Today’s post is a guest post from Travis Hornsby. You might recognize his name from a post about not getting into Harvard which was featured in a recent Sunday Best. He is engaged to a physician and has learned the ins and outs of student loans.
Student Loan Planner has previously been a site sponsor, and some of the loan consolidation links towards the end of today’s post will benefit you, but may also benefit this site’s charitable mission. Additionally, if you refinance via these links, I will donate $50 to a charity of your choice. See the Student Loan Resource Page for more details. -PoF
However, the way today’s doctors pay for medical school has completely changed, and so have the rules. Physicians need to have a plan in place to maximize savings on their student loans.
1.Check to See if REPAYE Can Slash Your Interest Rate
For almost every resident, the Revised Pay As You Earn plan (REPAYE) will provide an enormously helpful interest rate subsidy and will maintain their eligibility for loan forgiveness if they remain at a not-for-profit hospital after training. Here’s how it works in an ideally managed scenario.
On your first day after medical school graduation, you file a consolidation application at studentloans.gov and waive the grace period. By selecting REPAYE as your payment option, you’ll keep your monthly payment to a small manageable amount.
REPAYE pays half of the accrued interest not covered by your monthly payments. Say you have an average interest rate of 6% on $200,000 in medical school loans. The interest charge is $12,000. Also assume your yearly payment under REPAYE is $4,000. The government takes the $12,000 figure, subtracts $4,000, and divides the remainder of $8,000 by 2.
In this scenario, REPAYE covers $4,000 of interest. The effective interest rate on your loan is actually 4% instead of the stated 6%. You won’t find any private refinancing company that will give you such a low rate as a resident without a cosigner. Feel free to check my math by downloading the student loan calculator I built here.
An important caveat is that REPAYE treats all marital income as joint. So if your husband or wife is an attending with no debt making $300,000 a year, choosing REPAYE could leave you with a very high monthly payment with no interest subsidy. In many cases, a resident married to an attending with low or no debt should consider refinancing to obtain lower interest costs.
Even so, most residents are either single or married to someone who also has debt or a relatively modest income. That’s why looking into the powerful interest rate subsidy with REPAYE is really important.
2. File PSLF Certification at Least Once a Year
My fiancée is a urogynecologist at a not for profit hospital. Before that, she trained for her residency and fellowship at not for profit hospitals. When we met and I started learning about the student loan rules, I realized we needed to submit something called the Public Service Loan Forgiveness (PSLF) employment certification form.
By the time we sent the form in, she was about to finish her final year of training. The Department of Education’s response floored me. For some of her loans, the servicer only had records of 2.5 years’ worth of monthly payments under the IBR plan. For others, the servicer only showed 1 month of payment history.
Additionally, she had consolidated all her loans at the end of residency, which reset the clock for PSLF and made her lose 4 years of qualifying payments. I’m still astounded no one at the servicing company was competent enough in their understanding of student loan rules to yell, “STOP, consolidating is a VERY BAD IDEA.” My fiancée studied for thousands of hours to know medicine, not navigate a maze of federal rules and regulations.
My takeaway from this experience is that anyone who wishes to track progress towards PSLF must file their employment certification form annually, at least. You can submit the form as often as you want, and if I was counting on a government program to cover most of my med school debt, I’d file it semi-annually.
Essentially, you want a very good paper trail so that what happened to us won’t happen to you. If you wait to certify your employment until the end of residency or fellowship, you could have a hard time proving everything to the government.
Changes to the PSLF loan program could also preference those already certifying their status towards loan forgiveness. You have every reason to submit the PSLF form if you’re working at a not for profit hospital and you have student debt. Start at the time you receive your first paycheck.
3. Use Student Loan Rules to Subsidize Your Retirement
If the REPAYE plan’s interest subsidy applies to you, then you’ll be excited to know you can increase the subsidy to an even higher level. All you need to do is reduce your Adjusted Gross Income (AGI). The most common way to do this is to save in a pre-tax retirement plan like a 403b.
House staff might not be allowed to contribute. In most cases, the hospitals will not match any of your contributions. That’s fine, because you’re already getting a contribution from the federal government.
To show what I mean, let’s return to the example from earlier with the resident with $200,000 in student loans at 6% interest. She makes $60,000 a year. If she contributes nothing to her retirement, her monthly payment on the REPAYE plan is $352 a month and the annual interest charge is about $8,100 because of the REPAYE interest subsidy (it would normally be $12,000).
However, if she contributes $18,000 on a pre-tax basis to her 403b, that reduces her AGI by $18,000. Her new AGI is $42,000, which reduces her student loan payment from $352 a month to $202 a month. Since there is more interest not paid down by her payment, the REPAYE subsidy is higher. The annual interest charge is approximately $7,200 instead of $8,100. That’s like a 5% match on her 403b contribution.
4.Build Outside Savings to Hedge Against Changes to Student Loan Rules
Physicians ask me all the time what will happen if PSLF is repealed or scaled back now that Trump is President. Some want to refinance and not count on PSLF at all. If that’s their preference because they can’t stand being in debt, I respect that. However, in some cases they will cost themselves a significant sum of money with a high degree of certainty.
PSLF is in the promissory notes of all loans issued under the Direct loan program. The Republican repeal plan in 2015 grandfathered in all current borrowers and changed the rules for future ones. The potentially more worrisome Democratic repeal plan proposed by the President would’ve capped PSLF at a maximum benefit of $57,500. PSLF is absolutely an uncertain program to bank on in the future.
However, there is probably an 85%-90% chance that physicians not in medical school now who are banking on PSLF will get to use it. If you’re looking at savings in the $100,000 to $300,000 range by using PSLF, I would not recommend bailing on the strategy.
At the same time, setting your finances up well for the 10% to 15% chance there are major changes to PSLF is a great idea. If you put your money into your student loans with this uncertainty, the only sure thing is that you can’t get it back if PSLF ends up working out. For that reason, I suggest all physicians utilizing PSLF should have a taxable investment account invested in low cost index funds.
5. If Your Income is High Relative to Your Debt, then Refinance and Attack It
Finally, the tried and true “live frugally and pay down your debt fast” advice is applicable here. If your debt to income ratio (including any debt and income from your spouse) is below 2, and you are already working for a private employer as an attending, then private refinancing is probably the best route. If that debt to income ratio is closer to 1.5, then private refinancing looks better still.
With a total debt to income ratio below 1.5 at a private employer, not refinancing is likely going to cost you tens of thousands of dollars in interest. The high 6% to 8% interest rates do not reflect the true risk of the physician borrower. Therefore, it would behoove you to check what your interest rate would be with leading private lenders if the private employer and debt to income ratio characteristics describe you. Checking your rate does not affect your credit unless you go through with the final application.
Keep in mind that for most attending physicians whose paycheck comes from a not for profit hospital, PSLF will be the better route in most scenarios even when the debt to income ratio is low. The reason is you can switch from REPAYE to a plan like Pay As You Earn (PAYE) or IBR, which will cap your payments at the 10 year Standard plan monthly payment. Hence, even physicians who didn’t handle their loan repayment in an optimal way during residency and fellowship might still be able to pay about 50% of the total amount they owe for school.
However, if you’re at a not for profit hospital with debt to income ratio below 0.5, private refinancing is probably the way to go because all the loans will be gone by the time you would receive forgiveness.
Make a Plan for the Best, and Hedge Against the Worst
When I was a bond trader, we would often have a backup plan if an investment didn’t go our way. We tried to maximize the expected value of our bet while mitigating risk. Physicians with student loans should behave in the same way.
If you’re on track to receive loan forgiveness under PSLF, then evaluate your repayment plan, file the PSLF certification form annually, and save aggressively for retirement. To protect against PSLF’s repeal, save in an outside investment account to have a large lump sum ready to go if Congress changes student loan policy. That money could be deployed fast in a rapid paydown strategy if necessary. Additionally, if you’re a high-income privately employed doctor, consider refinancing your loans. These tips could save you tens or even hundreds of thousands of dollars. You deserve to save as much money as possible for the countless hours you’ve invested in a medical education.
If you’d like advice from a former Vanguard bond trader who has consulted on over 1,000 individual’s and couple’s student loan scenarios, or 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.