We recently received a message from a reader who finds himself in a position that many student loan borrowers end up. He and his wife can afford their monthly payments… but barely. He writes:
Hi – This message is actually for my wife’s student loans which total about $148K with $129K being held by Mohela. This is our biggest expense every month and it seems that we are at a stand still in life until we pay this off but even with paying $2K+ a month, we are barely making a dent. The Mohela loans have fixed rates from 4.5-6.8%. My wife isn’t making barely enough to cover the loans on a monthly basis and we don’t save any money due to the fact that everything we make goes towards our housing and loans and there is barely enough money for groceries, bills, etc. The Mohela loans, some of them have a payoff date in 2020, my wife started paying in 2009, and there are 2 loans with a 2035 payoff date. I lowered my 401K contribution at work to get more money to payoff the loans, I know this is borrowing from the future to pay off this debt. My wife is also 1099 so 401K is something that she doesn’t have by default, so repeating myself, anything my wife makes goes towards her loans.
I’d like to know what consolidation options exist out there to lower the interest on the Mohela loan so that we can make a bigger impact on her loans quicker. We now have a 2 month old daughter and I’d like to save as much as possible for her future, mostly so she is not in the situation my wife is in and by default me. I’ve looked at SoFi and Charter One. I want to get this burden out of my life asap but also I want to live a life where we’re not penny pinching constantly. We have friends that are doing great things and just feel like this anchor holding us back in life. Please help with any ideas!
The Easy Solution
One detail not mentioned in this email is whether or not these loans are federal or private loans. If the 129k in loans with Mohela are federal loans, you are in luck. Having your wife sign up for an repayment plan based upon income, such as Pay As You Earn (PAYE) or Income-Based Repayment (IBR) can give you the breathing room you need.
Most federal loans start out on the 10-year repayment plan, but this is the plan that results in the highest monthly payment. If you switch to IBR or PAYE, your monthly payments will be reduced to 10 to 15% of your discretionary income. The downside is that your balance could actually grow rather than shrink depending upon your income, interest rate, and amount of debt. The upside is that there are student loan forgiveness programs that kick in after 20 to 25 years, or as soon as 10 years if you are in public service.
Even if you think you can afford to pay more than 10 to 15% of your income towards the loan, it may still be a good idea to get the lower payments. You can use the extra money to attack just one loan, and you have the flexibility to pay less if the budget is tight that particular month.
If your loans are private loans not eligible for PAYE or IBR, things get much trickier. The consolidation options could potentially help your interest rates, but given how tight you describe your budget, odds are pretty good that getting approved for refinancing will be difficult.
When it comes to tight budgets, often the best approach is to be smart about picking a single loan to attack. Some people like to attack their highest interest rate loans, while others choose the one with the lowest balance. The key is to use every extra penny you have to eliminate that one loan. Once that loan is paid off, you free up some extra money each month and you can now use that money, plus any extra money you have to attack the next loan. One by one your loans fall like dominos, with each eliminated loan meaning more money freed up each month, and more money to attack the next loan.
A Final Thought
I’d be careful when it comes to lowering 401k contributions to pay off student loans. In some cases it is necessary, but there are many things to consider when trying to decide between paying student loans and saving for retirement.