How to pay off $ 130,000 in Parent PLUS loans for just $ 33,000
Millennials aren’t the only ones faced with massive amounts of student loan repayments. Many parents take out loans on their behalf to help their children pay for their college education, and in many cases these loans prevent them from achieving their goals, such as retiring.
Under the federal student loan system, parents can take out Parent PLUS loans for their dependent undergraduate students. One of the main differences between Parent PLUS loans and student loans is that there are fewer repayment options available to Parent PLUS borrowers. Parent PLUS loans are only eligible for Standard Repayment Plan, Gradual Repayment Plan, and Extended Repayment Plan.
There are, however, other strategies for managing Parent PLUS debt. Once consolidated into a Direct Consolidation Loan, Parent PLUS loans can become eligible for the Income-Based Repayment Plan (ICR), in which borrowers pay 20% of their discretionary income for up to 25 years.
Currently, IC is the only income-based repayment plan for which Consolidated Loans paying off Parent PLUS Loans are eligible. However, when a parent borrower consolidates two direct consolidation loans together, the parent can potentially qualify for an even better repayment plan and further reduce their monthly payments.
Nate, the high school math teacher
Let’s take a look at Nate, 55, as an example to see how a parent can handle Parent PLUS loans while retiring as hoped.
Nate is a public school teacher who earns $ 60,000 a year and has just remarried Nancy, who is also a teacher. Nate took out $ 130,000 in Direct Parent PLUS loans at an average interest rate of 6% to help Jack and Jill, his two children from a previous marriage, attend the college of their dreams. Nate doesn’t want Nancy to be responsible for these loans if something happens to him, and he’s also worried that he won’t be able to retire in 10 years as he planned!
If Nate tried to pay off his entire loan balance in 10 years under the federal standard repayment plan, his monthly payment would be $ 1,443. Even if he privately refinanced at current historically low rates, his payments would still be around $ 1,200, which is too much for Nate to handle each month. Additionally, since Nate’s federal loans are in his name, they could be released if Nate dies or becomes permanently disabled. Therefore, it is a good idea to keep these loans in the federal system so that Nancy is not responsible for them.
In a case like this, when it is difficult for a federal borrower to pay monthly payments on a standard repayment plan, it is a good idea to see if the loan forgiveness using one of the repayment plans depending on income is an option. In Nate’s case, his Parent PLUS loans may become eligible for the Income-Based Repayment Plan (ICR) if he consolidates them into one or more direct consolidation loans. If Nate enrolls in ICR, he would be required to pay 20% of his discretionary income, or $ 709 per month. Compared to the standard 10 year plan, Nate can cut his monthly charge in half by consolidating and joining ICR!
But that’s not all …
For Nate, there is another strategy worth pursuing, called double consolidation. This strategy takes at least three consolidations over several months and works as follows:
Let’s say Nate has 16 federal loans (one for each semester from Jack and Jill’s respective colleges). If Nate consolidates eight of his loans, he ends up with a Direct Consolidation Loan # 1. If he consolidates his remaining eight loans, he ends up with the Direct Consolidation Loan # 2. When he consolidates the loans from Direct Consolidation # 1 and # 2 He ends up with just one Direct Consolidation Loan # 3.
Since Direct Consolidation Loan # 3 repays Direct Consolidation Loans # 1 and 2, it is no longer subject to the rule limiting Consolidated Loans Repaying Parent PLUS Loans to be eligible only for ICR. Direct Consolidation Loan # 3 might be eligible for other income-based repayment plans, including IBR, PAYE, or REPAYE, in which Nate would pay 10% or 15% of his discretionary income, rather than 20%.
Reduce Nate’s monthly payments
For example, if Nate qualifies for PAYE and he and Nancy file their taxes using Married Separately (MFS) status, only Nate’s income of $ 60,000 is used to calculate his monthly payment. Her monthly payment would now be reduced to $ 282. If he had chosen REFUND, he should have included Nancy’s annual income of $ 60,000 for the monthly post-wedding payment calculation – no matter how they report their taxes – so her payment would have been $ 782. .
Double consolidating can be a pretty arduous process, but Nate decides to do it to reduce his monthly payment from $ 1,443 to $ 282.
How Parent PLUS borrowers may be eligible for forgiveness
Since Nate is a teacher at a public school, he would be eligible for the Public Service Loan Forgiveness (PSLF), and after making 120 qualifying payments, he would get his loan balance canceled tax-free.
As Nate seeks forgiveness, there is another important thing he can do to further reduce his monthly payments. Nate can contribute more to his employer’s retirement plan. If Nate contributed $ 500 per month to his 403 (b) plan, the amount of annual taxable income used to calculate his monthly payment is reduced, further reducing his monthly payments to $ 232.
Summarize Nate’s options in dollars and cents
- With the standard 10-year repayment plan, Nate would be expected to pay $ 1,443.26 per month for 10 years, for a total of $ 173,191.
- With a consolidation, an ICR registration, an income tax return using the Married status and the public service loan forgiveness, he would start with $ 709 in monthly payments and pay a total of about $ 99,000 over 10 years. *
- With double consolidation, enrolling in PAYE, filing taxes using Married status, and Public Service Loan Pardon, her monthly payment starts at $ 282, and her total for 10 years would be around $ 40,000. .
- For maximum savings: with double consolidation, enrollment in PAYE, income tax return using Separated Married status, public service loan pardon and payment of $ 500 per month to his employer retirement account for 10 years, the payment Nate’s monthly start at $ 232 and his total payout would be around $ 32,500. He would have contributed $ 60,000 to his 403 (b) account in 10 years, which could have grown to around $ 86,000 with an annual return of 7%. By comparing this option with the first, we can predict that Nate will pay about $ 140,000 less in total, and he could increase his retirement savings by about $ 86,000.
As you can see, there are options and strategies available to parents who are federal student loan borrowers. Some of the concepts applied in these strategies may also work for student loans held by the students themselves.
An important thing to remember if you are an older federal student loan borrower is that paying off the entire loan balance may not be the only option you have. In particular, if you qualify for an income-tested repayment plan and are close to retirement, you can kill two birds with one stone by contributing as much as you can to your retirement account. Additionally, since federal student loans are dischargeable upon death, it may be strategic to minimize your payments as much as possible and release them upon your death.
Also, loan consolidation can be beneficial as it was in this example, but if you made any qualifying payments for loan forgiveness prior to the consolidation, you would lose any progress you made towards forgiveness!
As always, every situation is unique, so if you are unsure of what to do with your student loans, contact a professional with expertise in student loans.
* Note: Projections for options 2 to 4 assume that, among other factors such as Nate’s PSLF qualification employment status and family size remain the same, Nate’s income increases by 3% per year, increasing the amount of his monthly payment every year. Individual circumstances can dramatically change the results.
Associate Planner, Insight Financial Strategists
Saki Kurose is a Certified Student Loans Professional (CSLP®) and CFP® Certification Candidate. As an associate planner at Financial strategists Insight, she enjoys helping her clients overcome their financial challenges. Saki is particularly passionate about working with student loan clients to find the best repayment strategy that meets their goals.