Should You Invest While Paying Off Student Loan Debt?

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Student Loan Debt - Pay Off Early or Invest?
Student loan debt has become a pervasive problem across the country. Statistics indicate that 40 million people collectively owe more than $1.2 trillion in student loan debt. Worse, well over 1 million graduates are being added to the ranks of those with student loan debt each year. That presents a problem on a number of fronts.…

Student loan debt has become a pervasive problem across the country. Statistics indicate that 40 million people collectively owe more than $1.2 trillion in student loan debt. Worse, well over 1 million graduates are being added to the ranks of those with student loan debt each year.

That presents a problem on a number of fronts. Student loan debts themselves can be a serious burden, particularly on high balance debts, such as those exceeding $50,000 or $100,000.

Student Loan Debt - Pay Off Early or Invest?

But it’s not just the loans themselves, or the amount owed, that are the problem. There’s also the fact that student loan debts are keeping a lot of young people financially stuck at a time in life when they need to be making rapid forward progress. For example, if you have student loan debt, should you also invest money while you are trying to pay off the debts?

Because of the time value of money, it’s important to begin investing money early in life. The years that you do not invest in your 20s and 30s represents time – and investment returns – that you can never get back.

Let’s consider the benefits – and drawbacks – of three different strategies that you can consider in balancing investing and paying off your student loan debts.

Focusing on Paying Off the Student Loan Debt

Let’s consider both sides of a concentrated effort to use all of your financial resources to pay off your student loan debt as soon as possible. That means that you will not put money into investments at all until the loan is fully paid.

Benefits:

  • It’s easier to focus on a single goal at one time, rather than two
  • If you concentrate all of your extra financial resources into paying off your student loan debt, you will pay it off quicker than if you also try to allocate money for investments
  • By paying off your student loan obligations sooner, you also reduce the amount of interest that you will pay on the loans
  • Limited income, or high living expenses, or a combination of both, may force you to choose between either paying off your student loan debts or investing, but not both
  • You have a strong personal or emotional need to get out of debt
  • Once your student loan debt is fully paid, you will have even more money to put into investments

Drawbacks:

  • Making higher payments on your student loan debts will generally not reduce the required minimum monthly payment – that will not disappear until the debt is fully paid
  • You will miss out on the time value of money – that is, you will not have any money invested earning even more money
  • If your student loan debts are particularly large, paying them off can turn into a multiyear effort, that will lead to you being broke for a very long time
  • Paying off debt is seldom an attractive effort while you are doing it – it can take a serious commitment for several years
  • If your student loan term is set to run for 20 years, but you are able to pay it off in 10, you may wake up when you’re 30-something years old realizing that you still have no investments put away for the future

Focusing on Investing

Now let’s take a look at the opposite strategy. Here you will concentrate all of your extra financial resources on investing for the future. As far as your student loan debts, you will simply make the minimum monthly payments for as many years as it will take to pay off the debt.

Benefits:

  • You will get the benefit of the time value of money – your money will grow as a result of investment income, making your investment portfolio even bigger
  • The growing amount of investment worth may give you a stronger sense that you are on track with your long-term financial goals
  • Student loan debt is passive debt – that means that even if you do nothing more than make the minimum monthly payments, the debt will eventually be paid off
  • When your student loan debt is finally paid, you will already have a decent sized investment portfolio, so you won’t be starting from scratch
  • By investing consistently and successfully, you may reach a point where your investment portfolio is large enough that you can pay off the remaining balance on your student loan debt, while still having investments
  • You will not be succumbing to the trap of “putting your life on hold” because of your student loan debt – you will be financially moving forward in spite of it

Drawbacks:

  • You will have to develop a mindset that is willing to live with the long-term nature that is typical of student loan debt
  • For as long as it takes to pay off the debt, there will always be an “asterisk” next to your financial situation – I have $X in my investment portfolio, but I owe $Y on my student loan debt – that means that your net worth will always be lower than your investment portfolio
  • If your investments perform poorly, you may find yourself losing money that you invested, while your student loan debt is unaffected – you may even wish that you used the money to pay off your debts instead
  • There may be little income left to invest after paying basic living expenses, and your student loan debt

Focusing on Paying Off the Debt AND Investing at the Same Time

Focusing on both goals at once brings balance your financial situation. But depending on your individual circumstances, it could be a tight squeeze.

Benefits:

  • You will work simultaneously at building up savings and getting out of debt, which gives you two financial goals
  • You will be working to pay off your student loan debt early, but also making an allocation to investments, so that you will get the benefit of investment income on those investments
  • There will be an investment portfolio waiting at the end of the payoff of your student loan debt
  • Paying off the debt early will give you some protection against the possibility of your investments declining in value – it’s a form of financial diversification

Drawbacks:

  • It can be very difficult to come up with the money to deal with two major financial efforts at the same time – investing money and paying off student loan debt early
  • The dual effort will mean that it will take longer to pay off the debt than would if you focused solely on early payoff
  • You may find yourself unsatisfied with the progress that you’re making on one or both goals
  • Concentrating on both efforts will take years, and you will need to be fully committed for as long as it takes

Opportunities

  • You may wish to invest with your employer sponsored 401k plan if your employer offers a matching contribution. This is a good opportunity to increase your retirement savings with little effort on your part.
  • Some individuals will invest up to their employer match to take advantage of this free money. They then direct the rest of their extra cash flow toward paying off student loans.

Which Strategy Should You Choose?

In a perfect world, you would choose paying off your student loan debt and investing at the same time. And of course, if you have sufficient income to attack both goals at once, and still have enough money to live on comfortably, that’s probably the route you should take. It introduces balance in your financial situation, that will give you a greater sense of control over the whole process.

But if you don’t have the income to tackle both at once, you’ll have to play divide and conquer. Choose the goal that is most important to you, that is likely to have the biggest positive impact in the least amount of time.

If the monthly payment on your student loan debt is particularly large in comparison to your income, concentrating on paying off the debt may be the only logical choice. Until you do, you simply won’t have the money necessary to invest.

But if you are comfortable with the monthly payments, and prefer to invest, with the idea that building up long-term financial security is more important, then have at it. Just be sure that you are okay with carrying the student loan debt for a very long time.

There’s no one correct answer here, that’s why we’ve taken a close look at all three. Choose whichever strategy that you think will work best for you.

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About Kevin Mercadante

Kevin Mercadante is professional personal finance blogger, and the owner of his own personal finance blog, OutOfYourRut.com. He has backgrounds in both accounting and the mortgage industry. He lives in Atlanta with his wife and two teenage kids and can be followed on Twitter at @OutOfYourRut.

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  1. Phil says

    Pay off student loan debt before you invest. That’s my rule.

    Here is a Dave Ramsey-esque strategy for those looking to pay off their student loans

    Step 1: Create an emergency account of $1000 to $2000 (just in case)

    Step 2: List all loans SMALLEST to LARGEST, and Pay off THE SMALLEST FIRST. Then, you snowball the payment (once paid off) into the next biggest, creating a SNOWBALL EFFECT.

    Step 3: Save 3-6 months of monthly expenses and at the same time, lower them! Cut car insurance to $25/month (check InsurancePanda), cut gas to less than $50/month (check Gasbuddy), get rid of cable TV (check netflix), and look to TMobile for cellphone ($20/month).

    Step 4: Stash away 15% of income for Retirement

    Step 5: Save for something big, like your KIDS’ college savings (at 12%, accounting for inflation rate).

    Step 6: Pay off the house (if you have one), or your credit cards. Be careful of getting into more debt!

    Step 7: Give, Invest, and Spend your Accumulated Wealth

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