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Debt has become the evil four-letter word of higher education. The average student leaves college with $30,000 in loans, but some grads of pricey schools owe way more.
Paying back those loans is often difficult for new grads, especially on an entry-level salary. But there are ways to make the repayment process go more smoothly than you might expect.
Here are five tips experts suggest to make handling loans easier. Some involve small details and others require major lifestyle overhauls, but all are doable. And there’s little to lose —besides the worry that you won’t be able to make that next payment.
1) Take an Inventory and Create a Budget.
If your expenses exceed your income, you need to take a step back. Certified Financial Planner Donald Haas qualifies excessive debt service—including money for student loans, credit cards, and car payments—as 25% or more of gross annual income. That means a recent graduate earning $50,000 per year shouldn't be paying more than $12,500 annually on loans.
Sometimes, that's impossible. But before you figure out how to manage your payment schedule on your salary, you must write down exactly what you earn and already have banked away, and what you owe. Create a spreadsheet with your net salary and any assets, investments, money in your savings and checking accounts, and anything else that is of value. "Many people say, 'I just can't afford that.' How can you determine that if you don't know what you have?"asks Haas.
After seeing what money you are bringing in, start building a budget. All expected expenditures for the year or month—whichever is easier for you to view—should be listed in another spreadsheet, including rent, food, entertainment, trips, and loan payments.
Now you can start playing around with numbers, seeing where you can cut back, and how much—or little—you'll have to spend on extra items. And remember, living with your parents after graduation is not the worst thing in the world, brown-bagging it and cooking save a significant amount of money, and thinking before pulling out your wallet is a necessity (see BusinessWeek.com, 6/5/06, "Mom? Dad? I'm Home!").
2) Get Rid of High-Interest Debt First.
A large student loan balance is probably scarier than a few thousand dollars worth of credit-card debt, but interest rates for student loans are relatively low, while those on credit cards tend to be much higher. On July 1 the interest rate on Stafford loans for students not yet in the repayment period rises to 6.54%, and 7.14% for students in repayment, unless they consolidate and lock in a lower rate (see BusinessWeek.com, 6/8/06, "Graduating? Time to Look at Your Loans"). Private loans tend to float around the 7% to 8% range. On the other hand, most credit-card interest rates are about 16.5%.
So if you have a little leftover cash one month, pay the minimum student loan payment but use the extra bit to pay off credit-card debt.
3) Don't Ignore Your Loans While in School
If your parents took care of your loan applications, you might be unpleasantly surprised when you graduate and the bills start arriving. Don't let that happen. Talk to your parents about exactly how much you're going to owe after college and what—if any—part of those payments your parents will make.
If it's too difficult to have a part-time job while school is in session, just focus on your studies. But be prepared to be employed over summer break. If you make enough money, you can make interest payments while in school. That cuts down on the nut you have to pay back when you graduate.
"It's better for you financially if you pay all along. There's an option that allows parents to defer payment until the student graduates, but generally that balloons the size of the loan," says Mark Kantrowitz, publisher of FinAid.org and author of FastWeb's College Gold, a book about paying for school.
If you can't afford interest payments while still in school, put your hard-earned cash into a savings account to use for loan repayments or other expenses after college.
4) Take Advantage of All Lenders' Benefits.
Most lenders offer perks to borrowers, but many recent alumni are unaware that they exist. Companies like Sallie Mae (SLM), MyRichUncle, Nelnet (NNI), Citibank (C), and Student Loan Xpress (CIT) offer quarter-percent interest-rate reduction for eligible borrowers who pay through auto debit. Besides saving on interest, auto debit is a way to make sure payments are made on time, says Vishal Garg, chief financial officer and co-founder of MyRichUncle.
Other lenders give discounts if on-time payments are made for a consecutive number of months, usually 36 or 48. However, if you miss even one of your payments, the privilege can be revoked. Students should also be wary of fees to consolidate loans. With a new law in place, students with federal loans can shop around for a consolidation lender instead of having to stick with the one they took a loan out with. This allows for more flexibility but also the need to examine options carefully. Only some companies that offer private loans allow consolidation.
5) Look at Repayment Options.
If you consolidate, you have the option to extend the loan repayment period, often up to 30 years instead of the standard 10. This will decrease monthly payments but increase overall interest paid. "Borrowers should be careful. A lot of lenders are encouraging—or not discouraging—students to view extended repayments because there's a bigger balance and more profit for them," says Kantrowitz of FinAid.org.
Jean Main, director of student financial aid services at the University of Connecticut, suggests students examine benefits closely, especially when it comes to consolidation. "You have to make sure you take actions required to get the benefits," says Main. "Be cautious about immediate benefits vs benefits down the road."
Borrowers should only extend their repayment period if absolutely necessary. The maximum you can cut your payments is in half, so the decrease can be significant for some borrowers, especially if money owed far outweighs money earned. Still, remember that you’ll be paying more in the long run.
If you decide against an extended repayment plan on your federal loans, you can opt for the standard repayment plan—where you pay the same monthly rate for up to 10 years—or the graduated plan—which starts with smaller payments that slowly increase. Students who can prove they are in extreme need and have economic hardship can qualify for the income contingent plan. They are given 25 years to pay back whatever portion they can, and after that period, unpaid debt is erased. However, qualifying for such loan forgiveness is difficult.
No matter how you look at it, you'll be feeling the weight of a four-year education for more than four years. But if you're smart about repayment, you won't still be thinking about your school costs when your children enter college.
Gordon is a reporter for BusinessWeek.com in New York
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