IBR vs PAYE vs REPAYE

[SigmaFS]

I've developed a video discussing IBR, PAYE & REPAYE describing the benefits and concerns with each program. Both IBR & PAYE borrowers can possibly benefit from REPAYE.

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[bc65]

I watched the video. It's really excellent, thanks for doing that. I highly recommend it to anyone with student loans.
I really like the way you calculated the cost of the balloon tax payment by running a simultaneous investment at 7%.

Do the relative benefits of the various programs change with different numbers of dependents? Also, it's worth mentioning that forgiveness will probably involve a state tax bill as well.

Given that you have PAYE with a negative loan cost, I wonder how that would compare to an earlier aggressive payoff? With that in mind, I would have liked to see a comparison of all the loan options with the total difference between the 10 year and each of the other options being invested at 7% as well, ( and not just an amount selected to pay off the balloon tax payement) and also comparing those to someone paying off those loans aggressively in say 5 years, and investing the entire difference after that. That would show the true cost/benefit of paying off the loans earlier.

 

[SigmaFS]

I watched the video. It's really excellent, thanks for doing that. I highly recommend it to anyone with student loans.
I really like the way you calculated the cost of the balloon tax payment by running a simultaneous investment at 7%.

Do the relative benefits of the various programs change with different numbers of dependents? Also, it's worth mentioning that forgiveness will probably involve a state tax bill as well.

Given that you have PAYE with a negative loan cost, I wonder how that would compare to an earlier aggressive payoff? With that in mind, I would have liked to see a comparison of all the loan options with the total difference between the 10 year and each of the other options being invested at 7% as well, ( and not just an amount selected to pay off the balloon tax payement) and also comparing those to someone paying off those loans aggressively in say 5 years, and investing the entire difference after that. That would show the true cost/benefit of paying off the loans earlier.

Thanks for taking the time to view the video. Good to hear that you found it informative.

The benefits do increase with any increase in dependents assuming all else remains the same. An increase in dependents decreases the monthly income driven repayment (IDR), therefore deceases the total paid over the life of the loan. In reference to the state tax, I do assume an effective tax rate (not a marginal tax rate) of 40%, which is a relatively high effective tax rate.

Let's assume an aggressive repayment period of 5 years. Given the assumptions in the video, the monthly payments would be $9,900. This results in total loan cost of $594K on a 5 year amortization schedule compared to the PAYE video example of $450K over a 20 year repayment period. Just of few comments;

1) $9,900/month is after tax income. Gross income necessary, assuming an effective tax rate of 30%, is ~ $14,150/month or $170k/year. Is it realistic?
2) Opportunity cost - What financial opportunities are you delaying or missing given your aggressive repayment position? Can you establish an emergency fund, retirement, delaying having children, buying a home (when rates are still historically low), buy a practice, which could dramatically increase your income?

 

[bc65]

Thanks for taking the time to view the video. Good to hear that you found it informative.

The benefits do increase with any increase in dependents assuming all else remains the same. An increase in dependents decreases the monthly income driven repayment (IDR), therefore deceases the total paid over the life of the loan. In reference to the state tax, I do assume an effective tax rate (not a marginal tax rate) of 40%, which is a relatively high effective tax rate.

Let's assume an aggressive repayment period of 5 years. Given the assumptions in the video, the monthly payments would be $9,900. This results in total loan cost of $594K on a 5 year amortization schedule compared to the PAYE video example of $450K over a 20 year repayment period. Just of few comments;

1) $9,900/month is after tax income. Gross income necessary, assuming an effective tax rate of 30%, is ~ $14,150/month or $170k/year. Is it realistic?
2) Opportunity cost - What financial opportunities are you delaying or missing given your aggressive repayment position? Can you establish an emergency fund, retirement, delaying having children, buying a home (when rates are still historically low), buy a practice, which could dramatically increase your income?

Good point on the effective tax rate. 40% is about what I pay in California, with a higher income that the one you used.

But looking at the figures at the bottom for PAYE, I would say that the cost of the loan is the payments made, plus the tax due, which comes to 252k plus 379k, for a total of 631k. For REPAYE, the cost is the 375k of payements made, plus the tax liability of 300k, for a total of 675k. I estimate that the effective interest rate is still only about 2%, but the total cost would be lower with the 5 year payback. However, the difference is small enough that the choice would be up to personal preference. More dependents would make the repayment plans more attractive, and I assume a higher salary would make them less desirable choices.

Is the 5 year payoff possible? It is if someone is coming out of residency and a salary of 60k, and doesn't increase their spending, and is earning 250 k, then they can just barely do it. If they are earning 300 or 400k or more, no problem. Or, they pay over 6 years.

So, it would be nice to see how those numbers work out for someone who is in residency for 3 years, 5 years, or 7 years, starting out at 55,000 and going up by about 3 k a year, followed by a starting salary of 250k or 400k. Maybe looking at a family of 2 or 4.

If we ignore the forgiveness at the end, then the loan at 6.8% vs investing at 7% will be a wash, more or less. However, personally, if I could get a guaranteed 6.8% return , i.e. a Treasury paying 6.8% today, I would jump at that chance, rather than taking my chances with the S&P 500 or Total Market Index fund. That would be a risk free return of 6.8%. So then the question becomes, is the forgiveness at the end worth the extra market risk that I'm taking? My gut feeling is that I would rather pay off the loan as soon as possible, but I might be missing something.

 

[SigmaFS]

Good point on the effective tax rate. 40% is about what I pay in California, with a higher income that the one you used.

But looking at the figures at the bottom for PAYE, I would say that the cost of the loan is the payments made, plus the tax due, which comes to 252k plus 379k, for a total of 631k. For REPAYE, the cost is the 375k of payements made, plus the tax liability of 300k, for a total of 675k. I estimate that the effective interest rate is still only about 2%, but the total cost would be lower with the 5 year payback. However, the difference is small enough that the choice would be up to personal preference. More dependents would make the repayment plans more attractive, and I assume a higher salary would make them less desirable choices.

Is the 5 year payoff possible? It is if someone is coming out of residency and a salary of 60k, and doesn't increase their spending, and is earning 250 k, then they can just barely do it. If they are earning 300 or 400k or more, no problem. Or, they pay over 6 years.


If we ignore the forgiveness at the end, then the loan at 6.8% vs investing at 7% will be a wash, more or less. However, personally, if I could get a guaranteed 6.8% return , i.e. a Treasury paying 6.8% today, I would jump at that chance, rather than taking my chances with the S&P 500 or Total Market Index fund. That would be a risk free return of 6.8%. So then the question becomes, is the forgiveness at the end worth the extra market risk that I'm taking? My gut feeling is that I would rather pay off the loan as soon as possible, but I might be missing something.

My concern with defining the cost of the loan = payments made while in IDR + tax liability on amount forgiven is it ignores the time value of money. The tax liability is a lump sum payment realized 20 to 25 years in the future where a discounted value should be considered. One approach is a more conservative investment position for the anticipated loan forgiveness tax liability. Investment considerations could be longer duration CD's (5-years at 2.25%), 10-year T-Bond at 2.30%, or 10-year AAA muni bond at 2.0%. I'll assume a 2.0% muni with no tax implications:

PAYE

Total cost of loan = $561k with an effective interest rate @ 1.17%

REPAYE

Total cost of loan = $606k with an effective interest rate of 1.59%

Using the information you provided: "So, it would be nice to see how those numbers work out for someone who is in residency for 3 years, 5 years, or 7 years, starting out at 55,000 and going up by about 3 k a year, followed by a starting salary of 250k or 400k. Maybe looking at a family of 2 or 4", the variables used are a 5 year residency, with a $250k starting salary with a 3% annual increase and a family of 3.

PAYE

REPAYE

 

[bc65]

Thanks for doing all that! I wish I had your excel skills.

I'm still thinking this through. It's certainly also true that the later lump sum payment is with discounted money, at 20 years probably worth half of what it was worth in the early years, and that does need to be taken into account. Either way, you did demonstrate that the effective interest rate is still quite low with either program, making them a better deal than I had realized, and making the investment option look more attractive. There's still the risk of the rules being changed in the middle, but I think you've convinced me. If I still had student loans, I would hire you.😉

 

[SigmaFS]

Thanks for doing all that! I wish I had your excel skills.

I'm still thinking this through. It's certainly also true that the later lump sum payment is with discounted money, at 20 years probably worth half of what it was worth in the early years, and that does need to be taken into account. Either way, you did demonstrate that the effective interest rate is still quite low with either program, making them a better deal than I had realized, and making the investment option look more attractive. There's still the risk of the rules being changed in the middle, but I think you've convinced me. If I still had student loans, I would hire you.😉

Thank you for your kind words. I see this as an opportunity to educate borrowers, particularly those with high debt but high income potential (somewhat a personal mission as my wife is a dentist w/significant student loan debt). As I have said before, managed property, income driven repayment options present opportunities. But it requires the borrower to be engaged and actively manage the process.

Happy New Year!

 

[Postictal Raiden]

Thanks for doing all that! I wish I had your excel skills.

I'm still thinking this through. It's certainly also true that the later lump sum payment is with discounted money, at 20 years probably worth half of what it was worth in the early years, and that does need to be taken into account. Either way, you did demonstrate that the effective interest rate is still quite low with either program, making them a better deal than I had realized, and making the investment option look more attractive. There's still the risk of the rules being changed in the middle, but I think you've convinced me. If I still had student loans, I would hire you.😉

That's true. I feel like the real effective tax rate should be much lower if we account for a ~3%/year inflation. For example, the estimated tax liability in the 25-year REPAYE scenario above is $257K in 2040 dollar value (~$140k in today's dollar value). Adding this amount to the total annual REPAYE payments over the 25-year term (and this too should be lower due to inflation) results in a total loan cost of $670k, brining the effective interest rate on the loan down to 3% from 3.95%.

 

[Cantchooseaname8]

Thanks for the video. I'm only part way through it, but had a quick question. It looks like your monthly payments for IBR might be off a bit. You are showing a principal balance of $500k and an income of $50k. You show this as having a monthly payment of $397.69. When I do the math, I get $404.31. Discretionary income is $50,000 - (1.5 x $11,770) = $32,345. Then we take 15% of that and divide by 12, which is $404.31. Can you explain how you came up with $397.69?

 

[SigmaFS]

Thanks for the video. I'm only part way through it, but had a quick question. It looks like your monthly payments for IBR might be off a bit. You are showing a principal balance of $500k and an income of $50k. You show this as having a monthly payment of $397.69. When I do the math, I get $404.31. Discretionary income is $50,000 - (1.5 x $11,770) = $32,345. Then we take 15% of that and divide by 12, which is $404.31. Can you explain how you came up with $397.69?

Yes, the $11,770 is the 2015 poverty income guideline for 1 person. The federal government annually adjusts the poverty income guideline for inflation. So, I take that inflation factor into account. I believe the $50,000 AGI is in Repayment Year 2. Therefore, the equation is $50,000 - (1.5 x ($11,770 x 1.03) = $31,815, multiply by 15%, then divided by 12 to get $397.

 

[Cantchooseaname8]

Yes, the $11,770 is the 2015 poverty income guideline for 1 person. The federal government annually adjusts the poverty income guideline for inflation. So, I take that inflation factor into account. I believe the $50,000 AGI is in Repayment Year 2. Therefore, the equation is $50,000 - (1.5 x ($11,770 x 1.03) = $31,815, multiply by 15%, then divided by 12 to get $397.

Awesome. Thanks for clarifying!

 

[The White Coat Investor]

I didn't watch the video and just wanted to make a general comment. There are very few situations where a resident doesn't want to be in REPAYE. If going for PSLF, try to switch from RePAYE to PAYE or IBR at residency graduation. If not going for PSLF, refinance at that time.

 

[Doctor Bagel]

I didn't watch the video and just wanted to make a general comment. There are very few situations where a resident doesn't want to be in REPAYE. If going for PSLF, try to switch from RePAYE to PAYE or IBR at residency graduation. If not going for PSLF, refinance at that time.

REPAYE also counts for PSLF, right? Why would you automatically want to switch from REPAYE to IBR (anyone in REPAYE is in REPAYE because they don't quality for PAYE anyway) when you become an attending if PSLF is your goal? I'm shooting for PSLF, am currently in IBR and planning on switching to REPAYE after my payments are recalculated with filing taxes. One downside is that filing separately doesn't protect me from my spouse's income being included in my payments, but my income is enough higher than his that 10% of our discretionary income is less than 15% of my discretionary income (coupled with how you get screwed when you file taxes separately).

 

[mvenus929]

REPAYE also counts for PSLF, right? Why would you automatically want to switch from REPAYE to IBR (anyone in REPAYE is in REPAYE because they don't quality for PAYE anyway) when you become an attending if PSLF is your goal? I'm shooting for PSLF, am currently in IBR and planning on switching to REPAYE after my payments are recalculated with filing taxes. One downside is that filing separately doesn't protect me from my spouse's income being included in my payments, but my income is enough higher than his that 10% of our discretionary income is less than 15% of my discretionary income (coupled with how you get screwed when you file taxes separately).

I think the thought is you get in REPAYE during residency so the government will pay part of your unpaid interest while you're making pennies compared to your debt. Then, you switch to IBR, which caps your payments at the 10 year standard repayment (whereas there is no cap in REPAYE).

Not sure I'd go through the effort for relatively little payback in the end, but to each his own.

 

[Doctor Bagel]

I think the thought is you get in REPAYE during residency so the government will pay part of your unpaid interest while you're making pennies compared to your debt. Then, you switch to IBR, which caps your payments at the 10 year standard repayment (whereas there is no cap in REPAYE).

Not sure I'd go through the effort for relatively little payback in the end, but to each his own.

For those of us in the non super high earning specialties, the cap probably won't matter unless you're already at pretty low debt levels as it is. If you're worried about the cap, you don't need an income based repayment plan anyway. So there's still lots of us out there who probably would benefit from REPAYE as attendings as well, assuming we're shooting for PSLF.

 

[SigmaFS]

I think the thought is you get in REPAYE during residency so the government will pay part of your unpaid interest while you're making pennies compared to your debt. Then, you switch to IBR, which caps your payments at the 10 year standard repayment (whereas there is no cap in REPAYE).

Not sure I'd go through the effort for relatively little payback in the end, but to each his own.

There are two REPAYE benefits of interest vs IBR:

1. A 1/3 lower monthly payment vs IBR, and
2. The 50% interest subsidy on any interest accrual.

If you have approximately $300k @ 7% with a $50k AGI, your annual interest accrual is ~ $17K. The REPAYE 50% interest subsidy saves you about $8.5k per year.

 

[SigmaFS]

For those of us in the non super high earning specialties, the cap probably won't matter unless you're already at pretty low debt levels as it is. If you're worried about the cap, you don't need an income based repayment plan anyway. So there's still lots of us out there who probably would benefit from REPAYE as attendings as well, assuming we're shooting for PSLF.

REPAYE is a qualifying repayment program for PSLF. And, for your REPAYE to equal your 10 year standard payment amount, your AGI would need to be approximately 1.5x your your federal student loan amount when entered REPAYE.

 

[mvenus929]

For those of us in the non super high earning specialties, the cap probably won't matter unless you're already at pretty low debt levels as it is. If you're worried about the cap, you don't need an income based repayment plan anyway. So there's still lots of us out there who probably would benefit from REPAYE as attendings as well, assuming we're shooting for PSLF.

I'm not sure I follow your second statement, but in general, I agree. For my current loans, for 10% of discretionary income to exceed the standard repayment, I'd have to make about $280K. I probably won't. But some people will, and that amount may mean that they don't qualify for PSLF because they'll pay off their loans before it's time for forgiveness. Again, I'm not sure I'd go through the effort to switch back to IBR, but it might make sense for some people.

 

[RangerBob]

I'm not sure I follow your second statement, but in general, I agree. For my current loans, for 10% of discretionary income to exceed the standard repayment, I'd have to make about $280K. I probably won't. But some people will, and that amount may mean that they don't qualify for PSLF because they'll pay off their loans before it's time for forgiveness. Again, I'm not sure I'd go through the effort to switch back to IBR, but it might make sense for some people.

They'd have to make quite a bit more, as anywhere from 2.5-7+ years of payments under REPAYE will be minimal payments as they'll be residents.

I do agree with the other posters though, that if you're REPAYE monthly payment jumps to above the 10-year payment plan, you're in a very good place financially and honestly should just pay that loan off as quick as possible. PSLF is still not guaranteed, and the government has already proposed capping it. We can hope those of us who already made payments will be "grandfathered" in, but honestly I think the one and only thing that might make that happen is the fact so many lawyers borrowed so much and are counting on PSLF, and lawyers have much more clout in Congress than we do. (But still, the public hearing about lawyers and neurosurgeons getting their loans forgiven is probably going to sway Congress's mind...)

 

[Doctor Bagel]

They'd have to make quite a bit more, as anywhere from 2.5-7+ years of payments under REPAYE will be minimal payments as they'll be residents.

I do agree with the other posters though, that if you're REPAYE monthly payment jumps to above the 10-year payment plan, you're in a very good place financially and honestly should just pay that loan off as quick as possible. PSLF is still not guaranteed, and the government has already proposed capping it. We can hope those of us who already made payments will be "grandfathered" in, but honestly I think the one and only thing that might make that happen is the fact so many lawyers borrowed so much and are counting on PSLF, and lawyers have much more clout in Congress than we do. (But still, the public hearing about lawyers and neurosurgeons getting their loans forgiven is probably going to sway Congress's mind...)

Yeah, if you're in that situation, you really are taking advantage of PSLF, imo, and I don't feel particularly bad for you.

But, yes, anyway, some of us still benefit from REPAYE even as attendings, especially those of us going for PSLF with higher debt burdens and lower attending salaries.

 

[RangerBob]

Yeah, if you're in that situation, you really are taking advantage of PSLF, imo, and I don't feel particularly bad for you.

But, yes, anyway, some of us still benefit from REPAYE even as attendings, especially those of us going for PSLF with higher debt burdens and lower attending salaries.

Sadly, I'm in the latter group you mention... I make all the other residents and graduating medical students feel much better about how much they owe.

But then, money really isn't everything anyway. Not to say I never worry about my debt and future income, but I'm much less worried about it because I'm not worrying about affording fancy cars. I just need the basics--despite my wife and my astronomical debt, we can still manage that (as long as we don't live in CA or NYC, or anywhere else that isn't in the Midwest... Guess it's a good think I like the people here...)

 

[Doctor Bagel]

Sadly, I'm in the latter group you mention... I make all the other residents and graduating medical students feel much better about how much they owe.

But then, money really isn't everything anyway. Not to say I never worry about my debt and future income, but I'm much less worried about it because I'm not worrying about affording fancy cars. I just need the basics--despite my wife and my astronomical debt, we can still manage that (as long as we don't live in CA or NYC, or anywhere else that isn't in the Midwest... Guess it's a good think I like the people here...)

No pretty mountains in the Midwest. 🙂

 

[RangerBob]

No pretty mountains in the Midwest. 🙂

That was actually the hardest thing to adjust to over here. Everyone thinks it's the winter. Nope--for me it's the flatness. At least here in the Upper Midwest we have some rolling hills.

I'm really looking forward to trip to Yosemite. Now if I had just gone into primary care (or EM) I could've potentially staffed the clinic there--that would be the dream. They just don't have much need for PM&R in the national parks...

 

[mvenus929]

No pretty mountains in the Midwest. 🙂

So go to Sante Fe or Grand Junction. I'm not sure how the salaries in Denver and Colorado Springs and ABQ are compared to the COL, but the COL is significantly less in all those places compared to the coasts, and you get pretty mountains and some city life 🙂

 

[Nina220]

Does it ever make sense to prepay loans (i.e., send in additional payments or paying while in deferment), if you will most likely have a significant amount of unpaid interest at the end of the 25 years.

I was sending in additional payments for my loan at 8.5%, I then began putting the additional funds into a Roth IRA.

 

[SigmaFS]

Does it ever make sense to prepay loans (i.e., send in additional payments or paying while in deferment), if you will most likely have a significant amount of unpaid interest at the end of the 25 years.

I was sending in additional payments for my loan at 8.5%, I then began putting the additional funds into a Roth IRA.

If you're in an income driven repayment program (and hopefully you're in REPAYE) and anticipating forgiveness, you don't want to pay more than the minimum. Why pay an additional $1 today when you can have it forgiven and only pay your marginal tax rate, say $0.40 on that $1?

 

[Doctor Bagel]

So go to Sante Fe or Grand Junction. I'm not sure how the salaries in Denver and Colorado Springs and ABQ are compared to the COL, but the COL is significantly less in all those places compared to the coasts, and you get pretty mountains and some city life 🙂

I like Santa Fe a lot, but I think it's fairly expensive, too. NM/CO probably are good options, though. I get lots of emails about places like Montana and Wyoming, too.

 

[Slack3r]

If you're in an income driven repayment program (and hopefully you're in REPAYE) and anticipating forgiveness, you don't want to pay more than the minimum. Why pay an additional $1 today when you can have it forgiven and only pay your marginal tax rate, say $0.40 on that $1?

Is it likely these programs remain in place long enough for forgiveness? I'm worried about making minimum payments for 20+ years, watching my interest balloon to untenable levels and then getting stuck holding the bag when the bottom falls out.

 

[bc65]

No one knows. If you're not going for PSLF, you might do just as well by refinancing and paying off the loans early yourself. Or, pay the minimum and invest the difference. In the worst case scenario, you will have more money in the investment account than you owe in loans and interest, so you wouldn't lose anything by doing PAYE etc. If they give you a big bill later, your investments should be worth more than the loan.

In other words, the loan is at 6.8%, while the investments will average 7% or more, if you do it right. So worst case scenario, you'll break even. If you refinance, you pay 3 or 4% now, I think. With PAYE etc, you're effective interest rate will of course be lower than the full loan, depending on income, etc.

 

[Debt Free Doctor]

I've developed a video discussing IBR, PAYE & REPAYE describing the benefits and concerns with each program. Both IBR & PAYE borrowers can possibly benefit from REPAYE.

This is awesome, thank you for taking the time to help inform everyone.
I like doing the same thing.

 

[DentalDude2012]

Excellent resource! Thanks for posting the video. Had a related question. If my wife enters into one of these income based plans and use married filing jointly in the beginning, can we switch to married filing separate in the next year?

I filed an extension last april so I haven't filed taxes yet, they are due October 16. My AGI last year was around $90k and my wife made essentially 0, but she has $125k+ in debt that we have put into forebearance until she finds a job. We have 3 kids so we are family of 5.

This year, my wife and I could really use the tax refund ($13k if we file jointly), according to the repayment estimator under IBR we would pay $585 a month. If we filed separately she would pay $0 on her loans but we would lose most of the refund.

My current year income is considerably higher than last year, ($300k) so my AGI I imagine will be much higher too. In this case, it would make a lot more sense for us to file separately since my wife's income will still be pretty low (i don't know if it will be $0 but it may be close).

So my question is should we forgo the big refund this year and file separately so we don't raise any flags during the income certification next year when we file separately again? Or can we file jointly this year, pay the $585 a month and get the $13k refund, and then file separately next year when my wife's low income qualifies her for a likely payment of $0?

Thank you so much for your consideration!

 

[SigmaFS]

The mods have identified my video as inappropriate advertising...FYI.

DentalDude - You can switch your filing status from year to year - one year as MFJ, then MFS, and so on. For the 2016 tax year, I would file jointly if in fact your refund will be ~$13k.

Before addressing some of your other comments, a couple of questions:

• Were any loans issued on or before Oct 1, 2007?
• Are they direct loans?
• Do you live in a community property state?

Thanks.