Wednesday, October 18th, 2017

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Ask YOUNG MONEY: Should I start paying off my student loans before graduation?


Q: I am a college student in my second year of college. I was reading your section on financial aid. I had a simple question that popped in my head once I finished reading your various articles. Would it make sense to start paying off my student loans now? I was thinking something as simple as a hundred dollars a month. And also, if I can do this, will I be paying off the principle or just the APR?

A: The answer to your question sounds like the name of a popular adult diaper brand….it "Depends."   And as to whether you’ll be paying down only the principle amount of the debt, and not the interest, that depends, too.

First off, you have to determine if you have been given a subsidized Stafford loan, or an unsubsidized loan.  Generally, students who are from middle class to upper middle class families end up with unsubsidized loans.  You get the benefit of the lower interest rate (compared to other types of consumer loans). HOWEVER, the interest accrues while you’re in school so you’re adding interest on top of the original amount of the loan.  If you have an unsubsidized Stafford, and can afford to pay something each month, go ahead — you’re just saving yourself having to pay interest on interest, which is generally not allowed in most financial transactions, but is authorized by law to occur in a student loan. 

If you’re an independent student, meaning parental resources were not calculated when you applied for the loan, chances are great that you have a subsidized Stafford loan, and the interest which accrues while you’re in school is paid by your rich Uncle (Sam).   Therefore, when you graduate, you owe just what you borrowed, and so you might find a better use for that spare $100 you referenced in your letter.

You also want to find out from your lender what borrower benefits they offer upon graduation.  Will they offer you a lower interest rate for paying on time, or electronically?  If you become a teacher, or police officer, or member of the military, will they offer you forgiveness of part of your loans?   A number of great programs exist in the FFELP program, and if you qualify by virtue of your major and employment after college, you might not want to spend that money now.

If you are attending a school that participates in the federal Direct Loan Program (only 20% of schools do), then talk to your financial aid officer for advice.  Federal Direct Loans lack a number of benefits of the FFELP (Federal Family Education Loan Program) loans, and program particulars are best explained by your school.

We also hope you haven’t fallen for the "apply for a credit card, get a free T-shirt" problem, found on too many campuses today.   If you have, use that extra money to pay off your credit card debt before worrying about your student loan.  And, if you have plans to attend graduate school, perhaps you’d consider putting that extra money into a college savings program, such as a 529 Plan, which shelters the money from taxation while it’s earning a guaranteed rate.  

Finally, keep in mind that a student loan does create a credit history, and will help you after graduation by having a chance to demonstrate on-time payment of a large debt. So consider leaving yourself some college debt, in an amount that’s manageable to you, to pay every month, on time, for at least a couple of years.  That’ll help you develop a good credit score, in a world that increasingly runs on credit.  

John D. Wild
Director of Public Affairs

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