How should I pay off my private student loans that have a lot of restrictions?
I have numerous private student loans, with amounts and interest rates like this:
,000 7%
25,000 7%
10,000 7%
5,000 6%
4,000 5%
My loan provider told me I have two options. In either case, I have to make the minimum monthly payment on every loan, which is split between interest and principal. My two options are:
I can make an additional payment above and beyond the minimum payment. I cannot tell them that this payment should be applied to principal only, and I cannot apply it to a specific loan, e.g. the ones with the highest interest rates. No matter what I tell them, they take any additional money I send them and split it evenly between the interest and principal on EVERY loan.
I can make the minimum payment only, and save the money in an external account until I have enough to pay off a single loan as a lump sum. Then, AND ONLY THEN, will they apply the additional money I send them to a loan of my choice (ONLY IF I CAN PAY IT OFF).
There are no separate fees for each loan, so should I basically treat this as one big loan with some average interest rate, and make as large a payment as I can every month?
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It doesn't make a whole lot of sense to save up and wait to make a payment on any of these loans. Any dollar you pay today works better than saving it and waiting months to pay it, no matter which loan it will be applied to.
Since your lender won't let you choose which loan your payment is being applied to, don't worry about it. Just make as big a payment as you can each month, and try to get the whole thing out of your life as soon as possible.
The result of this will be that the smaller balance loans will be paid off first, and the bigger balance loans later. It is unfortunate that the higher interest rate loans will be paid later, but it sounds like you don't have a choice, so it is not worth worrying about.
Instead of thinking of it as 5 loans of different amounts, think of it as one loan with a balance of ,000, and make payments as quickly and as often as possible.
For example, let's say that you have 00 a month extra to throw at the loans. You would be better off paying 00 each month than waiting until you have 00 in the bank and paying it all at once toward one loan. How the lender divides up your payment is less significant than when the lender gets the payment.
Are there any (monthly) administrative fees on those loans that are charged separately? If not, you should just pay as much as you can as quick as you can to get the loan amount down on those loans with the highest interest rate. If there are no separate fees on the loans, then it's just a lump of money with some interest rate. The smaller loans will eventually drop away one by one, have a celebration to remark the occasion when that happens. I assume the payment is split evenly between the loans?
Restructure if you get a better deal from someplace.
Delay buying new stuff until you get the loan amount down. Pay as much as you can as quickly as you can, but keep enough money in your pocket to survive a month or two, so that you don't need to get any more loans in case something unexpected happens.
The one thing that I saw in here that raised a big red flag is that you said you "overpaid" on your interest. ALWAYS make sure you tell them that any extra money should be applied to principal only, not to interest. You accrue interest based on your outstanding principal amount, so getting that lower reduces the overall amount of interest you end up paying. Paying the interest ahead saves you nothing.
However, make sure you pay the current interest owed that month. They can capitalize past due interest - in affect, change that to be considered an addition to the loan principal amount and you end up paying interest on the interest.
You might try to refinance some of those loans. It sounds like you are serious about minimizing interest expense, if you think you will be able to pay those loans in full within five years you might also try a loan that is fixed for five years before becoming variable.
If you do not think you can repay the loans in full before that time, you should probably stick with the fixed rates that you have.
It may even be profitable to refinance those loans through another lender at the exact same fixed rate because it gets around their repayment tricks that effectively increase your interest on those two smaller loans.
Not that I doubted everyone's assumption but I wanted to see the math so I did some spreadsheet hacking.
I assumed a monthly payments for 30 years which left us with total payments of 483.89. I then assumed we'd pay an extra 0/month in one of two scenarios. Scenario 1 we just paid that 0 directly to the lender. In scenario 2 we set the extra 0 aside every month until we were able to pay off the k at 7%. I assumed that the minimum payments were allocated proportionately and the overpayments were allocated evenly. That meant we paid off loan 5 at about month 77, loan 4 in month 88, loan 3 in month 120, loan 2 in month 165, and loan 1 in month 170.
Getting over to scenario 2 where we pay 3.89 to lender and save 0 separately. In month 48 we've saved 00 relative to the principle remaining in loan 3 of 47. We pay that off and we're left with loan 1,2,4,5 with a combined principle of about 930. At this point we are now going to make payments of 683.89 instead of saving towards principle. Now our weighted average interest rate is 6.800% instead of 6.824%. We can calculate the number of payments left given a principle of 60930, interest of 6.8%, and payment of 683.89 to be 124.4 months left for a total of 172.4 months
Conclusion: Scenario 1 pays off the debt 3 months sooner with the same monthly expenditure as scenario 2.
Excellent question and it is a debate that is often raised. Mathematically you are probably best off using option #1 . Any money that is above and beyond minimum payments earns a pretty high interest rate, about 6.82% in the form of saved interest payments.
The problem is you are likely to get discouraged. Personal finance is a lot about behavior, and after working at this for a year, and still having 5 loans, albeit a lower balance, might take a bit of fight out of you.
Paying off such a large balance, in a reasonable time, will take a lot of fight.
With the debt snowball, you pay the minimum to the student loan, save in an outside account, and when it is large enough, you execute option #2 . So a year from now you might only have three loans instead of five. If you behaved exactly the same your balance would be higher after that year then using the previous method.
However often one does not behave the same. Because the goals are shorter and more attainable it is easier to delay some gratification. The 8 dollars you are saving in your weekly gas budget, because of low prices, is meaningful when saving for a 4K goal, where it is meaningless when looking at it as a 74K goal. With the 4K goal you are more apt to put that money in your savings, where the 74K goal you might spend it on a latte.
For me, the debt snowball worked really well.
With either option make sure that excess payments actually go to a reduction in principle not a prepayment of interest. Given this you may be left with no option. For example if method #1 you only prepay interest, you are forced to use option #2.
It's definitely NOT a good idea to pay off one of the smaller loans in your case - a k payment split across all the loans would be better than repaying the 5% / k loan completely, as it's the most beneficial of your loans and thus is last priority for repayment.
A payment that splits across all the loans equally is, in effect, a partial repayment on a loan with an interest rate of 6.82% (weighed average rate of all your loans). It's not as good as repaying a 7% loan, but almost as good.
It might be an option to save up until you can repay one of your 7% loans, but it depends - if it takes a lot of time, then you would've paid unneccessary interest during that time.
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