Income Contingent Student Loan Repayment

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Income Contingent Student Loan Repayment

Income-driven repayment is a huge benefit of the federal student loan system. Unfortunately, it’s confusing to know which plan to choose. It can be even more confusing if you have drastic changes in income during your career that can affect how your income-based refund is calculated.

Should I Use A Student Loan Repayment Program?

When you graduate, your federal loans are put into the standard 10-year repayment plan. This program knocks out your loans in the shortest time possible. The problem is, if you’ve borrowed anything larger than a dollar or so, your monthly payment tends to be very high.

So, starting in the early 1990s, the Ministry of Education introduced income-driven repayment (IDR) schemes; The first of these was the ICR program of income dependent repayment, which was not the largest. Today, there are four IDR programs to choose from, including Pay As You Earn (PAYE), Saving on a Valuable Education (SAVE), formerly called REPAYE, Income-Based Repayment (IBR), and ICR.

President Biden’s Department of Education released the details of his new SAVE program with much more generous repayment terms and opportunities for student loan forgiveness.

We’ll walk you through some real examples of how to choose the right student loan repayment plan. You can also learn how your payment will change as your income changes using Student Loan Planner’s free repayment calculator. It’s the best around. Let’s start with some basics you need to know before you enter numbers into a calculator.

Pdf] Advantages And Disadvantages Of Student Loans Repayment Patterns

Some student loan borrowers think of “income” as their total pay, while some borrowers think of “income” as what hits their bank account. In the world of student loans, there’s only one definition of income that matters—your AGI adjusted gross income.

This is a specific number on your tax return. In fact, if you dig up your 2022 tax return, it’s line 11 on your Form 1040.

How are refund amounts calculated according to income? It depends on which IDR plan you choose, but there is a general income-based repayment formula calculation that you can start with.

1. Start with your AGI. Then, deduct 150% of the federal poverty guideline level for your family size (the new SAVE program will allow you to deduct 225%). This is your discretionary income in the world of student loans.

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2. Once you know your discretionary income, multiply by 10% for SAVE or PAYE, or 15% for IBR. Only undergraduate borrowers can double by 5% if they are in SAVE.

Bonus, our free student loan calculator does all that complicated math for you. I know some readers like to freak out like we do, but it’s all done by the calculator, so all you really need to know is your income.

Now that we know how income is defined, and how the income-based return is calculated, let’s look at some examples.

Let’s say you leave your MBA with $125,000 in federal student loan debt, and you start working at the lower end of the spectrum to “learn the ropes.” You expect to earn about $60,000 a year, but expect your salary to grow rapidly—about 7% a year—over the next 10 years.

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You’re currently single for simplicity (but we’ll look at a married example later). Here’s how your income grows, and your options for student loan payments.

When you graduate you will automatically be placed in the standard 10 year, monthly student loan payment of $1,388 per month. It’s painful for a new professional starting out with a salary of $60,000.

If you use a 4% interest rate over a 20-year repayment period, you could pay $757 per month by refinancing. You’ll need to qualify for a refinance rate as low as 4%, so you’ll need good credit or a partner.

The best income-based options are REPAYE, PAYE or IBR. REPAYE and PAYE are both 10% of your discretionary income, compared to IBR which is 15% of your discretionary income. We will go with PAYEpayment for this scenario. Paying $339 a month is a lot more manageable than $1,388.

Icr: Income Contingent Student Loan Repayment

As you see as your income increases, whether that increase is 1% per year or 7% per year, your monthly PAYE payment increases gradually.

In terms of the total cost of repaying the loan, the standard 10-year plan is the best option, but remember the monthly payment? That’s $1,388 a month. Ugh.

Under the PAYE scenario, you’ll start with lower monthly payments of $339 per month, and end up spending $178,121 to repay your student loans. You would need to save about $100 a month in a taxable brokerage account to save for the tax bomb of about $38,000 over the life of the loan (20-year repayment period).

If we look at today’s dollars, or net present value (NPV), PAYE is the winner, but it is very close to the total NPV in a refinance. That’s why repaying loans from your MBA can be tricky.

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Realizing that you may be paying between $165,000 and $275,000 on $125,000 of student loan debt, you should consider paying it back aggressively to avoid as much interest as possible, but there is an argument for PAYE and private financing in this case.

For future analysis, once Biden’s IDR regulations are in place, the analysis for tiered borrowers will be whether to pay for 20 years on PAYE / New IBR or 25 years on REPAYE / SAVE.

In this scenario, our recent MBA graduate marries a sister who earns $75,000 per year in 2025. They decide to file their taxes jointly. This significantly changes the scenario of our MBA borrower.

Note that 10-year private student loan refinancing results remain the same, but all three income-driven repayment options change drastically. For example, in 2026 under PAYE, our MBA borrower’s payment jumps from $367 to $1,028 by adding the spouse’s income.

How The New Save Plan Impacts Student Loan Planning

PAYE is now the worst case scenario. The loans are retired until 2039, but refinancing to a lower interest rate and paying over 20 years is the best option in terms of today’s dollars.

This scenario is a great case for filing taxes separately. If you file separately, you may exclude your spouse’s income from calculating your loan payment. It’s not for everyone, and you could lose some benefits like:

In our final scenario, let’s shift gears and look at how the income-based return is calculated with a drastic increase in income.

A doctor finishes his residency or fellowship, where his annual income will go from about $50,000 to $225,000 a year. They work at a non-profit hospital and got married in 2021. This borrower plans to have children starting in 2025.

Income Contingent Repayment Student Loan Ppt Powerpoint Presentation Infographic Cpb

As you can see, since we are talking about income-driven repayment plans, the higher the income, the higher the payment. The standard 10-year plan would require a monthly payment of $4,441 based on the student loan balance of $400,000.

A private refinance is better at around $2,424, but IDR alleviates some of that burden, especially if that particular doctor works at a non-profit hospital.

Even if this couple decide to keep their tax situation simple and file jointly, our doctor still comes out on top because of Public Service Loan Forgiveness (PSLF).

Specifically, working for a non-profit hospital through residency, fellowship and a few years out of fellowship can save a doctor over $300,000 compared to their next best option – the standard 10-year payment plan with that horrible $4,000+ copay.

Student Loan Repayment Statistics

Does it feel completely overwhelming? It’s really complicated, and that’s why we’re here for you. Schedule a consultation with us and we will review your personal circumstances. A personalized student loan program can take a big weight off your shoulders.

Take our 11-question quiz to get a personalized 2023 recommendation on whether you should pursue PSLF, Biden’s new IDR program, or refinance (including the one lender we think can give you the best rate).

Molly Laughter is a CFA® Charterholder, CFP® and Certified Student Loan Professional (CSLP®) who has been consulting with Student Loan Planner since 2021. She is passionate about the complexities of student loans since her experience after completing her MBA. In 2013. Molly is the founder of Laughter Financial. She previously served as a financial planning assistant at SGS Wealth Management and an operations and investment analyst at RGT Wealth Advisors.

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Student Loan Repayment Plans: How To Pick The Best One For You

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