Mailbag: In school and racking up debt… what do I do?

Michael Lux Blog, Mailbag, Student Loans 0 Comments

In this edition of the Sherpa Mailbag we take a look at Paul’s debt.  He is doing a great job in school and setting himself up for the future, but he is also running up a hefty student loan tab.  He wants to know what he can do while he is in school to address the debt.  If you have a question for the Sherpa, feel free to ask us!

Paul writes:

Hello Sherpa,

During high school, I was irresponsible and naïve with all my family members telling me how necessary it was to attend a 4-year university with grades that would not earn me a scholarship.  My family moved which made me lose any sort of in-state benefits which made me pay sticker price out of state tuition for the past 2 years.

I am in the spring of my sophomore year with 10k in federal loans with about 66k in private loans.  After realizing this I have started pushing hard to get more scholarships and grants which would allow me to lower the cost to about 28k for the next two years, bringing my total cost to around 104k, if not it will be around 150k.  I currently have a perfect GPA, significant internship experience, and am on track to receive two degrees in finance and economics by the end of my 4th year of school.  I’m far enough into that program I finally was able to understand what I had done.  The bright spot is that I have many connections which will most likely allow me to make around 70k after graduation in a relatively low-cost city.

I never knew what I was really getting into, I thought this was how it was for everyone.  My family can provide very little help to me and my options after college are seemingly bleak due to the amount of debt that will weigh me down.

I want to start paying off as early as now to try and lower the burden post graduation as I do not want to deal with this for the rest of my life.

What should I start doing and plan on doing moving forward?

Thanks,

Paul

A Few Observations

Looking at a total of 76k in student loans after two years is very concerning.  However, there are several aspects of Paul’s email that I really like… things that he should make sure he continues to do.

First, he recognizes the issue that this debt will be for him in the future.  Far too many college students treat student loans like a money tree with funds for whatever they need.

I’m also really encouraged by the decisions Paul has made while in school.  The things that are in his control, he is doing very well.  He has a double major in two very employable fields.  This is a smart decision and one that will pay off handsomely.  Further, he is taking the necessary steps to set himself up for a good job, already building his network and getting a 4.0 GPA.

Finally, he has taken the steps necessary to minimize further borrowing, tracking down more scholarships and grants to dramatically reduce the cost of school.

The Plan

Normally I suggest that college students pay the interest on all of their student loans during school.  As loans rack up, those monthly interest payments go up, and it is a monthly reminder to be frugal in school.  For Paul, I don’t think that is the appropriate recommendation.  He clearly understands the debt that he is in and my suggestion for him will differ accordingly.

Step 1: Finish School Strong – Paul is off to an excellent start.  We already discussed the smart decisions he has made, but the most important thing is that he follows through.  All the work he has done counts for nothing until he finishes his degrees.  As an economics major, Paul certainly understands the concept of sunk cost.  He cannot undo his previous student loan spending, so the smart route is likely to just finish school running up as little new debt as possible.

Step 2: Attack the High Interest Debt – This is where my suggestions to Paul are a little different than the average college student.  He doesn’t need a reminder about the seriousness of his debt, he needs to attack it as aggressively as possible.  In school, there are no minimum payments on your student loans.  This means you can direct 100% of your payments to your highest interest debt.  Paul is looking at 66k in private loans already.  He should identify the highest interest loan and start attacking that loan first.  Once that loan is paid off, move on to the next highest interest rate private loan.

Step 3: Leave the Federal Debt for Last – Once Paul graduates he will quickly find that there is a lot more flexibility with federal loans than there are with private loans.  Having this flexibility is a huge asset as you enter the workforce.  Once he graduates and has a job, he can revisit the federal loan strategy, but in school, federal loans are almost always preferable to private loans.

Step 4: Repayment – After completing school and finding a job, it will be time for Paul to put together his repayment plan.  At that time is when he will need to look closely at repayment plans, forgiveness programs, and consolidation options.  Hopefully the work he does now will make this step as easy as possible.

The Goal

As Paul progresses through the next two years of his education, in addition to minimizing how much new debt he borrows, he should look to be lowering his interest rates and minimizing the percentage of private debt that he incurs.