $51,099.48
  • Monthly Payment: $52.22 Repayment Term: 186 Months Expected Payoff Date: 09/21/2030

Direct Student Plus Loan ­ 07/01/11

  • Interest Rate: 7.65%
  • Original Balance: $26,864.00 Unpaid Interest: $3,077.32 Current Balance: $36,985.86
  • Monthly Payment: $37.79 Repayment Term: 199 Months Expected Payoff Date: 09/21/2034

Direct Sub Stafford Loan ­ 07/01/10

  • Interest Rate: 6.55%
  • Original Balance: $8,500.00 Unpaid Interest: $553.04 Current Balance: $8,539.01
  • Monthly Payment: $8.73 Repayment Term: 151 Months Expected Payoff Date: 09/21/2030

Direct Unsub Stafford Loan ­ 07/01/10

  • Interest Rate: 6.55%
  • Original Balance: $38,667.00 Unpaid Interest: $3,676.49 Current Balance: $54,142.53
  • Monthly Payment: $55.32 Repayment Term: 186 Months Expected Payoff Date: 09/21/2030

Direct Student Plus Loan ­ 07/01/10

  • Interest Rate: 7.65%
  • Original Balance: $33,459.00 Unpaid Interest: $4,124.34 Current Balance: $49,532.16
  • Monthly Payment: $50.61 Repayment Term: 199 Months Expected Payoff Date: 09/21/2034

Direct Sub Stafford Loan ­ 09/22/09

  • Interest Rate: 6.55%
  • Original Balance: $8,500.00 Unpaid Interest: $553.04 Current Balance: $8,539.01
  • Monthly Payment: $8.73 Repayment Term: 151 Months Expected Payoff Date: 09/21/2030

Direct Unsub Stafford Loan ­ 09/22/09

  • Interest Rate: 6.55%
  • Original Balance: $32,000.00 Unpaid Interest: $3,192.85 Current Balance: $47,019.44
  • Monthly Payment: $48.05 Repayment Term: 186 Months Expected Payoff Date: 09/21/2030

Direct Student Plus Loan ­ 09/22/09

  • Interest Rate: 7.65%
  • Original Balance: $20,000.00 Unpaid Interest: $2,619.55 Current Balance: $31,439.47
  • Monthly Payment: $32.13 Repayment Term: 199 Months Expected Payoff Date: 09/21/2034

 

Age: 43

 

Current education status (student, resident, fellow, attending):  working

 

Specialty: Dentist

 

Marital status & tax filing status: Male, Married Filing Jointly

 

Your current income: $150,000, but can vary from $120,000 to $240,000

 

Anticipated changes in your current income: hopefully consistently >$240,000

 

Spouse’s current income: $54,000 working one to two days a week

 

Anticipated changes in spouse’s current income: none

 

Spouse’s student loan details: $100,000 @ 1.375%

 

Do you have any other debt? Credit card used to pay most monthly expenses, about $2k, paid in full

 

Do you live in a high, medium, or low cost of living area (best guess)? High

 

Available retirement plans (401(k) / 403(b), 457(b), solo 401(k), SEP IRA, SIMPLE IRA, cash balance / defined benefit plan) / how much in total do you invest annually?

  • $50,000 cash
  • $248,000 rollover IRA
  • $24,000 Roth IRA
  • Contribute max to Roth IRA annually, contribute max to 401(k) annually, contribute max to HSA account.

 

Do you invest outside of retirement accounts? Approximately how much annually? Yes, whatever we have “leftover”.  We sold our house and put ~$160,000 into a taxable Vanguard account.

 

Do you have a mortgage? No

 

Do you rent? Monthly payment? Yes, $2,100

 

Are you pursuing Public Service Loan Forgiveness? No

 

Do you have any other form of forgiveness or assistance from an employer or state / local government entity? Possible FQHC in future, but have not started down this path

 

Are you considering full-term, taxable loan forgiveness through one of the Federal income-driven programs (RePAYE, PAYE, IBR)? Considering the possibility, depending which scenario makes most sense.

 

Which of the following *best* describes your attitude toward student loans:

  1. I want to pay them off as quickly as possible, even before saving/investing for retirement
  2. I do want to pay them off quickly, but I want to save/invest for retirement first
  3. I am ambivalent about them and would like a decent balance between paying my debt, saving/investing, and doing other things with my money
  4. I am happy to let my student debt linger and simply pay the minimum amount for as long as possible

I was a #4, but after missing recertification, am hesitant about missing recertification, possible government cancellation of repayment programs

 

Is there anything else you’d like us to know that would help us help you?

I have about a $480,000 dental practice loan.

My wife is a physician, but her loan rate is 1.375% so we are keeping that and paying it off last. Thinking about keeping it the full 30yrs, but if possible, we’d like to be financially independent and not have any debt.

My income for 2017 was low due to practice difficulties. It has been better in 2018, but I don’t feel 100% confident to take all the profits out of the business as income. I take about $10k/mth gross from part-time work, and could possibly take another $10k as salary from my dental practice, and possibly another $5k/mth as a profit distribution from the practice, so potential to take $25k/mth gross if business keeps up.

The part-time work has been more consistent income than the practice, but I’m hopeful that changes. I haven’t been paying myself too highly as I’ve been trying to keep my income down to maximize the PAYE program, but if it looks like refinancing and paying down student loans is the better option, I’m willing to do just that.

We currently have two kids (2yo, 5yo).

 

 

The Response:

 

DMFA: For starters – this is really complicated.  There’s a lot of concepts going in a lot of different directions, and a very open-ended realm of possibilities.  The multitude of ways you and your spouse can earn money makes this very difficult to try to create a high-fidelity simulation going forward.  So I will do my best, and recognize that all the variables are subject to change.

This will focus only on your current student loans.  Your wife’s loans of $100,000 at 1.375% are really not worth paying off any more than the minimum since that rate is probably going to be less than inflation in any given year; may as well pay it off with future inflated dollars.  Your practice loan is essentially seen as a business expense, so I won’t factor that in either, rather simply reduce your expected income by it.

Assuming that your principal at time of entering repayment was $360,631.55, this means that the 10-year standard payment is $4,163.33, meaning that if you were in PAYE, you would have a partial financial hardship until your AGI was $537,249.06 or higher.  Seems like that’s a bit above what you were planning on making. All your loans are Direct Loans, and the PLUS loans are student loans and not parent loans, so they should all be eligible for PAYE.

So assuming you bring home $200,000 a year (I’ll go with that since it’s between the $150-250k figure you gave me), and your wife makes $4,500/month, that’ll gross $254,000/year.  Putting $37,000 into 401(k) accounts (should prob be able to do more if you have profit-sharing or matching) and $6,950 into an HSA, your AGI would be about $210,000. That puts your payment for either PAYE or RePAYE at $1,436.25.  That will go up each year with your income when you re-certify annually based on your tax return.

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Assuming usual payroll taxes and the standard federal income tax deduction, I estimate you’ll have about $13,500 in monthly post-tax income.  That means that payment is 10.4% of your net income. That should certainly be possible. Assuming you have a 4% annual increase in your income, and the term for RePAYE is 25 years and PAYE is 20 years, you will pay a total of $780,439 in RePAYE and $550,040 in PAYE.  Your “tax bomb” of forgiveness would be $168,405 of additional income in 2043 if RePAYE and $298,533.52 of additional income in 2038 for PAYE.

Assuming that you’re in a similar tax bracket, at which point the marginal rate would be about 32% for that chunk of income, you’d owe $54,000 in taxes for RePAYE and $95,500 in taxes for PAYE, bringing the total paid to $834,300 for RePAYE and $645,500 for PAYE. Seems pretty clear that PAYE would be better if you’re eligible for it.

 

Handling the Tax Bomb

 

Now, here comes the rub: how to plan for that “tax bomb” in 20 years (PAYE) or 25 years (RePAYE).  In order to have $95,500 in a taxable brokerage account 20 years from now, assuming you’ll earn 5% annually after taxes, you’d need to invest $232 per month, meaning your “loan payment” would have to be that much higher.

RePAYE, on the other hand, would require you to have a lower amount over a longer term ($90/mo to have $54,000 in 25 years), but you’d have 5 more years of loan payments of about $3,500-4,200/mo, again assuming your income goes up by 4% a year.  Add that $232/mo to the 240 payments you’d make for RePAYE (20 years), and you’d have paid $605,819.45 to the loan and your forgiveness tax-penalty fund over 20 years.

Now, let’s compare that to if you did a refi, for instance, 20 years at 5.125% which is what SoFi (see current rates) is offering at the time of publication.  That would be a payment of $3,263.30, or 23.7% of your post-tax income, and would result in $783,200 paid over the life of the loan.  Even without the additional investment account to avoid the tax bomb, that’s still $140,000 more than what you’d pay by taking the 20-year taxable forgiveness.

Should you decide to pay it more quickly, such as a 10-year plan at 4.5%, your monthly payment would be $5,071 (36.8% of your monthly take-home income; a lot, but doable), and you would pay $608,500 over the life of the loan – still barely more than what you’d pay with PAYE and the side-account, but with less-inflated dollars.

Now, I don’t necessarily think this is the best thing for society, since if everyone did this, they’d break the system…but, the Mike Meru approach of holding out for the 20-year taxable forgiveness while making PAYE payments would result in the least amount of money paid for you under these circumstances.

Be mindful that, should you decide to earn more (and of course you should not decide to earn less solely for student loans – it takes $12,000 of AGI to raise your student loan payment by $100) then your repayment amount will increase.  For instance, if your wife went to work to earn a physician average of $250,000 in 3 years once your youngest is in kindergarten, and you earned $500,000 while filing taxes jointly in year 6, then you would hit your 10-year standard cap for PAYE in year 8 (assuming the 4% annual increase in income) and pay off the loan without any forgiveness and by paying $657,300 over about 16.5 years.

At that point, a refinance would benefit you, especially since you could afford the higher payment and you’d be on the hook for the whole thing anyway.  If, say, you were to gross $500,000/year, and you refinanced to 5-year fixed at 3.4%, the payment would be about $7,100/month (about $84,800/year), which would probably comprise about 25% of your income and, including the payments already made with PAYE, result in $519,100 paid over the life of the loan over 10 years.

On the other hand, PAYE would allow you to file taxes separately in order to exclude your wife’s income from your payment calculation; the higher income will be taxed at a higher marginal rate, and you would not be eligible for several deductions and credits, but you would be able to exclude the entirety of your wife’s income from those payments, thereby keeping them low.  I haven’t yet created a calculator to estimate the difference in tax burden for tax year 2018 (post-TCJA), but if your loan payment is $24,000 less in a year, it’d be hard for the taxes to be that much worse.

 

In conclusion:

 

  • If your current earnings remain, PAYE with 20-year taxable forgiveness would result in least paid over the life of the loan

 

  • If you do so, set aside about $250/month in a taxable account with a significant fixed-income component (e.g. 50/50, 70/30, etc to ride out volatility, to assume 5% annual gain) to plan on paying the tax penalty in 20 years

 

  • If your wife goes to full-earning potential as a physician, that payment will increase, so you could either file taxes separately (would markedly increase taxes owed each year) or refinance the loan to a lower rate and pay it (since forgiveness would likely be zero)

 

  • In the interim, do your best to minimize taking on additional debt – I’m not sure where buying a house would fit into all this – and make the minimum payments on your wife’s 1.375% student loan

 

  • Continue to do your best to save money toward retirement using 401(k), Roth IRA, and HSA


You’re in a tough spot, but there are several paths to eliminate your student loan balance. Good luck and cheers! -DMFA

 

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