This is post 2 of 4 in my Getting to Zero series on student loans.
Are student loans good debt?
Over the years, I've heard people refer to loans as "good debt" or as an "investment in the future." If you're reading this, I'm sure you're sick of hearing pithy platitudes about student debt.
Don't let anyone convince you that your loan balance represents good debt or a good investment. Debt is debt, and we shouldn't tolerate any trivializing when it comes to the impact it can have on your life.
Let's do some quick math
Think about this. If in 2009 you had put $150,000 into the S&P 500 instead of into your education, you'd have $450,000 by now. Student loans on the other hand, would have gained you negative dollars during that time. If you elected an income based repayment plan, it's possible your loans have gained six figures in additional interest. This is the opposite of an investment. Your student loan "investment" made you half a million dollars worse off than an actual investment would have.
This guide isn't meant to focus on all the negatives surrounding student loans. Rather, I want to motivate you to tackle your debt instead of avoiding it. Think about what you've already given up due to student loans. Have you missed out on fun with friends, vacations, buying a house, or delayed starting a family? Have you suffered emotionally and laid awake at night wondering how you'll ever pay off your loans?
If your answer to those two questions is yes, then now is the time to get angry with your student loans and start thinking about what you can do to turn your situation around.
But what about political candidate 'x' forgiving them?
Let's talk about broad student loan forgiveness. Many candidates have promised this over the years, but so far, nothing has materialized. If you're holding out hope for this, you're setting yourself up for disappointment. Think about all that would need to happen for this to wipe out your student loan balance.
1. The right political candidate needs to be elected president.
2. The right party needs to have control of Congress.
3. The forgiveness legislation would need to apply to the exact makeup of your student debt.
4. If a portion of your loans are private, the law would need to extend to those too. If not, only a portion of your student loans would be covered.
5. If you have a high income, you better cross your fingers that the law won't exclude certain people based on income.
Consider Elizabeth Warren's recent forgiveness proposal. If you were sitting back with $200,000 in debt eagerly waiting for forgiveness legislation, you might be disappointed to learn that the maximum forgiveness was $50,000. Also, you wouldn't even be eligible for the full $50,000 if you were in a certain income bracket.
It's a bad idea to sit back and wait on the government to bail you out. Odds are high that no one is coming to your rescue and you're going to have to bail yourself out if you don't want Sallie Mae following you around for the next 25 years.
What about Public Service Loan Forgiveness?
This actually isn't a bad option if you actually like the job you're doing and you're paid a reasonable salary. When you agree to Public Service Loan Forgiveness, you are choosing to limit what you'll be able to do, how much money you'll be able to make, and where you'll be able to live for the next 10 years.
After law school, I hunted like hell for a federal job. At the time, it was the only way I could think of getting rid of my student loans. I remember looking at jobs in faraway places that I had no interest in living and the jobs weren't even things I wanted to do. I was just so desperate to find a way to get out of debt, I was looking at management analyst positions out in Montana. I'm lucky they didn't hire me.
Don't get me wrong. There are exciting, fulfilling positions that qualify for Public Service Loan Forgiveness (PSLF). Just make sure you're not picking something out of desperation or because you feel like you have no other option. Before going all in on PSLF, think about the following.
Are you prepared to restrict what you can do and where you can work for the next 10 years? If you're working a job that you truly love and don't ever see yourself going anywhere else, then make sure you're 100% on top of your loans and payments and this can be a great deal.
PSLF Warning #1
So far, very few people have had loans forgiven through this program – something like 99% of people applying for PLSF have been denied. Be very diligent and file every piece of paperwork needed to make sure you qualify for this plan. You don't want to miss anything at all during your repayment period, you lose out on the opportunity.
PLSF Warning #2
I'm not trying to scare anyone, but it's worth pointing out that there's no guarantee the forgiveness legislation won't be repealed. While you would probably be grandfathered in under the old legislation, there is still a risk when you're relying on Congress and the political climate 20 years from now.
What about income based repayment forgiveness?
Depending on your repayment plan, it's going to take 20 or 25 years of consecutive payments to qualify for this type of forgiveness. These plans tend to be horrible repayment strategies for the following reasons.
These plans almost always end up in negative amortization. That’s because these plans often require paying less than the monthly interest. As a result, your loan balance can grow to 3x your original loan amount. If you have a starting debt of $200,000 and you let it negatively amortize for 25 years, you could be looking at over half a million in outstanding debt by that time (depending on your interest rate).
There are many borrowers who just say, "Screw it. I'll pay the minimum amount for the next two decades and wait for forgiveness." In theory this sounds pretty good, particularly if your monthly income based payments are low, but there's one very important detail that many students don't consider. The amount forgiven will be treated as income. In the situation above, this pretty much guarantees you'll have a tax bill of roughly $200,000.
Think about how frustrating that would be. All those years of payments and your loans are finally forgiven, but now you owe the IRS a giant tax bill equivalent to your original loan amount!
Should I Invest In The Stock Market To Pay Off My Debt?
During law school, my friends and I would often joke that we should've just gone to Vegas and put our loan balance on black. There are many borrowers who make a similar gamble and try to offset their student loan interest by trading stocks. While this may sound like a "safer gamble" than the roulette example, you're still taking a pretty big risk based on the theory that the market will always perform as it has in recent history.
I say recent market history, because it's only been about 100 years since the market has been such a reliable means of wealth generation. It's a gamble to assume this will always continue. It's also a gamble when you consider the market has good years and bad ones, and you can't really time the market if you're hoping to generate a payoff fund.
Let's consider the following example. If your student loans are at 6% interest, and you think you can average 9% in the market, you're risking a lot for a 3% gain. Particularly when you consider the fact that this 3% will be taxed as capital gains, so you're really not even earning 3%.
It's hard to sit on the sidelines when every Robinhood trader appears to be getting crazy rich in this bull market. Just remind yourself that many of them are taking a major gamble and most will end up losing out because they never developed discipline around how they manage their money.
I made this mistake too. First trading biotech stocks hoping for a homerun. Spoiler – I got totally wiped out. A few years later, I made the same mistake with Bitcoin. I'd invested in Bitcoin early and during the big bull market rally of 2017, I had enough money to pay off my student loans. Instead, I let greed get the best of me and I ended up taking almost no profits until the market collapsed. This sort of reckless money management is a guaranteed way to feel even more lousy than you already do about your finances.
There is one exception where you might be able to offset your student loan interest in a responsible way.
If you're responsible enough to religiously park money into an FDIC insured payoff account with high interest (like a money market fund or no-penalty CD), and this account has a higher yield than your student loan interest rate, I think this is an acceptable decision. This sort of interest rate arbitrage is very difficult to do now with rates so low, but when rates were higher it was possible to do this with a 5-year adjustable rate and high yield savings accounts like Marcus, Capital One 360, and Wealthfront.
Even if you're able to score this sort of rare arrangement, remember that your money is parked in a fund where it's making minimal returns compared to what you'd be making if you paid off the loans and started investing in the market.
Student loan debt cannot be discharged
Student loans are unique among all other loans, because they cannot be discharged in bankruptcy. It's pretty ridiculous when you think about it. Think about someone you know who is horrible with money. They can buy a McMansion in the suburbs, finance a boat, lease a new Mercedes, and max out a few credit cards. When they're no longer able to cover these expenses, they can just file for bankruptcy and have their obligations wiped clean. Their credit score will take a hit for a few years, but they'll be totally free from debt.
Why Student Loan Debt is Different
Now, let's compare that to student loan debt. Say you're the first person in your family to go to college, you made excellent grades in high school, and now you have the opportunity to go to a prestigious 4-year school. You've always heard that "education is a great investment" and your family is cheering you on towards university. You qualify for some financial aid and work part-time, but you still have to borrow $50,000 per year to cover tuition, books and living expenses. You graduate with $200,000 in student loan debt after interest and fees are factored in. You get a great job right out of school earning $60,000 per year, but your loan payments are $2,000/mo. You can select one of the income based repayment plans to stay current, but you'll only pay $500 per month which won't even cover the monthly interest.
Your loan balance will continue to grow and become harder to pay down over time. Even though you cannot afford to pay the interest and the loan continues to grow, there is no way to discharge this debt by filing for bankruptcy.
Avoidance as a Coping Strategy
I've talked to so many borrowers who sum up their feelings with that one word – hopeless. It's common to feel hopeless when you're staring down an inconceivably large debt figure, but DO NOT let this feeling turn into apathy. Sure, it's more comfortable to stick your head in the sand, ignore your loan balance, and just trudge along making minimum monthly payments. This will have disastrous repercussions on your financial life. Your student loans do not care how you feel. They will just keep growing and within a few years, you'll wake up to find you're $50,000 further in the hole.
This was me. For years, I stuck my head in the sand. Any time I logged on to my loan servicer's website, I would literally put my hand over my loan balance. I didn’t want to face it. I knew my balance was growing, but I told myself there was nothing else I could do to pay it down. I signed up for income based repayment, made every single payment, and re-certified every year. Within a few years of graduating, my loans had grown by $70,000.
Don’t make this mistake!
You will end up paying for it, just like I did. I could have saved myself tens of thousands of dollars if I’d faced my debt instead of avoiding it.
This is your future on student loans
I’d like to take you through a short exercise that was extremely helpful to me in reframing the impact student loans would have on my life. The following questions and points for reflection should help you think about your future and what role student loans will play. As you reflect on each question, try to paint a vivid picture for each scenario. The more realistic the better.
I want you to fast-forward five years into the future. You took massive action and completely eliminated your student debt. Picture yourself logging on to your loan servicer’s website, entering that last payment, and seeing your balance go to $0. You’ll have thousands of dollars more per month to save, invest, or spend as you see fit. It’ll be easier to grow your family, qualify for a mortgage, and take regular vacations. If you’ve been working a job you’re not interested in, you’ll have the financial freedom to change careers. Take a few minutes and think about that future and what you’ll do with no student loans.
Now, let’s consider the alternative. Picture yourself a decade from now. You’re 10 years older and grab your iPhone 20 as you tiredly stumble out of bed. There’s a notification that your student loan payment is due. You log in to your loan servicer, you see the balance: $401,581. This is your 120th consecutive monthly payment, yet your balance is twice what you originally borrowed. There’s still 15 years left before the loans are eligible for forgiveness, and you'll be facing a giant tax bill on any amount forgiven. Take some time to think about what the next 5, 10, and 25 years will be like if you put your head in the sand and just wait around hoping for forgiveness. How will this impact your ability to start a family, buy a house, go on vacations, or save for retirement?
This is a painful exercise, but it's crucial to think about what avoidance will cost you. It's not worth trading your future for ignorant bliss now. By taking massive action today, you are securing a financially free future for yourself and your family. Decide that you will do whatever it takes to eliminate your loans as quickly as possible.
How Can I Pay Off My Debt Faster?
I'm going to give you some ideas for creating a debt attack plan, but before we do that, I want you to think about your attitude towards student loans. First, it’s critical that you stop complaining about the student loan system and seeing yourself as a victim of it. I’ve wasted hundreds of hours ranting about how unfair the student loan system was, and if you’re reading this guide, I bet you have your fair share of complaints too.
There's certainly a need for better discourse around student loan reform, but I want you to avoid this until you’re making progress towards eliminating your debt. If you spend too much time dwelling on areas you’re unable to change, you’re going to feel more powerless to change things within your control (like paying down your debt).
Get in the habit of filling your mind with positive thinking in what you read, listen to, and watch. To be clear, I’m not saying that positive thinking will magically make your debt vanish. It's just that you’re going to want a steady source of motivation to keep you moving forward on what will be a challenging journey.
Focus on Consuming Positive Media
If you spend a lot of time in the car, listen to the Dave Ramsey podcast. If you're sitting at your desk working, set the Tony Robbins YouTube channel to play in background. It doesn't matter who or what you listen to, so long as it resonates and helps you feel inspired. You'll start to feel energized and excited to pay down your loans. I also recommend subscribing to personal finance newsletters and getting active in online communities like r/personalfinance (reddit) if you want to share your journey.
Setting regular progress goals will also keep you motivated. I cover goal setting in more depth in the final section of this guide. So, for now, just recognize that having a plan with reasonable milestones will make the process manageable.