Be Smart about Student Loans with an Eye on Future Wealth

Sep 30, 2022 Dave Homan Posted in Articles, NBBJ

Originally published in North Bay Business Journal

Last month President Biden announced a plan for student loan relief, which almost immediately erupted into a firestorm of differing opinions on the merit of this move. Some people applauded this as necessary and compassionate help for the millions of people struggling to make payments on loans which continue to grow; others worried that loan forgiveness could encourage borrowers to take on far more debt than they can handle with the assumption that it will be forgiven at some point in their future. Still other opinions maintain that perhaps the real problem isn’t with the student loan program as a whole, but with the cost of higher education in general.

Regardless of anyone's opinion on the forgiveness plan or the rising cost of education, I think we can all agree that being smart about paying for college is paramount.

In my work as a financial planner, I advise clients on the benefits and drawbacks of 529 Savings Plans.

A 529 plan is a popular way for parents, especially of young children, to get started early on the steps they need to take to save for their kids’ college costs. A 529 plan is designed to help families save for future college costs in two ways: prepaid plans that allow families to buy “units” of tuition at a rate close to today's prices, which are cashed in when the student attends school, and a college savings plan where families have the opportunity to invest in stocks and bonds until funds are distributed. Both plans have relatively low annual fees and operating costs – and offer significant tax benefits.

But there are situations where taking out student loans is the best answer for the big question of how to pay for college. So how can borrowers be smart about this investment?

The answer to the big question is, of course, planning.

Consider and think hard about the career that the student will likely be entering once they earn their degree. The first question to ask is this: what is the starting salary? Some advisors will suggest that you borrow no more in loans than the average salary you might expect to earn in your first year.

Another thing to consider is where the recent graduate will likely be living: in what areas of the country are there ample opportunities for pursuing this career? If this chosen career path is only available in very expensive cities – San Francisco or New York City, for example – the borrower will have much higher costs just to live near their work.

Are there options for working virtually in this role? Many industries have embraced hybrid or entirely remote working schedules, which would allow the recent graduate to live in a more modestly priced area while still working in the career they have chosen.

The next option a potential borrower should explore is how to earn “free money” in the form of grants and scholarships. There are millions of dollars given out every year by nonprofits, foundations, and philanthropic institutions. This will require a lot of legwork (mostly in the form of doing a deep dive on the internet) but the potential payoff is huge.

Another great option that has become its own economy in the last few years is the side-gig. This option is a terrific one for students and recent graduates who have the time and energy to work at odd hours, perhaps doing food or grocery delivery or driving for a ride-share service. Other options are tutoring, landscaping, or waiting tables. I have been really impressed, for example, by my new coworker, who graduated from college earlier this year, and flips cars in his spare time. He learned auto mechanics from his father and is using the money he earns to pay down his student loans more quickly.

Another smart decision is to start making interest payments on your loans as soon as possible – ideally, while you’re still in school. Typically, these payments are made quarterly, and they can save you money over the life of your loan.

Above all else, my best piece of advice is to enter into any student loan agreement having done your due diligence. Too many students took out far more money than they needed or could reasonably afford because they just didn’t take the time to learn and understand the details of the borrowing agreement. Granted, perhaps the banks making these loans were not as forthcoming as they could have been, but the fact remains that you should always know and understand the terms before signing on the dotted line.

Although a college education is typically a great investment, student loan obligations could be a prohibiting factor in getting a good start in building wealth. It’s absolutely crucial for students to be clear-eyed about borrowing decisions and protecting their credit.  If you don’t understand something about any step of the loan process, ask. And keep asking until you get the answers you need to make smart decisions.