Should I Pay Off Student Loans

by · 7 comments

The Question…

DFA reader Barb asked:

I am 43 years old and have student loan debt of $17,000 after recently going back for my masters. We have $20,000 saved in a money market account. My husband is 44 and currently has $10,000 in student loans currently in deferment. He will graduate next spring. The minimum payment for my loan is $125/month and the interest rate is 6.4%.

How much of the money market savings (which we use as our emergency fund) should we use to pay off the student loan?

The Answer…

Great question Barb, let’s take a look!

  1. You have a total of $27,000 in student loan debt. Since we don’t know your husbands loan rates we’ll just assume they’re the same as yours – 6.4%.
  2. You have $20,000 saved in a money market account for emergencies; it is probably earning you around 1% interest.

Now we’ll discuss your options as I see them, and I will assume you have no other consumer debt since you didn’t list it.

God Will Provide

If you’re inclined to believe in God and His Word then you can trust what He said:

“Therefore take no thought, saying, What shall we eat? or, What shall we drink? or, Wherewithal shall we be clothed? (For after all these things do the Gentiles seek:) for your heavenly Father knoweth that ye have need of all these things. But seek ye first the kingdom of God, and his righteousness; and all these things shall be added unto you.” Matthew 6:31-33

He promised to provide. When we believe Him he counts it as righteousness.

Emergency Fund

How much should you have saved for emergencies while in debt?

That is the million dollar question, and there is no one correct answer.

A popular strategy is to save only $1,000 and use the rest to pay off debt. Another option is to save enough for 1 – 3 months expenses. Betsy and I chose the latter, but everyone needs to make their own decision based on comfort levels, work situation, etc.

I recommend you go somewhere in the middle.

If your income is somewhat secure, save enough for one month’s expenses (let’s assume that is around $3,000) and use the rest to pay off debt.

This leaves you enough to pay off your student loans while still providing a level of emergency security.

Student Loans

As mentioned above, paying off your student loan frees us the $125 each month.

You now have options.

  1. Continue saving the $125 into the emergency fund.
  2. Take your husbands loans out of deferment and begin paying them off.

I only recommend deferment in desperate situations, so I would like to see you put it toward his loans.

The sooner you begin repayment, the sooner you’re free of the debt.

In Conclusion

Great job saving the money! Now leverage it to work for you by paying off your debt while saving enough for emergencies.


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1 Ellie

I tossed this question around for a few years and finally decided to pay it off when the balance reached half of my emergency fund. Once I reached that point when the numbers aligned, I paid it off. I could not have made a better choice. Since I paid it off, I’ve been using the amount I would have been paying to pay myself back and will be fully refunded by the end of the year.

I sent in my final payment in March 2012!

2 Matt Jabs

Awesome Ellie, very proud of you; and thanks for sharing your insight.

3 Skrpune

The pay debt or have a bigger EF question is one that I’ve pondered myself for quite some time. We used to have a relatively large EF, but in doing the math, we decided to pay off a car loan and a chunk of my student loan. We now have an EF that will cover about 3 months worth of expenses – given that the likelihood of both of us losing our jobs at the same time is relatively low (knock on wood!), and given that we can just reduce expenditures a bit and barely even have to tap into the EF, that 3 month fund is really more like a 6-9 month fund. We’re comfortable with that. I like the idea of being able to pay down debt aggressively while still having something to fall back on should we need it, and I feel better about “losing” less than 1% interest each month in lieu of paying someone else 6%!!

4 Matt Jabs

Thanks for sharing your experience – what you said about interest is really the clincher. Paying off debt is the only SURE investment, by paying it off you earn the rate of that debt every successive month.

5 Meari

I’m in a similar predicament. My student loans are about $11K. I have about 9 months worth of EF saved up (my job situation is very iffy). I have another $9K saved to go towards the student loans (or could be used as EF). What wasn’t taken into account in the article was the tax savings one might get because student loan interest can be taken on the tax return if itemizing. What effect would it have if someone were in a 28% (just an example) tax bracket?

6 Ellie

In my situation, my interest rate was at 3.25, very low. My balance was at $6K I was only paying $300/yr in interest. I figured I could donate $300/yr and still get about the same tax deduction.

7 Matt Jabs

Maintaining debt for a tax break is never a good idea because you assume income will always be there. Always pay off debt if you can, and in you case, you can.

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