When you start your own small-firm practice, you most likely placed student loans last in your priorities. Money was tight so you probably placed them on deferral status or paid the minimums with the hope of getting back on track when your financial situation improved.
But I have talked to people whose practice has grown yet are reluctant to pay off their student loan debts as soon as possible. Some have to use the money to pay expenses or expand their practice. But I have heard other reasons why they are reluctant to pay them off and I am not sure whether their reasoning is correct.
Here is a refutation of some of the common reasons why people don’t want to pay them off and the reasons why they could be wrong.
I need to save for retirement.Fair enough. Everyone should have a plan to save for retirement. The problem is if you only paid the minimums or deferred your payments over the years, you may put yourself in a situation where most of your pension payments will go towards your still existing student loan debts.
Investing will provide a better rate of return.There are all kinds of investment ventures with varying degrees of risk and reward. You may have went to a financial advisor’s presentation where if you put $100 per month into a mutual fund, you will get a likely return of 7%. Or you and a few buddies want to pool money to flip real estate or cryptocurrencies.
First, keep in mind that most investments do not have fixed rates of returns. The rates advertised by these financial planners are assumptions not guarantees. It could be higher or lower.
Second, any investment gains may be subject to income taxes. So after taxes, that advertised 7% will probably be more like 4-6% depending on your tax bracket.
Finally, there is always a risk of loss. It could be due to a market downturn. Cryptocurrencies will no longer be the flavor of the week, especially if the SEC and the IRS issue strict regulations because they believe they are mostly being used to defraud investors, evade taxes, and fund terrorists. And of course, you may have given your money to someone who will soon disappear.
If you were to use that same investment money to pay down your student loans more aggressively, hopefully the money would pay down the principal balance. This means lower accrued interest and less likelihood of interest being capitalized into principal. Finally, you don’t pay income taxes on paying less interest.
In light of the above, paying down your student loans can be an investment that provides a greater rate of return. If you plan to attend an investment seminar, you may also want to go to a fraud seminar the next day.
Buying a house. Some people can’t afford to buy a house because of their student loans. They can’t afford to pay the mortgage and stick to the 20 year repayment plan. Or they cannot save for a down payment.
Some have suggested to purchase a house and live there for a minimum of two years. During that time, the value of the house is assumed to increase. Then sell the house and the profit can be used to pay off the student loan balance.
For a while, I thought this was a prudent idea. But from my experience, I don’t know anyone who has done this yet. I think there are two reasons for this. When most people buy a house, they plan to stay there for a very long time because they will establish their practice in the area and send their kids to school in the district. And when they sell the house, if they want to realize a profit, they can’t just move to the comparable house next door because the home values will be almost identical. They will have to relocate to a smaller house or to a less desirable location which almost no one wants to do.
While I don’t discourage buying a house, you should buy one for the right reasons and be mindful of the costs and responsibilities of home ownership. No one will care about where you live after a few months.
Hyperinflation. Some people think that paying the minimums could be advantageous because in a few years, inflation will reduce the value of the dollar. This means that prices will go up. Correspondingly, the minimum wage and salaries will eventually increase. Meanwhile, the loan payment amounts will remain the same. This usually means that they will have more money which makes it easier to pay down their loans.
Most people in the tail end of their 30-year mortgages understand this as their payments are under $1,000. Back when their mortgages started, one thousand dollars could have bought a new car.
The problem with this idea is that the U.S.’s inflation rate has generally been very low and the government takes steps to keep it that way. So it may be a decade or two before that $1,000 payment feels like a $100.
YOLO and FOMO.As you get older, things get taken from you. Your energy. Your looks. Your earning capacity. And sooner or later, your health. Not only that, doing certain things are not as fun when you are older. And when you have a family, that also limits what you can do.
With that, the internet created two life coach memes: You Only Live Once (YOLO). And with that, there is the Fear Of Missing Out (FOMO). The message is to do as much as possible while you are able. So I see people posting their travel pics or the new toy they bought on social media with the tags #yolo and #fomo.
While this is a good point, all of this costs money and you may wonder later in life why you spent it in the way you did. I’m sure we have heard stories where people regret purchasing things they really didn’t need that later depreciated in value. And we have heard of marriages collapsing because one or both spouses were financially irresponsible.
So while you only live once, it’s not a wise idea to be living paycheck to paycheck. Or for small-firm owners, waiting for the next client. You’ll be missing out on peace of mind.
For small-firm owners, it’s important to try to pay off your student loans as soon as possible. Paying the bare minimums for years can mean financial trouble.
This article provided by NewsEdge.