You graduated from college, got yourself an entry-level gig, and worked hard to earn a promotion. It came with a lot more work, but it also came with a nice raise. Great! You can now finally move out of your parents’ basement, upgrade your wardrobe, and pay off your student loans.
At least, that’s the dream for a lot of college grads. Nobody like owing money to Sallie Mae (or Navient, or whatever she calls herself these days), and once they start making “real” money they promise themselves that they will pay off the loans once and for all.
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But not everyone stops to ask themselves an important question: Should you do it? Should you pay off your student loans as quickly as possible, or simply allow them to run their natural course?
There isn’t an easy, one-size-fits-all answer to that question: It depends largely on your own short- and long-term financial goals. To help you decide what’s right for you, here are some pros and cons of paying off your student loans for you to consider.
Pros of Paying Off Your Student Loans Early
Let’s start the list off with what is obviously the most important advantage of paying off your student loans early: You can save yourself a lot of money in the form of interest that you would otherwise be forking over to your loan servicer each month.
If you have a loan with an interest rate of 6.8 percent, paying it off would essentially constitute a 6.8 percent return on capital, which isn’t too shabby when you really think about it (and is certainly better than a loss!). And better yet, that return is guaranteed. That means a lot to some people who were traumatized by the 2008-09 financial crisis.
Paying off your student loans also frees up money that you can use each month for your basic expenses (rent, utilities, food, vacation) and for your long-term goals, such as saving up for a down payment on a home, investing for retirement, building an emergency fund. That extra bit of cash cushion each month can go a long way in making life more comfortable.
Paying off your student loans also lowers your debt-to-income ratio, which can help make you more attractive to lenders when you apply for a mortgage or car loan.
And let’s not forget the peace of mind that comes with paying off any debt. Knowing that you no longer owe money to someone (whether it is a friend, family member, credit card company, or Sallie Mae), can be incredibly freeing, and it can significantly reduce stress levels, particularly if you have a volatile career or fear losing your job. That might not seem like a lot, but if you ever lose your job, having one fewer debt to worry about will take a huge burden off of your shoulders.
Cons of Paying Off Your Student Loans Early
If your goal is to save (or make) the most money possible, paying off your student loans early might not be the best way to go about doing it. Let’s say that you’ve got a student loan with a low interest rate of, I don’t know, 4 percent. If you paid it off in full, you would effectively be earning yourself a 4 percent rate of return on your money (since you are no longer losing money to interest).
But if you invest that money instead, over the long term you could reap much higher rewards. From 1928 through 2014, the S&P 500 had a compound rate of return of 9.8 percent. There’s no way of knowing how the stock market is going to behave (you can’t predict future performance based on past returns), but there’s a case to be made that the market trends up. And if it continues to trend up on the path that it’s been on since 1928, investing your extra dough instead of using it to pay off your loans could net you an extra 5.8 percent. If making money is your goal, investing it instead of paying down your debt may be the way to go.
(But like I mentioned above, paying off your student loans equals a guaranteed return; investing does not. You never know how the market is going to behave. You might reap higher rewards by investing, but you also might not.)
Paying off your student loans early may also not be the best move if you neglect other saving to do so. Americans don’t save or invest anywhere near enough money for retirement, so if you are paying off your student loans instead of funding a 401k, you may be setting yourself up for some less-than-stellar golden years.
Paying off your student loans also means that you will be forfeiting the tax deduction that comes with it. In 2016, a student borrower could deduct up to $2,500 from their income tax. Sure, paying off your loans means you’ll likely be saving much more in interest than the deduction was worth, but it’s worth noting nonetheless.
I hate owing money. Absolutely hate it. Owing student loans has been a significant source of stress, personally, since graduating, and I am trying my damnedest to pay my loans off as quickly as possible. There’s just something incredibly freeing knowing that one day I will no longer owe money (and that I’ll have an extra $611 each month to spend as I wish).
But while I am paying back my student loans feverishly, I also know the importance of balancing that desire with other financial goals. I have established an emergency fund that can carry me for 12 months should I lose my job; I invest in a 401k, knowing that I need to save now if I want my money to have an opportunity to grow; and I am saving for an eventual home down payment. Paying off my student loans early is very important to me, but there’s no point in paying them off now if my future self is going to end up debt-ridden or underfunded.
Bringing It All Together
Only you can decide, ultimately, if paying off your student loans is right for you. It depends largely on what your priorities are: Do you want the peace of mind that comes with paying off your debt, or do you want to make as much money as possible? These are all things that you need to consider before diving into any debt repayment strategy.