Congratulations!! You’ve finished medical school and you’ve collected your first few paychecks or perhaps you finally have a few extra dollars to spare. Feels good, huh.
But, you look at your monthly student loan statement, and you have debt ticking higher month after month. Perhaps it’s not much, less than 100,000 dollars, or maybe it is 200,000, or even up to 500,000 dollars. Scheduled repayments may range anywhere from a few hundred dollars per month to multiple thousands of dollars with interest, of course. You feel a little queasy all of a sudden as you realize your predicament. What do you do?
Well, I’ve hiked up this mountain of debt and have been fortunate enough to climb off of this mountain. The good news is that someday you will too. The question is how and what is the best way to do it.
So, you finally may have your first job as a radiology resident and maybe you have an extra 100 or 200 dollars after your expenses for the first time. What do you do with the money? Do you pay down student loan debt or put it into a savings account/investments? That’s an interesting question without a one size fits all answer. I will go through a rational method of making these decisions.
Paying Back Loans Or Increasing Savings?
First off, we are assuming you have no high-interest credit card debt or other high-interest debt. That needs to be paid off first because you can never catch up your debts with interest rates over 10 percent. So, let’s say that is the case, now some of what to do next depends upon the amount of student debt, your student loan interest rate, and your shorter term goals.
As a thought experiment, let’s begin with what you may get back when you begin to pay off your student loans when you have taken out a large amount of debt. At a resident salary level, you do get a student interest tax deduction at the end of the year of up to 2,500 dollars on the interest serviced on the debt. So, if you have the money to pay off the student debt of 2500 dollars and most or all of that goes back to interest (due to a large student loan), you will get back 15 percent assuming a salary of up to 65000-80000 dollars in 2016 for a single person (deduction phases out between 65000 and 80000 dollars) and assuming a salary of up to 130000-160000 dollars for a married couple (deduction phase out between 130000 and 160000). Where can you make 15 percent interest on your money as a guarantee? Not many investments in this world will guarantee you that sort of return.
On the other hand, let’s say you have a relatively low amount of student loans at a fairly low-interest rate. Most of the money that you pay back is going to go back to the principal and not the interest. Your return on investment is not going to be close to the 15 percent interest rate that you get back from the student interest tax deduction. It will be closer to the true interest rate of the loan.
If you are fortunate enough to have a low-interest rate of up to 2,3, or 4 percent either by consolidating or refinancing your debt and you have small amounts of student debt, it makes sense to concern yourself more with the savings part of the equation. However, anyone with interest rates of over 4 percent, in today’s low-interest rate environment, should really make loans their first priority. But in either case, low or high-interest student debt and small or large student loans, I always say diversify. What does that mean? Never put all your eggs in one basket. Put some towards savings and some toward student debt. Everybody needs some savings. Interest rates and amount of debt make it a matter of priority and amount dedicate to each bucket.
How To Figure Out How Much To Add To Savings And Student Loans
OK. Let’s say now you are interested in saving for a larger emergency fund or maybe you need a down payment on a car or house. These may be necessities for your situation. Well, then you would want to take a fixed percentage of what you have left over at the end of the month and divide the total left over into two buckets. If your student loan interest rate is low and you have low amounts of debt, it would make sense to put a higher percentage of your leftover funds into the savings bucket (say 80 percent). And, if your interest rate and debt are higher, then you should probably consider putting less into saving (say up to 20-30 percent). This will allow you to build up your savings and begin to tackle your student loan debt.
This method will allow you get control over your student loans over time while maximizing the amount of money saved for you and/or your family. And then, when the day comes that you get your first real job as an attending, you will appreciate the more manageable debt load and the savings that you have built up during your residency!