Best Practices When Paying Off School Debt

Taking on school debt can be a smart investment to increase your future earning potential. However, today's undergraduate debt levels are approaching the six figure level on par with  professional degree programs (i.e. doctors) of a generation ago; but without the same earning potential. That amount of debt can severely hamper any graduate’s immediate career path and personal life as well as long-term goals. Nevertheless, cutting out debt while maintaining a standard of living you've worked hard for (and feel you now deserve) can be tough. Balancing paying off school debt with your other goals may feel overwhelming, but here are five strategies to consider:

Step 1: Take Your Time When It Comes To Big Purchases 

 Once you graduate and start making a good paycheck, it can be tempting to immediately start considering big purchases. Whether you are evaluating buying a car, buying a home, or making some other big investment outside of your career, the best strategy might be to wait. When you’re just a year or two post-graduation, it may not be the best time to make such big purchases as it could leave you taking on too much, too soon.

Step 2. Don't Throw All Your Cash at Your Debt

 This may seem counter-intuitive, but don't throw every last cent from your paycheck towards paying your loans off early. It's always important to keep some cash on hand in an emergency fund, to cover unexpected events like car repairs or health expenses. You don't want to turn relatively inexpensive student loan debt into credit card debt because you had no cash savings to cover an emergency.

Next, think about other goals you have, such as buying a home or getting married. Again, not keeping extra cash to cover these expenses could lead to you feeling pressured to take out new debt at a higher rate.

Step 3. Consider Refinancing 

You can often accelerate the re-payment process by refinancing your loans. Refinancing student loans into a new loan product with a lower interest rate and better terms can help you save money on interest over the long haul. This is especially true with private student loans since rates tend to be competitive and can change over time, so if you have a private loan you'll especially want to look into this option.

On the flip side, if you have a federal student loans and refinance with private lender, you might run into issues where you then miss out on certain federal perks and protections, including income-driven repayment, deferment, or forbearance.

Step 4. Avoid Lifestyle Creep

Lifestyle creep is the gradual increase of your spending as your wage increases. For some, who have been in school and living on student wages for many years, it might feel less like lifestyle creep and more like a lifestyle explosion when you finally start making a good paycheck. If you can stand forgoing the expensive car or new house for a few years, you could pay down a substantial amount of debt with the money you might otherwise spend on those items. Reducing lifestyle creep is about making trade-offs so that you can save more (and in this case, pay down more debt).

It's a good idea to create a budget based on your fixed salary. Treat any signing bonuses, annual bonuses, or overtime compensation as an unexpected windfall. Prioritize building an emergency fund, mid-term savings goals, maxing out your retirement accounts, and paying down your student loans. Once those goals are met, you can treat yourself a little for your hard work.

Step 5. Pay Off Higher Interest Student Loans First

There is no benefit to paying off smaller student loans first, and most of the time you'll only have one monthly payment even with multiple loans. Pay off the highest interest rate loans first to pay less in interest over time.

When you're doing this, watch how your payments are applied. If you set a monthly automatic payment higher than the minimum, it may be divided between all of your loans. The same thing applies if you make an extra payment without specifying the loan it should go towards. If you pay online, there should be an option to select the specific loan you want to make a payment on.

Many lenders offer a reduction in your loan's interest rate if you sign up for automatic payments, which in itself is reason enough to enroll, since a lower interest rate means less of your payment goes toward interest over time, saving you money.

However, signing up for automatically debited payments can have another great benefit: it can take some of the stress out of repaying your student loans. By setting up automatic bank drafts, you can rest assured your loan payment is taken care of and you won’t face late fees or penalties.