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Sherpa Mailbag: IBR, AGI, and Keeping Payments Low

Michael Lux Blog, Mailbag, Student Loans 0 Comments

Today in the Sherpa Mailbag, we take a look at a question from David who brought a bunch of debt to his marriage and wants to limit the cost of repayment.  If you have questions about your student loans, send us an email and get them answered.

David writes:

Hi,

Question Regarding Adjusted Gross Income on the Income Based Repayment (IBR) option: If I want to keep my student loan debt separate from my wife, can I still qualify for this IBR option based just on just my income? We each make about the same annually. But I brought in a lot more debt to the marriage and I’m trying to keep her out of it. What if we filed income taxes as married separately? I do realize we would lose a lot of deductions (child credit etc..) but would that keep her out of the calculation and still allow me to be in IBR and PSLF (public service loan forgiveness)? Thanks for any advice.

Best,

David

IBR Calculations

David is asking exactly the right questions and considering the right factors.  Unlike REPAYE, married couples are able to file their taxes separately in order to avoid spousal income being used in payment calculations.  Even though REPAYE only requires 10% of your discretionary income, the 15% required under IBR could be a better deal because it only includes one income.

David is also correct in noting that the IBR calculation uses his Adjusted Gross Income from his most recent tax return.  That means if he and his wife file their taxes separately, they should try to put as many of the above the line deductions on his tax return as possible.  Example: If as a couple you put aside $10,000 each year towards retirement, it would be best to contribute to David’s 401k because it would lower his AGI by $10,000.

[Further Reading: Reducing AGI for lower student loan payments]

Picking a plan

The math on this one gets a little tricky, so we will try to break it down as simply as possible.  Basically, there are two options, file jointly and file separately.  Do the math on the cost and the savings for each route and decide which costs the least.

Option 1: File Separately – The big advantage here is that the wife’s income will not be included in the monthly payment calculation on IBR.  The extra cost comes from the fact that filing taxes separately means a bigger bill to the IRS in April.  Also, be sure to check into your state taxes to see if they will also increase.

Option 2: File Jointly – In addition to the tax savings previously discussed, David can also enroll in the Revised Pay As You Earn Plan (REPAYE).  Unlike IBR, REPAYE will include spousal income no matter how your taxes are filed, so you might as well save the money and file jointly.  This means David and his wife will be paying 10% of their combined discretionary income towards David’s student loans.

In the end it is tax savings vs. student loan cost.  Because this can change as your financial circumstances change, it is important to revisit this issue from time to time.

A Warning

One thing to keep in mind here is that this discussion focused on a very specific question of AGI, IBR and spousal income.  This analysis requires a number of assumptions.  As an example, we assume that David has everything in order for Public Service Student Loan Forgiveness.  We also assume that David’s wife does not have any federal debt.  If they both had loans, the analysis would be much different.  Before making a decision of this nature, it is critical to understand all of the repayment plans offered.  Once you know your options and the costs, you can do the math.