Some 41 million borrowers will have several more months to take advantage of the interest-free break on their student loans, even as US inflation is at its highest level in 40 years.
While federal student loan borrowers may be worried about what to do when repayments resume, personal finance experts are concerned about what you’re doing. Now with your own money until August 31, when the pause in payments due to the pandemic expires.
We spoke to several money-thinking thought leaders about student debt and how to improve your finances during this sixth benefit freeze.
Nicole Brown-Griffin, Late Bloom Advising
If the student loan borrower has no other debt, a healthy emergency fund for their lifestyle/family structure, and is saving money for retirement, they should definitely use this student loan pause to pay off their principal balance.
This would do wonders for dealing with student loan debt, but only if they are in the right financial position to do so. While debt repayment is important, having a solid financial safety net in place is key.
I would like to emphasize that the borrower has at least $500 to $1,000 in an emergency fund, but ideally has three to six months of living expenses.
Read more: Reserve funds: everything you need to know
Jason Anderson, Gradmetrics
If a borrower has exclusively federal student loans, they should use the Department of Education loan simulator to get a better idea of how best to move forward, both in terms of repayment plans and possible forgiveness. Note that the simulator only considers public service loan forgiveness (PSLF) – borrowers will have to explore other options that may exist. Other loan forgiveness programs usually vary by state and profession.
For borrowers considering a loan write-off, payments not made during this period are still eligible for PSLF and a long-term loan write-off. Loan defaults maximize forgiveness and free up funds that can be used for other purposes such as savings, retirement planning, etc.
For those who want to pay off debt, use this time to pay off the loan. You will minimize the overall accrual of interest (because interest is suspended) and shorten the repayment periods. You can pay off the loans with the lowest balances first to build momentum (snowball method) or improve efficiency by paying off student loans with the highest interest rates first (avalanche method).
Read more: Snowball vs. Avalanche: What’s the Best Way to Pay Off Debt?
Patty Hughes, Lake Life Wealth Advisory Group
It all depends on your circumstances. In some cases it makes sense to keep paying the loan, while in others it makes sense to redirect the money.
Unless you’re trying to get student loan forgiveness under an income-based repayment plan, it usually makes sense to keep paying on the loan, as not paying it off just lengthens the repayment period.
If you have a high income and do not use income-based repayment plans, you should continue to pay off your loans. Interest rates are often in the 6% range, so it makes sense to try and apply these payments to the principal amount of the loan.
It’s a different story if you’re trying to get loan forgiveness either through a regular income-based repayment plan or through public utility loan forgiveness. In this case, you do not have to repay the loans because the months during which the payments were suspended count towards the forgiveness of the loan.
The amount that could be used to pay off a student loan can be used to create or replenish an emergency fund, pay off other high-interest debt, save a down payment on a house, or invest in retirement accounts.
Stephen E. Fletcher, EVOadvisers.com
There is no other time when you can avoid paying interest on a debt like this. For some students, the interest rate is well over 5%. This is a great opportunity to make your money work for you by paying off your loan in full. It will also free up cash flow for savings once the pause is lifted, as there will no longer be a required monthly payment.
If you save and invest money that would normally go towards paying off a loan, you can wait until the loan is paid off. Your future self will benefit from the growth of this investment.
What you can not you need to take the monthly amount that should have gone to pay off the student loan and just spend it. Your monthly budget will increasingly depend on this amount of spending, and when the pause is lifted, these first months will be very difficult and stressful. Save or pay, but please don’t spend!
Jason Dall’Aqua, Crest Wealth Advisors
If you are a PSLF member, you do not have to make payments on your loans because the abstinence period continues to count towards your 120 months of required payments.
If you’re not part of the PSLF, the decision gets a little more complicated. However, it is probably more beneficial to use this money for other purposes, since it remains to be seen what will happen – there may be a long pause in payments or the possibility of partial debt cancellation. Most student loan borrowers choose to use the pause.
Pausing student loans provides a great opportunity to work towards other financial goals, such as paying off high-interest debt, saving for a home, or increasing your retirement savings.
Take the amount that will go towards your student loans and use it to improve your financial situation. This way, when payments resume, your cash flow will not be affected as the money will not be absorbed into your daily expenses.
I have clients who take advantage of this period by increasing their 401(k) contributions and adding to their liquid investments, which gives them an extra boost to reach their retirement goals.
Don’t suspend payments or let excess cash flow go to day-to-day expenses. It will be difficult for you to restore your cash flow if/when student loan payments resume.
Stanley Himeno-Okamoto, DRS Financial Partners LLC
I generally recommend that you redirect your suspended monthly payment to a designated savings account—if possible, a high-yielding savings account—separate from your other accounts.
As soon as payments resume, you can decide whether to use the accumulated money for a one-time payment or direct it to other areas, such as long-term investments.
At the same time, having extra money gives you more flexibility in the event of an emergency. I have already had several clients who were grateful that they saved their monthly payments due to unexpected expenses, job loss, or medical bills.
Read more: Comparison of the best high yield savings accounts
Jordan Nicel, Trek Wealth Planning
I advise my clients not to pay their student loans during the break. Because no payments are required and no interest is charged, there are no downsides to not making payments.
They could save payments they would otherwise make into a high-interest savings account and earn interest. Then, before payments start again, they can apply that savings balance to their student loans and be in a better position than if they had continued to make payments during the pause.
This is just one example, but clients can also pay extra on other debts, such as credit cards or private student loans, and liquidate them faster.
The bottom line is that you want to avoid increasing lifestyle spending while you’re not making payments, because eventually those payments will start all over again. It’s really hard to adjust your lifestyle spending down. Instead of spending more money, save those dollars in a high-interest savings account until payments start again, or pay off other debt.
Featured Image: peampath2812/Shutterstock.com