After a nearly four-year hiatus, borrowers are back to making monthly payments on their federal student loans. Finding room in your budget for those payments can be challenging, especially if you’re juggling rent, groceries and other bills.
While there’s no set rule for how much of your budget should go toward student loans each month, payments that exceed 10% of your income could become burdensome. However, if you can afford to make extra payments, you could get out of debt faster and save on interest.
Here are some tips to help you budget for student loans and find the repayment plan that works for you.
[Read: Best Student Loan Refinance Lenders.]
Determining Your Budget
Everyone’s financial situation is different, so there’s no hard-and-fast rule around how much of your budget should go toward student loans. Some borrowers need to reduce the amount they pay as much as possible, while others have the means to make extra payments and accelerate debt repayment.
An important first step is evaluating your budget. One popular budgeting strategy is the 50/30/20 rule:
— 50% of your income goes toward needs, like rent, transportation and health care.
— 30% of your income goes toward wants, like dining out, streaming services and travel.
— 20% of your income goes toward savings and paying off debt, like an emergency fund, credit card bills and student loan payments.
Depending on your lifestyle, you may have to adjust these percentages. If your goal is to pay off education debt quickly, you might want to cut your discretionary expenses to 15% and funnel the difference toward your student loans.
If your expenses don’t leave much left over for student loans, you could explore alternative repayment plans to potentially reduce your monthly student loan bills. That said, everyone should keep up with minimum student loan payments to avoid falling into delinquency or default.
[Read: Best Student Loans Without a Co-Signer.]
How Much of Your Budget Should Go Toward Student Loans?
While everyone’s situation is different, guidelines from the Department of Education suggest that student debt payments should stay around or below 20% of your discretionary income — or 8% of your total income each month. Discretionary income is what remains after taxes and other necessities are covered. Betsy Mayotte, president of The Institute of Student Loan Advisors, suggests capping the limit even lower at 10% of your discretionary income.
“When someone is first taking out loans, we generally advise not borrowing more than what will result in 10% of their income in monthly payments,” says Mayotte.
Similarly, the Consumer Financial Protection Bureau advises students not to borrow more in student loans than they expect to earn in their first year out of college. If your student loan payment is difficult to afford, you may be able to lower it by applying for an income-driven repayment plan or refinancing for better rates and terms.
“Income-driven repayment is one way to make your payment proportionate to your income,” says certified student loan professional Meagan McGuire. “Refinancing could be another way to adjust the payment … but with the added benefit of lowering your interest rate.”
Keep in mind that refinancing federal loans turns them private, meaning you’ll lose eligibility for federal repayment plans, forgiveness programs and other benefits.
Guidelines for Student Loan Budgeting
Here are a few guidelines to consider when budgeting for student loans.
The 10% Rule
A student loan payment that exceeds 10% of your discretionary income could be difficult to afford. Let’s say, for example, that your monthly take-home pay is $3,500. Your student loan payment would need to be no higher than $350 to meet this guideline. If you owed $30,000 at a 6% rate, your payments would be $333 on a standard 10-year plan, which would fall within this limit.
Using a student loan calculator can help you crunch the numbers on your own debt. Input your total balance, interest rate and repayment term to see your monthly payment and long-term interest costs.
Consider Loan Forgiveness Eligibility
If you’re eligible for student loan forgiveness, you might want to reduce your monthly student loan payments as much as you can.
“You should be looking to pay the least amount possible every month,” says Mayotte. “You want to maximize that forgiveness benefit.”
That usually means getting your loans on an income-driven repayment plan, which could be a prerequisite for loan forgiveness anyway.
For example, the Public Service Loan Forgiveness program will forgive your remaining balance after 120 payments (which takes 10 years) if you’re employed full time in a qualifying job by an eligible employer. Plus, the IDR plans themselves end in loan forgiveness if you still have a balance at the end of your term.
Most IDR plans adjust your monthly payments to 10% to 20% of your discretionary income. The new SAVE plan will slash payments on undergraduate loans to 5% starting in July 2024. It will also eventually offer loan forgiveness after 10 years for original balances of $12,000 or less. By contrast, the other IDR plans forgive the balance on your loans after 20 or 25 years.
Other Budgeting Factors to Consider
If your loan payments are breaking the bank, consider ways to reduce them, such as:
— Applying for income-driven repayment.
— Refinancing for better rates and terms.
— Contacting your lender about a payment modification if you’re struggling with private student loans.
On the flip side, borrowers with surplus income could make extra payments on their loans to pay them off faster — without penalty. Let’s go back to the example of a $30,000 loan at a 6% rate.
If you stuck with the 10-year term at $333 each month, you’d pay $9,967 in interest overall. But if you paid an extra $100 each month, you’d save about $3,000 in interest and get out of debt nearly three years faster.
To find extra money for student loans in your budget, look for ways to decrease your expenses, such as moving to a less expensive apartment or downgrading your car. Or you could consider ways to boost your income, like asking for a raise, starting a side hustle or selling items you no longer use.
Striking a Balance: Budgeting for Student Loans and Saving
While you may want to pay off your student loans as quickly as possible, don’t forget about your other financial goals. For instance, it’s a good idea to save an emergency fund that could cover three to six months’ worth of expenses before you accelerate debt repayment.
It’s also important to save for retirement and max out any matching benefit that your employer offers. If you owe other debt, consider putting extra payments toward the debt with the highest interest rate. For instance, if your credit card charges 21% interest while your student loans have a 6% rate, tackling the credit card debt should take precedence.
By considering the whole picture of your finances, including your income, expenses, savings goals and debt obligations, you can strike a balance between paying off student loans and meeting your other money goals.
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How Much of My Monthly Budget Should Go to Student Loans? originally appeared on usnews.com
