How to Choose the Best Student Loan Repayment Plan for YOU
In today's episode, we will be discussing student loan repayment options, with a particular focus on the newest income-driven repayment plan - the Saving on a Valuable Education (better known as the SAVE) Plan. This is a topic that matters most to students and graduates of all generations that have student loan debt.
Student loans are a common path to higher education, but they can also be a financial challenge. Graduates often face a tough decision: how to manage their student loan debt. Student loans can be a hefty financial burden for many graduates. Figuring out how to manage student loan debt is a challenge that we've all encountered. It's essential for graduates to be aware of their options when it comes to repaying student loans.
Income-Driven Repayment (IDR) Plans are a lifeline for many graduates. Income-Driven Repayment Plans are federal student loan repayment programs that base your monthly payments on your income and family size. These federal programs offer flexibility for borrowers with varying financial circumstances, and makes student loan payments more manageable for those with lower income.
The Department of Education has historically offered three (3) IDR plans:
Pay As You Earn (PAYE) Repayment Plan
Income-Based Repayment (IBR) Plan
Income-Contingent Repayment (ICR) Plan
The PAYE Plan is generally 10 percent of your discretionary income, but never more than the 10-year Standard Repayment Plan amount, with a 20 year repayment period.
The IBR Plan is generally 10 percent of your discretionary income, but never more than the 10-year Standard Repayment Plan amount IF your loans were taken out on or after July 1, 2014, with a 20 year repayment period. If your loans were taken out BEFORE July 1, 2014 then your student loan payment is generally 15 percent of your discretionary income, but never more than the 10-year Standard Repayment Plan amount, over a 25 year repayment period.
The ICR Plan is the lesser of 20 percent of your discretionary income or what you would pay on a repayment plan with a fixed payment over the course of 12 years, adjusted according to your income. ICR Plans are very complex repayment plans, and honestly are the least favorable. They have a 25 year repayment period.
Introduction to the SAVE Plan
The fourth and newest addition to the IDR plans is the Saving on a Valuable Education better known as the SAVE Plan. The SAVE Plan is the most recent addition to the family of IDR plans. It's designed to offer enhanced flexibility and affordability in student loan repayment. The SAVE Plan brings unique features that set it apart. It caps monthly payments at 10% of your discretionary income, making it a more budget-friendly option for borrowers.
Let ‘s take a step back to ensure you understand what discretionary income means and what it represents. In personal finance terms, Discretionary Income refers to the money you have available to spend or save after covering your essential expenses, such as housing, utilities, groceries, and transportation. It's the income that remains at your discretion, allowing you to make choices about how you allocate it. Discretionary income is an important concept in personal finance and budgeting because it reflects your financial flexibility and the capacity to make choices beyond meeting your essential needs.
However, the Department of Education gives a more explicit meaning of discretionary income when considering income thresholds for repayment amounts under these federal program repayment plans. For student loan repayment option purposes, Discretionary income is the difference between your adjusted gross income (AGI) based on your most recent 1040 tax return and 225% of the U.S. Department of Health and Human Services Poverty Guideline amount for your family size. These amounts are defined in a table posted by HHS but in essence, your adjusted gross income must fall within $0 to roughly no more than $70K.
Because under the SAVE Plan your required monthly payment is a percentage of your discretionary income (which is your AGI minus a certain percentage of the poverty guideline amount), your payment will be $0 if your discretionary income is $0. For example, 225% of the Poverty Guideline amount for a family size of one (in the 48 contiguous states) is $32,800, which means that if your annual income is equal to or less than $32,800 and your family size is just yourself, your discretionary income is $0 and your monthly payment will be $0. The same is true for a family size of four with an annual income of $67,500 or less.
Key Features of the SAVE Plan
The features of the SAVE Plan are seen as more favorable terms for borrowers since monthly payments are capped at 10% of their discretionary income, potentially making them even more affordable than other IDR plans. Now beginning in 2024, this cap will be lowered to 5% of discretionary for undergraduate loans on the SAVE Plan. I’ll talk more about this in future episodes but for now let’s talk about how to be eligible for the current SAVE plan that is in effect now.
To be eligible, you need to have at least one Direct Loan or a Federal Family Education Loan (FFEL) that was consolidated into a Direct Loan. Applying for the SAVE Plan is straightforward; you can do it online through the Federal Student Aid website. However, it is important to emphasize that defaulted loans are not eligible for repayment under any of the income-driven repayment plans. Therefore, to be eligible any IDR plan you must first ensure your eligible loan types are not in defaulted status.
As with any financial decision, there are pros and cons to consider when choosing the SAVE Plan. The SAVE Plan is particularly beneficial for borrowers with lower incomes and high debt loads. It offers more affordable monthly payments and loan forgiveness after 20 years (or 25 years for graduate loans). However, the longer loan term may result in more overall interest paid.
Loan forgiveness is a significant aspect of IDR plans. While loan forgiveness is an enticing aspect of income-driven plans, including the SAVE Plan, there are tax implications to be aware of when your loans are forgiven. Under the SAVE Plan, after 20 or 25 years of consistent payments, your remaining loan balance is forgiven. However, the IRS may consider the forgiven amount as taxable income to you, which can increase your tax liability or lower your anticipated tax refund when you file your Individual Income Tax Returns for the respective tax year when the debts were forgiven.
How to Make an Informed Decision
In this space, we always advocate for making well-informed decisions about your financial decisions, including student loans, because of its vitality. Some advice I can share with our readers who are considering the SAVE Plan or other IDR options are:
#1 - It's essential to consider your financial situation and future goals before finalizing your decision on applying for this new IDR plan. While the SAVE Plan can provide relief for many borrowers, it may not be the best choice for everyone.
#2 - Be sure to weigh the pros and cons and, if needed, consult a financial advisor or student loan expert to make an informed decision.
If you are a graduate (whether recent or seasoned) with student loans, and you’re wondering what are some steps that you can take to prepare for loan repayment, regardless of the plan you choose, listen closely.
There are crucial steps graduates can take to prepare for loan repayment, regardless of the plan they choose. Graduates should start by understanding their loan terms and setting a budget that includes student loan payments. Educate yourself by visiting the websites of authoritative sources like studentaid.gov, ed.gov, or studentloanborrowerassistance.org. Once your repayment starts, consider enrolling in automatic payments to avoid missing due dates. Remember that defaulted loans will disqualify you from being eligible for the benefits within these various plan options or other federal programs. Ensuring your payments are made on-time consistently will keep your student loans out of default status. And lastly, always consider exploring opportunities for loan forgiveness through public service or other employment-related programs.
The student loan journey is a significant part of many lives, and that is why DDTV and Money Talks, Leaders Listen are here to help you navigate it. Making the right choices regarding your student loans can substantially impact your financial future. So, shedding light on the Saving on a Valuable Education (SAVE) Plan and the world of income-driven repayment options helps you to be in a position where you can make suitable decisions that will serve you most. Take the time to explore your options, consult experts when needed, and, most importantly, take action!
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