4 Reasons You Need to Be Paying Extra On Your Student Loans
Landing your first job out of college is a great milestone, but it can quickly become overshadowed by student loan payments. New graduates may find themselves overwhelmed with student loans, especially if their loan balance is higher than their salary. One way to get your student debt under control is by paying extra on student loans, even if you’re on a tight budget. Here’s why making extra payments is so important, and what you can do to find the money to pay off a student loan early.
Why you should be making extra payments on student loans
When you work full-time, you may feel exhausted. The last thing you may want to do is take on a second job or constantly worry about cutting costs. But if you can find the motivation, finding a way to contribute a little more money each month can pay off in a big way.
Here are four reasons why you should put an extra $100 toward your student loans each month.
1. You could save money
Here’s an example: A recent college graduate has $35,000 in student loans at a 6.80% interest rate and minimum monthly payment of $403. If the graduate pays only the minimum, it would take 10 years to pay off the loans. In addition, the borrower would pay $13,334 in interest on top of the original loan balance.
However, if the borrower boosted their monthly payment to $500 per month, the overall interest charges would be reduced by $3,613. That money could be saved for retirement, put toward a down payment on a house or used to take a vacation.
So how much could you save by paying an extra $100 a month on your student loans? Use our loan repayment calculator to crunch the numbers.
2. You’ll be debt-free faster
For federal student loans, borrowers are automatically enrolled in a Standard Repayment Plan of 10 years. A decade is a long time to make loan payments, and you’ll likely want to get that financial burden out of your life sooner than later.
Putting an extra $100 a month toward your debt does more than save you money in interest. In the example above, where the borrower bumped up payments to $500 per month, the loan would be paid off two and a half years ahead of schedule. Making an extra payment will get rid of loans faster, freeing up your mind (and money) to focus on more important things.
Be aware, however, that paying off your student loans can cause a slight decrease to your credit score. This is because paying off student loans can result in less diversity in the types of debt in your “credit mix.” In terms of a credit rating, a larger “mix” shows that you are able to manage different types of debt, which translates to a slightly higher credit rating.
3. You can build savings more efficiently
If you’re debt-free, that means you can boost your savings more quickly. Once you pay off your student loans, you can dedicate more money to your savings account.
If you put that $500 into the bank each month when your loans are gone, you will save $12,000 in two years. If you invest the same amount of money in a 401(k) or IRA with an annual return of 6%, you’ll earn $716 on your investment over two years.
4. You may be able to buy a home more easily
Interested in owning your own home? When mortgage lenders review your application for a loan, they look at your debt-to-income (DTI) ratio.
This is a number that shows how much debt you have relative to your salary. The lower the ratio, the better. Your lender wants to know that you can comfortably afford your mortgage payments along with your other monthly obligations.
Your student loans can hurt your DTI ratio. If you have a large student loan balance, your monthly bill can eat up a significant part of your salary, making it more difficult to get a mortgage. Putting more cash toward your student loans now will help reduce your DTI ratio later on, improving your chances of getting a mortgage for the home you love.
Finding more money to pay off your debt faster
It’s clear that extra payments are important, but scraping together the extra cash can be difficult. While plenty of people will tell you to track your spending to “find” more money, that advice doesn’t always work. If you’re already strapped for cash, you likely aren’t blowing money on Starbucks, fancy dinners out, avocado toast or shopping sprees.
Aside from cutting expenses, another option is to try to boost your income to pay down student debt. A good way to do this is by taking on side hustles, which come in many forms. You can clean houses, run people’s errands or pet sit.
Your side income may vary wildly each month at first, but it should be enough to at least pay an extra $100 toward your student loan debt each month. While an extra $100 payment a month may not seem like a lot, it adds up quickly. Working a little bit each month can give you the money you need to pay off your student loan debt more quickly, which could save thousands of dollars and open up other financial opportunities.