Is it more financially beneficial to pay off loans (approx. $100,000) during residency to reduce debt immediately or to invest and then pay off loans after residency? I figure it comes down to time--the benefit you gain from investing earlier vs. the increased interest you have to pay by deferring loan repayment. Which is the best overall strategy in the opinion of the posters here?
I vote for paying back our student loans over a long a period as possible, which currently is 30 years. I also don't think one should get too concerned about how much interest one would end up paying if they pay back their loan over 30 years. The more appropriate comparison is how much your investments are worth at the end of the 30 years under the two different scenarios. My student loan debt is close to $200k, so I will use that in the calculations. BTW, I hope this also helps illustrates the importance of time and compound interest with regards to investing.
Scenario 1: Pay off Loans early(over 5 yrs), and invest later
Loan period: 5 years
Interest rate: 2.8%
Monthly loan payment:$3575
Total interest paid: $14,559
Then invest $3575 monthly for 25 years:
if earn 11% annually (i.e. expected return from investing in stock market or index fund), then your investment will be worth $5,634,676.
if you only earn 4%, then your investment will be worth $1,838,013
Scenario 2ay back loans over 30 years
Loan period:30 years
Interest rate 2.8%
Monthly loan payment:$821
Total interest paid:$95,843
By choosing scenario 2, you can start investing immediately, but you have less money (because of your loan payment) to invest each month than under scenario 1. To make sure we are comparing apples to apples, if I have $3575 to pay back loans and invest in scenaio 1, then we have that amount to divide up between monthly loan payments ($821) and investing in scenario 2. Thus, the amount you have to invest is $3575-$821, which is $2754 per month.
Then invest $2754 monthly for 30 years:
if you earn 11% annually (i.e. expected return from investing in stock market or index fund), then your investment will be worth $7,723,647.
if you only earn 4%, then your investment will be worth $1,911,412
Whether you earn 11% or 4% on your investments, you end up ahead by spreading your student loan payments out over 30 years. Although, you might have ended up saving $80k in interest under scenario 1, this "savings" comes at the expense of having less money to invest right away and thus deprieves you of an additional five years of compound interest working in your favor. Thus, scenario 1 leaves you with $2 million (11% rate of return) or $70k (4% rate of return) less than scenario 2 at the end of 30 years.
I hope this helps,