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:

 

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

 

• Student Loan Case Study 005: The Orthopedic Fellow Pursuing Geographic Arbitrage

 

• Student Loan Case Study 006: The Oral Surgery Resident with a $300,000 Student Loan Balance

 

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!

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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.

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

 

Student Loan Refinancing Disclosures

 

 

Student Loan Case Study 005: The Orthopedic Fellow Pursuing Geographic Arbitrage

 

The Questionnaire

 

Student Loan(s):

Great lakes loans

$59,700, federal subsidized direct loan, 6.8% fixed, in forbearance

$187,515, federal unsubsidized direct loans, 6.8% fixed, in forbearance

 

Age: 34

 

Current education status: Fellow – finishing July 2018.

 

Specialty: Orthopedic Surgery

 

Marital status & tax filing status: Married Filing Jointly

 

Your current income: 65k/year plus about 40k/year moonlighting

 

Anticipated changes in your current income:

I just signed a 5 year contract in my hometown.  The contract states the following

Year 1 – 550k + 50k for loans

Year 2 – 590k+ 50k for loans

Year 3 – 640k+ 50k for loans

Year 4 – production based+ 50k for loans

Year 5 – production based (50th percentile is about 575k) + 50k for loans

 

The 50k is basically a bonus that is W2 income.  It is not based on having actual loans. So I’ll get that even if they are paid off.  I just signed this contract.

 

Spouse’s current income: 45k

 

Anticipated changes in spouse’s current income: not sure if she will keep working, its an ongoing discussion

 

Spouse’s student loan details: none

 

Do you have any other debt? 

Car 1 – 22k loan, 3%, $500/month, 3 years left

Car 2 – 33k loan, 3%, $500/month, 5 years left

No credit card debt

 

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

Midwest, lower. [PoF: Geographic Arbitrage!]

 

 

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?

401k.  I do very little right now.  My wife has about 200k in her Roth for her work.

 

Do you invest outside of retirement accounts? No

 

Do you have a mortgage? No

 

Do you rent? Monthly payment?

We rent right now, $1,600/month.  But we are moving in August. We plan on renting for about a year and plan on spending about $2,500/month.

 

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? No

 

Are you considering full-term, taxable loan forgiveness through one of the Federal income-driven programs (RePAYE, PAYE, IBR)? No

 

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

 

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

 

Like I stated above, I just signed my job contract.  I plan on refinancing my loans ASAP to a lower rate. Should have done it a long time ago.  I plan on maxing out retirement accounts/529/backdoor roth and putting the rest towards saving up for a down payment for a home, paying off cars and knocking out my students loans in 24 months.  After that I would grow into my salary a bit and start a taxable account.

I think my case would be a great example for a higher paying speciatly.

I can’t thank you guys enough for the blogs, websites, podcasts.  I’m a big fan. My wife is an engineer who works part time. She is currently about halfway through the WCI course.  Immensely helpful.

 

The Response:

 

DMFA: Like I’ve put in the brackets above, and like you’ve deduced, you’re in pretty good shape despite some slightly imperfect bits along the way.  Your average amount of debt, high income, and reasonable perspective on the future are going to pay huge dividends.

 

Income:

A few questions are:

1. Are you a usual W-2 employee, or an independent contractor?  (this affects your retirement)
2. Will your wife work?  If she does, she should probably put as much of her income as possible into pretax retirement since you’re at the top bracket.

Assuming you’ve got gross income of $600,000, 401(k) of $18,500, and standard deduction of $24,000, over a full year, your effective federal tax rate in 2019 (a full calendar year of earning it) will be 24.42%.  After SS/MCR, total net post-tax income every month is $32,861. (it will be less in 2018 since you were still a trainee for half the year)

 

Student Loans:

I would refinance your student loans to a 5-year fixed rate plan.  With your ability to pay them off very quickly, the amount saved while a lower variable rate is being applied to the higher principal early on *might* result in less paid than if on a fixed plan.

However, simply to use SoFi as a reference, the split is 2.890% variable or 3.25% fixed; it’s possible to get a jump of 0.36% in only a few short months.  The amount you’d save is very little, meaning you’d probably just do better to take the fixed. $274,215 over 60 periods at 3.25% is a monthly payment of $4,470; that’s 13.6% of your net post-tax income.

 

Retirement savings:

Like you’ve said, $18,500 in 401(k) employee contributions If we use the 20% rule-of-thumb, with $600,000 in gross income, you’d aim for $120,000 in annual investing specifically for retirement.

To get to that $120,000, $11,000 of that will be two Backdoor Roth IRAs between the two of you.  Other than the 401(k), you’d need $101,500 over the span of the year; that’s $8,458.33 per month specifically earmarked for retirement savings, or 25.7% of your net post-tax income.

Hopefully, you will have the ability to do much more pretax retirement contributions than just the $18,500, including employer contributions (up to a total of $55,000 per account combined employee and employer), a Health Savings Account, possibly your wife’s 401(k), and any side work you may choose to do. [PoF: I challenge you to live on half your takehome pay. With a gross of $600,000 and a net exceeding $300,000, it shouldn’t be too tough.]

 

Cost of living:

Renting for $2,500 will cost you 7.6% of your net income.  That’s excellent. A usual recommendation is no more than 20-25% of your net income to the mortgage.  You would do well to start cash savings (non-invested, or in non-volatile easily-liquidated investments) into two pots: one, an emergency fund of 3-6 months’ expenses, and two, a down payment fund for whenever you decide to purchase a house.

To give nice round numbers, I’d shoot for $50,000 for an emergency fund and $150,000 for a down payment.  Were you to buy, say, a $750,000 house with 20% down, a 15-year mortgage at 3.5% would yield an estimated total mortgage/escrow payment of $5,383. Were you to assume you’d build those over the span of two years, that would be $2083.33 for the former and $6,250 for the latter, or 6.3% and 19% of your net.

 

Leftovers:

If you take the above steps: a 5-year fixed student refinance, $2,500 rent, $8,458.33 for retirement, and the emergency fund buildup and home down payment, you’d have $9,100 left each month, or 28% of your gross.  This would be for things like food, utilities, gas, vacations, child care, and anything else not explicitly listed. A quarter of your overall net income is a pretty good buffer zone. Clearly, you can (and probably should) decide to allocate the cash above to paying off your cars and student loans more quickly.

 

In Conclusion: 

• 5-year student loan refinance.  With that small 0.36% split, I’d take the fixed over variable.

 

• As much pretax retirement as possible, two backdoor Roth IRAs, and then taxable brokerage acct (or other investments) up to target of 20% gross income.

 

• Build a small emergency fund, eventually reaching 3-6 months’ expenses.

 

• Choose between paying your existing debts more aggressively than you already are or building a house down payment fund.

You’re in a great spot; keep up the good work! -DMFA

 

Student Loan Refinancing Disclosures

*Earnest Client Welcome Bonus Disclosure: Terms and conditions apply. To qualify for this signup bonus offer: 1) you must submit a completed student loan refinancing application through PoF link; 2) you must provide a valid email address and a valid checking account number during the application process; and 3) your loan must be fully disbursed. Bonus will be automatically transmitted to your checking account after the final disbursement. Limit one bonus per borrower. This offer is not valid with any other bonus offers received from Earnest. Bonus program available to legal residents of the United States of America (excluding Massachusetts, Michigan, and Kentucky).

 

*Offered terms are subject to change and state law restriction. Loans are offered by CommonBond Lending, LLC (NMLS # 1175900), NMLS Consumer Access. If you are approved for a loan, the interest rate offered will depend on your credit profile, your application, the loan term selected and will be within the ranges of rates shown. If you choose to complete an application, we will conduct a hard credit pull, which may affect your credit score. All Annual Percentage Rates (APRs) displayed assume borrowers enroll in auto pay and account for the 0.25% reduction in interest rate. All variable rates are based on a 1-month LIBOR assumption of 0.15% effective Oct 10, 2020 and may increase after consummation.

 

Student Loan Case Study 006: The Oral Surgery Resident with a $300,000 Student Loan Balance

 

The Questionnaire

 

Student Loan(s): [PoF: Too many to list, but if I listed them all, it would look a lot like the list from Case Study 004. Total current balance approaching $300,000.]

 

Age: 31

 

Current education status (student, resident, fellow, attending): Resident (PGY-2)

 

Specialty: Oral and Maxillofacial Surgery

 

Marital status & tax filing status: Married filing jointly

 

Your current income: ~$55,000

 

Anticipated changes in your current income: Nothing for the next year. When I become a PGY-4, there is an option to moonlight and make an additional ~$3,000/month

 

Spouse’s current income: $0

 

Anticipated changes in spouse’s current income: None

 

Spouse’s student loan details: No Loans

 

Do you have any other debt? (car loan, credit card debt, other) Approximate interest rate(s), monthly payment, and terms? None other than mortgage

 

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

 

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? None available at this time.

 

Do you invest outside of retirement accounts? Approximately how much annually?

I previously contributed $250/month to my roth IRA, until my wife recently lost her job. No we don’t invest anything anywhere.

 

Do you have a mortgage? Yes, 30-year fixed at 3.75%, monthly payment is $1,395 (includes Principle/tax/home insurance/property tax) I still owe ~$225,000.

 

Do you rent? Monthly payment? No

 

Are you pursuing Public Service Loan Forgiveness? If yes, How many qualifying payments do you have behind you? (Officially certified by your servicer) No

 

Do you have any other form of forgiveness or assistance from an employer or state / local government entity? (for example, FQHCs or underserved areas) No

 

Are you considering full-term, taxable loan forgiveness through one of the Federal income-driven programs? (RePAYE, PAYE, IBR)  No

 

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

To be honest, I’m probably somewhere between Answer 1 and 2. I am passionate about repaying my student loans ASAP as soon as I finish residency, but I also would like to start saving ASAP. I plan on living like a resident for 3-5 years and then approach both with equal vigor when the attending checks start coming in.

 

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

I do have a question about purchasing a practice soon after residency. In the field of OMFS, you have the potential to double and even triple your income if you own the practice (or are part owner) vs just being an associate. But a lot of times buying a practice or buying into a practice comes with a price tag of close to $1M. What are your thoughts on taking on that much debt soon into the career while still paying off student loans and trying to build up your retirement accounts?

Also, as far as repayment of student loans, I am planning on keeping them in RePAYE during residency (where my effective interest rate is ~3.2%) and maintaining that for about 6-8 months after residency where I can get a steady history of income, then refinance with a  private bank at that time.

Thank you for your Blog and for being willing to look at my financial situation.  I have learned a TON from your site and am a huge fan of all that you do. I am looking forward to hearing from you and for your advice.

Thanks again.

 

The response

 

PoF: Looks like about a $200,000  $300,000 total student loan balance. PSLF is not an option, so living like a resident and paying them down reasonably quickly sounds like a good option.

The option to buy a practice or buy into one will have to be made when you know the specifics of a particular option in which to do so. But if you can make $800,000 a year as an owner versus $300,000 as an associate (totally made up numbers), the investment would seem to make sense. You’ll still have the equity in the business — it’s not like the buy-in is a sunk cost.

 

DMFA: K, so looks like you’ve had some interest capitalize here.  Here’s what it looks like to me:

 

• $289,751 in principal and $7,591 in accrued interest, for a total of $297,342 owed.
• Using an AGI of $55,000, I estimate your RePAYE at $253, and an effective interest rate of 3.54%.  Yours is probably less now since you prob used half an intern year’s salary as certifying income.

• Assuming standard deduction, your effective income tax rate is only 6.07%, with $3,955 in post-tax income, so about $2600 after paying your mortgage.

 

At this point, I don’t think you can afford anything other than RePAYE, which is doing its job at staving off a lot of unpaid interest.  An in-residency refinance would allow for a lower payment with Laurel Road (or Yanny Road?) [PoF: Ha!] or Splash, but interest would accrue at the high 5s (5.75% is the going rate).  I don’t think this is worth trying to lower an already-low payment.

Once you’re earning, after 2 more years of residency, I estimate you’ll have $317,848 owed, at which point you’d refinance to the shortest term (and therefore lowest interest) at which you could afford the payment.

At that point, a 5-year 3.25% fixed refinance would have a monthly payment of $5,747, or $68,960 a year…so in order to work that into your budget, assuming you keep your usual spending habits (which is the hardest part), you would probably need an income of $300,000 to $400,000 (net of business expenses, including loan payment) in order to achieve that.

For instance, if you did that repayment, earned $300,000 after business expenses, and maxed tax-advantaged retirement accounts ($55,000 into 401(k), $6,950 into HSA), then that 5-year plan would be 37.1% of your post-tax income. That’s fairly reasonable.

One obstacle to your getting the best possible rates with refinancing would be inability to demonstrate proof of higher income since you wouldn’t have a contract for a salary as a business owner.  That’s a fairly common issue that many of us run into. At that point, you’d do well just to refinance to the best rate you can get, and then keep doing “soft pulls” to see when you’d get a better rate, and then do it.

If you’re taking a $1,000,000 loan to purchase a practice, that’s going to be much more of a cash flow consideration (i.e. if you owe $10,000 a month on it, but it helps you earn $35,000 a month, then it’s cash-flow positive $25,000/mo or $300,000/yr), meaning it may either help or hinder your ability to pay it.  You have to think of debt holistically; there’s debt from which you can actually earn money, and a business acquisition loan is one of those things (obv assuming the business goes well). This may however skew your debt-to-income ratio if the loan is under your personal entity as opposed to the business – which I think it would need to be in that instance – and may result in less-than-optimal refinance rates until your income is higher.  I admit my familiarity level with business loans is nowhere near my familiarity with student loans, though…I’d consult with a pro on that one and RTFP of your note.

 

In Conclusion:

 

• Keep doing RePAYE through training.

• When through with training, refinance to the lowest rate on which you can afford the payments.

• As your income increases, keep checking back to attempt to lower your rate to the lowest offered, hopefully to a 5-year fixed.

• Maintain your standard of living as best you can while maximizing your tax-advantaged retirement accounts.

• Your business loan, while likely a necessity if you wish to earn more, may hinder your refinance rates…but clearly earning more money would be the superior option.

 

Good luck, and cheers! -DMFA

 

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If refinancing is the best option for you, please consider signing up via my links, which you can find peppered throughout this post and on my Student Loan Resource Page, which has links to dozens of great articles. I’ll donate $50 to a charity of your choice if you can show that I was credited as your referral source.

 

If you’d rather now wait months for advice, and would like to consult with advice from a former Vanguard bond trader who has consulted on over 1,000 individual’s and couple’s student loan scenarios, or you would like a second opinion, consider a consult from Travis, the Student Loan Planner.

If you owe more than $100,000 in student loans and aren’t 100% sure that you’re doing everything the right way, he finds projected savings of 125 times his consulting fee on average (that one-time fee ranges from $295 to $595). That’s tens of thousands of dollars.

If you’d like a custom plan, book a time at this link if you have more than $300,000 in household student debt and at this link if you owe less. You’ll get a consult form to fill out in your confirmation email. Make sure to mention that you heard about it from Physician on Fire on the consult form.