How to balance student loan repayment and investment?

How to balance student loan repayment and investment?

If you have student loans, but also want to start investing in the stock market, cryptocurrency, real estate or other types of investments, you may be wondering how to balance student loan repayments and investments. There are a number of different factors to consider and the best answer will not be the same for everyone.

Let’s look at some situations where you might consider paying off your student loans in full, as well as scenarios where you might be better off investing your extra money – and probably best for everyone, with a balanced approach.

By understanding all the implications, you can make an informed decision for your particular situation.

The many places to invest your money

If you are in a financial situation where you have managed to set a budget and have extra money each month, you may be trying to consider how best to invest that money. Here are a few recommendations:

First, make sure you have an emergency fund of at least $1,000. That way, you can handle small to medium unexpected expenses without blowing your budget. Next, start eliminating higher interest on credit card and other consumer debt. After that, the decisions become more difficult. Expanding your emergency fund, saving for retirement, investing, paying off student loans or your mortgage, and a children’s school fund are all reasonable places to put your money.

For the purposes of this article, we are only going to focus on the balance between student loan repayments and investing, mainly in the stock market.

Do you have to pay off your student loans first?

Here are a few situations where it might make sense to pay off your student loans in full.

High interest rates: If you have private student loans with a high interest rate (above 8-10%), it may make more sense to pay off your student loans in full. Struggling with your credit: If you’re looking for a home and/or struggling to improve your overall credit profile, you may want to pay off your student loans. Removing your monthly student loan payment will lower your debt-to-income ratio and improve your credit score.
Low Balance: If you’ve never had a very high student loan balance or if you’ve already paid off most of your balance, consider just finishing them off and done.
Becoming debt-free: For many people, being completely debt-free is a personal goal. If eliminating your student loans would give you a lot of personal satisfaction, go for it!

You can use our loan payout calculator to explore scenarios about how long it will take to pay off your loans according to your current payment schedule or if you make additional payments. That can help you decide what makes the most sense for your particular financial situation.

Should you invest instead?

The main reason for continuing to make your regular monthly payments on your student loans and investing instead has to do with returns. If you pay 3% interest on your student loans and can earn 8% investing in index funds in the stock market, you are generally better off financially taking your extra money and investing it rather than using it to pay off your low interest. to pay. interest on student debt.

Here are some scenarios where this might be the right choice for you:

Low Student Loan Interest Rates: Investing instead of paying off your student loans only makes sense if you can get a higher return on the market. And this requires that your student loans have relatively low (less than 5-7%) interest rates. Most federal student loans taken out in the past 10 years probably meet these criteria. Solid financial situation: you want to be sure that you can invest well and that you have a generally healthy financial situation. Investing in the stock market can be volatile in the short term, so make sure you’re in a position that doesn’t bother you.
You are eligible for student loan forgiveness: If you already have a student loan forgiveness plan or think that your student loan balance will eventually be cancelled, it makes sense to make the minimum payments and invest your money in other areas.

Things to consider

When you look at how to balance student loan repayments and investments, it’s not always an easy answer that will be the same for all people. Instead, here are a few questions to ask yourself:

Can you refinance your student loans to get a lower interest rate? Do you have an emergency fund that can handle unexpected expenses?
Are you organized and smart enough with investing to achieve higher returns?
How much will you benefit emotionally by removing the burden of paying student loans?
How will either decision affect your tax liabilities?

The answers will be different for everyone, but if you honestly think about these questions, you can decide what makes the most sense for you.

Finding a balance will be the best approach for most

Some financial gurus like Dave Ramsey will argue that you must pay off your student loans (and other debts) in full before you start investing. But that’s probably not the best approach for most people.

The simple truth is that investing costs both money and time. The sooner you start investing, the more time you give your money to grow.

For example, if you want to have $1,000,000 at 62, see how much money you need to invest PER YEAR at the age you start:

If you start investing at 25, you’ll need to invest $4,600 a year to reach $1 million (that’s $383 a month)
If you start investing at age 30, you must now invest $6,900 per year to reach $1 million
If you start investing at 35, that number grows to $10,700 a year to reach $1 million

As you can see, the longer you wait to start investing, the more money you need to accumulate to achieve the same goal.

But how can you start earlier if you are burdened by student debt? Free money.

What do I mean by free money? Most working adults have access to free money to invest if they look for it. For example:

401k/403b Matching Contribution: The average 401k match is 3% of your salary. Since the median annual salary in the United States is $51,168, that means the free money you can get from your employer is $1,535 on average. Since you have to contribute that amount to get the match, that means you save $3,070 a year!
HSA Matching Contribution: More and more employers are offering HSA matches – and these don’t usually require contributions, but health practices like getting an annual physical. The employer’s average HSA contribution is $1,000 per year. The great thing about the HSA is that it is a secret IRA to invest in!

Side note: There may be other free money options from your employer, including tuition reimbursement, student loan repayment assistance, dependent care assistance, transportation reimbursement, and more. While you can’t invest these funds directly, they can certainly help you offset other items in your budget, freeing up money to invest.

Now if you look at your “free money” opportunities, the average worker in the United States should be saving $4,070 a year, with only a small contribution of 401k coming out of pocket. That puts you very close to the amount you need to save to reach your goals in your 20s and 30s.

Final Thoughts

There are many valid paths to a solid and stable financial future, and which path is right for you depends on several factors. While it may make sense to pay off your student loans in full and invest your money to earn higher returns, it’s not for everyone.

Take a look at the factors we’ve discussed and take the time to think about the questions above. That will help you find the right path for your unique financial and life situation. And realize that it doesn’t have to be an either/or decision – you can probably strike a healthy balance between saving and investing versus paying off your student loans.

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