I'm running two posts this week about student loans, this one today and a guest post tomorrow. Today's post will be about whether or not to refinance as a resident, a very complicated topic. Tomorrow's post will deal with the slightly easier topic of whether or not to go work for a non-profit (assuming that's an option for you) after residency and will demonstrate how to run the numbers.
I am now getting almost daily emails or comments from residents trying to decide if they should refinance their loans as a resident, or stay in the PAYE program throughout residency and then try to get a job with a 501(c)3 and go for PSLF upon graduation. It is an important, but complicated, question, and there are no easy answers. But here are some things to think about as you make your decision.
Principle # 1 If you're sure you won't work at a 501(c)3, refinance.
If you absolutely know you won't be working for a 501(c)3, then refinance as soon as you can (assuming DRB or anyone else who gets in on the resident refinance act will refinance you.) Although you may wish to leave any subsidized loans (if you are lucky enough to have any) out of the mix until residency graduation, the lower your rate on the unsubsidized loans the less interest you will pay back. Besides, the $100 DRB payments may be lower than your IBR or PAYE payments. See Principle # 6 for an exception to this rule-i.e. if you have really high debt to income ratio.
Principle # 2 If you're sure you will work at a 501(c)3, don't refinance.
It would be a relatively rare situation for someone who is going to go work at a 501(c)3 to be better off refinancing instead of getting forgiveness. If you're going to work at a 501(c)3 throughout residency, fellowship, and early attendinghood, enroll in PAYE (IBR if you don't qualify) and get your PSLF. Remember, once you refinance, no more forgiveness. The rare exceptions to this rule would be someone whose residency IBR/PAYE payments are equal to their full payments (small loans or highly paid spouse) or someone who forgot to enroll in IBR/PAYE as a resident (don't do that.) Another exception would be if the difference between your current rate and the refinanced rate were small (or even negative.) No sense in giving up options unless you're adequately compensated for it with less accrual of interest.
Principle # 3 If you are not sure, then calculate the cost of your option.
The best way to calculate the cost of your option is to apply with DRB (or whoever else joins the club.) If your average loan rate is 7%, you have $300K in unsubsidized loans, and DRB offers you 4% fixed, then the cost of the option is (7%-4%)*$300K= $9K per year. That's $27K over a 3 year residency (actually a little more thanks to compound interest) and twice that if you add on a 3 year fellowship. Now you have to weigh some other difficult to measure factors such as the likelihood of being able to get a job at a 501(c)3, the attractiveness of available 501(c)3 jobs and their location to you, and the difference in pay in your specialty between 501(c)3 jobs and non-501(c)3 jobs (if any.) If the option is worth paying for you, then pay it, but if you get to the point in a year or two where you're sure you're not going to work at a 501(c)3, then refinance. Sure, it cost you a little extra interest to keep that option open, but that's just business.
Principle # 4 Weigh the risk of not getting PSLF.
It is worthwhile running the numbers in your particular situation, just so you understand what you are looking at. First, let's consider a doc with $300K in 7% unsubsidized loans. Let's assume he just makes 10 years of equal payments (maybe his spouse has a real job while he's a resident or something.) What do the payments look like?
Well, he pays $3,559 a month, or $42,713 per year for ten years and then the loans are gone.
Well, what if he decides to enroll in the PAYE program and go for PSLF? Let's assume that spouse isn't working and he has two kids. Let's also assume a $50K income (AGI) as a resident and a $250K income (AGI) as an attending.
Now his payments as a resident are $113 per month, or $4,068 over the course of his residency. Upon finishing residency, he will owe $363,150. His payments at that point will be $1780 per month, or $21,360 per year. After 7 years of paying $21,360 he still owes $398,295, which is then eligible for PSLF. He owes MORE than he took out in medical school and even more than he owed at the end of residency. How is this possible? Well, remember that 7% of $363K is $25,410 a year. Even his attending payments aren't covering the interest on this debt!
That brings us back to the risk issue. If you lose your 501(c)3 job and can't get another, or the government limits the program to just $57K (proposed by the Obama administration last year), or whatever, you will still owe a ton of student loans, more than you took out despite paying on them for ten years. If you're not comfortable taking that risk, then either refinance your loans early in residency and plan to pay them off, even if you do end up in a 501(c)3, or save the difference between your PAYE payments and the payments that would actually make the loan go away in 10 years from med school graduation up in a side account. Then, if something happens, liquidate the side account and pay off the debt. If nothing happens, and forgiveness materializes, then you've got a pretty decent boost to your nest egg.
Social Finance (SoFi)
Principle # 5 Whenever possible, use PAYE instead of IBR.
IBR offers no advantages over PAYE. If you can get PAYE, don't use IBR. PAYE has lower required payments, and thus more tax-free forgiveness if you get PSLF (10 years), and even if you never get PSLF, you get your taxable forgiveness 5 years earlier with PAYE (20 years) than with IBR (25 years.) To be eligible for PAYE, you must have no loans from prior to October 1, 2007, and have at least one loan from later than October 1, 2011. Otherwise, you're stuck with IBR.
Principle # 6 If heavily indebted and unable to work at a 501(c)3, consider IBR/PAYE forgiveness instead of refinancing.
The only real calculation to be made is for a relatively rare situation- this is someone whose debt is large compared to their attending income, but for some reason cannot or will not work at a 501(c)3. Most docs will pay off their loans prior to getting any PAYE or IBR forgiveness at 20 and 25 years respectively, but not if the debt is large compared to the income. If you are in this situation, you have to run the numbers. Consider this internist with an income (AGI) of $180K, debt of $400K at 6.8% that could (theoretically of course, since he may be turned down) refinance at DRB for 4% on a 10 year (after residency) fixed. Should he refinance or go for PAYE or IBR forgiveness? Let's assume a resident income of $50K and a family of four with no other income. Let me show you how to do this.
- Calculate your PAYE or IBR payments as a resident.
- Calculate your PAYE or IBR payments as an attending.
- Will you get forgiveness or pay the loans off? If you will get forgiveness, how much? If you will pay the loans off, when and after paying how much in interest?
- Calculate your total payments paid and total time to pay off if you refinance. Also ensure the payments are doable.
Okay, so step 1 is done by using handy dandy calculator such as this one for PAYE and this one for IBR. (You don't have to do both, just the best one you qualify for.) The PAYE calculator says $113 a month, or $1,356 per year. The IBR calculator says $170 a month. (Keep in mind if you are married and your spouse has income that your financial situation may be better if you file Married Filing Separately, even if it costs you more in tax.)
Step 2 is done the same way, just change the income and the loan amount. The income is easy. For the loan amount, you use the original $400K if you're in PAYE, but must use a Future Value calculation in a spreadsheet like Excel if you're in IBR.
=FV(6.8%,3,170*12,-400000) = $481K.
Now, under PAYE, your payments are $1197, or $14,364 per year. Since the interest on your loans is more than that (almost twice that), you should qualify for forgiveness after 17 years of attendinghood. The total payments until that time can be easily calculated at $1197*12*17+113*36= $248K.
Under IBR, your payments are $1795 a month, or $21,540 per year. Again, that's less than the interest on the loans, so you will get forgiveness after 22 years of attending hood and will have paid $1795*12*22+170*36= $480K.
Now, if you had refinanced at the start with residency with DRB at 4%, and made $100 payments during residency, and then payments amortized over 10 years afterward, you would finish residency owing:
=FV(4%,3,100*12,-400000) = $446K
Payments on that are $55K year, or $4584 per month. After 10 years, you would have paid $554K, more than with PAYE or IBR.
When Refinancing Wins
But what if we change nothing except the loan amount? What if the doc owed $200K instead of $400K? Under refinancing, the doc would have only paid $277K total. Under IBR, he would have paid for 17.8 years:
=NPER(6.8%,1795*12,-(FV(4%,3,170*12,-200000)),0) = 17.8
17.8 * 1795 * 12 = $383,412, over $100K more than he would have paid if he had refinanced (plus he's in debt for 7.8 years longer)
PAYE seems to still comes out a winner. The lower payments don't quite cover the interest, so there is still gobs of money to be forgiven after 17 years of attending payments, which total the exact same $248K. While this is $29K less money than with refinancing, you are also in debt for 7 years longer. To make matters worse, all that forgiveness is taxable. So add on $50-80K in taxes, and refinancing becomes the right move.
The smaller the debt, the better refinancing will work when compared to PAYE/IBR. The truth of the matter, however, is this: If you qualify to refinance your loans, that will probably work out better for you than going for IBR/PAYE forgiveness. If DRB won't refinance you, you should take that as a sign that you're better off making payments for a long time and getting IBR/PAYE forgiveness, even taxable forgiveness. Better yet, bend over backwards to find a 501(c)3 job and get tax-free PSLF a decade sooner.
What do you think? Have you been weighing refinancing your student loans as a resident versus staying in the government programs? What have you decided and why? Comment below!