You've invested a lot of time and money into your education. We hope that your education has turned into a job that provides a decent income and the ability to pay back your student loans early – but should you pay off your student loans early just because you can?
You would certainly save a substantial amount of money in interest charges by paying off your loan ahead of schedule. However, it may be best to stick to your scheduled student loan payment for a number of reasons, including the five below.
1. Lack of Savings – Your first priority for any excess cash probably should be establishing an emergency fund. What happens if you focus on paying down your debt and you lose your job? What if you have an unplanned medical emergency? Try to build up an emergency fund of 3-6 months of income to cushion any blow before making any large-scale efforts against your student loan obligations.
2. Interest Rates – Student loan interest rates, especially for older loans, can be low compared to the rate on some of your other existing debts. Generally, you can save more in total interest charges by attacking higher-interest rate debt first. Start by eliminating any credit card debt, which is usually the highest interest rate debt that people have at any point in time.
3. Saving for Retirement – You haven't been working long, so why should you be concerned about retirement? By starting to save for retirement early, you maximize the advantage of compounding. At this point in your career, the positive effects of paying off student loan debt may propagate over 10-20 years while the positive effects of making retirement contributions should be felt for 30-40 years.
If your workplace has a 401(k) program with matching funds, at the very least you should contribute to that 401(k) up to the matching percentage. Otherwise, you are essentially rejecting free money.
4. Future Debt Obligations – Are you planning an addition to your family or are you already expecting one? Is there a home purchase in your near future? You will need plenty of extra money to devote to major life expenses like these. Even smaller expenses can add up before you realize it.
We suggest setting up both a short-term and long-term budget. Short-term budgeting is essential for you to keep track of monthly expenses, but long-term budgeting allows you to make the most efficient use of your money by adjusting your short-term budget to stay in line with your longer-term goals. If you find your dream home, you'll want to have the down-payment money available to take advantage of it.
5. Better Investment Options – Paying down debt is usually the best course of action – but not always. If your student loan debt has a relatively low interest rate, you may be better off making your expected payment and investing any excess in equities that allow for greater growth (assuming you have already built up an emergency fund and started contributing to a retirement program).
Every case is different. It may make more sense for you to pay down your loan early while it's best for your college friends to pay theirs off over a longer timeframe. In either case, there's one rule you must follow – don't try to avoid paying off your student loans at all. They may not be able to repossess your brain, but by the time bill collectors and other creditors are through with you, you might wish they had.
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