Income based repayment plans are the death of upward mobility for young professionals

Assume a lawyer graduates law school with $150,000 in student loan debt. She takes her first job at a small firm getting paid a fairly typical $60,000 per year salary. She can reasonably expect 10% increases in her salary annually. Let’s assume these graduate loans carry an average interest rate of 7.6%.

At $1780 per month, she’ll pay about $213,600 to pay the full loan in 10 years. This assumes that she’s unable or unwilling to refinance for an interest rate below 6% so that she pays less over time, less per month, and pays off faster.

On PAYE, she’ll start paying $349 per month and end paying $1788 per month, and pay about $265,873 over 20 years and require approximately $2.6 million in debt forgiveness. The forgiven millions? She now owes income tax on her “windfall.” Even if the income tax rates drop to 10%, she’ll pay More in taxes than the total loan.
PAYE vs Standard Calculator

On IBR, she’ll start paying $524 per month, end paying $1780 per month, and pay about $332,016 over 25 years, more than $100,000 more than the standard plan.IBR vs Standard Calculator

After a few years, refinancing means paying an enormous balance over a new ten year term. In both of these plans, she trades comfort today for decades of debt servitude. Rather than invest the hundreds of thousands of dollars she earns over decades of her life, she gives it to someone else. Rather than reap the benefits of growing income and compounding investments, she’s given it to someone else at a rate of return that is better than most investments she could make.

Let’s be clear, these plans can help some people and can save some people from ruin. That said, they border on the insane for professionals who can expect rapid income growth from their starting salaries in the first two decades of their career. When choosing a student loan repayment option, remember that you can pay for wealth in the future with a few years of frugality now. Alternatively, you can sell your future and waste your professional degree for a couple of vacations and daily Starbucks runs for two to three years after graduating.

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