Here’s a transcript of the video…
Should you repay your student loan? It’s a query I’m requested on a regular basis, actually because individuals have checked out their statements and are going: “Ah! The interest keeps adding up, what should I do?”, or as a result of life’s going nicely, you’ve got bought somewhat little bit of spare money and also you wish to know what to do with it.
Now I’ve answered this query many occasions earlier than, however usually I speak about Plan 2 student loans. Those are those for present students in England or Wales, or anybody who began in England and Wales since 2012.
But numerous individuals are on Plan 1 loans and I get requested this too, so this video is nearly these loans. Now Plan 1 applies to anybody who began college wherever within the UK between 1998 and 2011, and Scottish and Northern Irish students who began from 2012 onwards, together with these there presently.
It’s necessary to grasp many of the messages within the media are about Plan 2 loans, however the Plan 1 loan works fairly in a different way, which implies the logic of whether or not you need to pay it off is totally different too.
Plan 1 loans work in a different way to Plan 2 loans
Now with the Plan 2 loans – keep in mind English and Welsh students from 2012 onwards – the borrowing’s massive and most of the people will not repay what they borrowed plus the curiosity in full earlier than the 30 years when it wipes. In which case, it is in all probability not a good suggestion for many to try to overpay – and I’ve bought guides on the positioning the place you possibly can go and browse that.
But let’s simply look at among the variations between the Plan 1 loan and the Plan 2. First of all, with Plan 1 loans you borrow much less as a result of tuition charges are usually decrease or non-existent than the Plan 2 loans. You even have a a lot decrease rate of interest, so the debt will not develop as rapidly, and also you repay far more.
On Plan 1 loans, your repayments are set as 9% of all the things you earn above £18,935, whereas with Plan 2, it is 9% of all the things above £25,725.
In different phrases, on precisely the identical earnings, individuals on Plan 1 loans pay far more annually. You put all these issues collectively – decrease borrowing, much less curiosity and also you’re repaying extra – and it means you’re much more more likely to clear what you’ve got borrowed earlier than the debt wipes. As for when the debt wipes, it is complicated. It relies upon by which county you went to college and if you began. It may very well be 25 years after you graduated, 30 years after you graduated or if you hit age 65. You have to go and look that up.
Work out whether or not you are more likely to repay your student loan in full
Now this idea of whether or not you’ll clear what you’ve got borrowed plus curiosity earlier than the debt wipes is essential for making the choice of whether or not you need to overpay or not.
If you are unlikely to clear it – which for Plan 1 loans is just going to be these individuals on comparatively low incomes – then the curiosity that you simply see in your assertion is not actual, since you would solely pay all of the curiosity for those who clear it earlier than the debt wipes. Otherwise, you are going to pay lower than all of the curiosity and probably lower than you borrowed within the first place.
But, as a result of most individuals on Plan 1 loans will clear all the things that you simply borrowed plus the curiosity earlier than it wipes, which means your curiosity in your statements is actual. So we are able to do a direct comparability between it and what you’d earn saving or what you’d earn with different borrowings. So let’s examine that rate of interest now.
Now, the rate of interest on Plan 1 loans is considerably difficult as a result of it is primarily based on the decrease of two figures, so you must take a look at two to determine what it’s going to be. It’s both the speed of inflation – the RPI charge which modifications each September primarily based on inflation the prior March – or the Bank of England base charge +1%. Now that is presently 1.75%, whereas from September 2019, this one goes to be 2.4%. So, 1% plus the Bank of England is the rate of interest that you simply pay. This is essential. As you possibly can see, the utmost curiosity you’ll ever pay is the speed of inflation, and that theoretically means there’s truly no actual price to your student loan. Now that is perhaps actually complicated, so let me try to clarify it to you.
Now inflation is all concerning the charge at which costs rise. So one thing will price you extra in a few years than it does proper now, however then individuals will are inclined to earn extra in a few years than they do proper now, and all the things goes up in an analogous stage. You know, 200 years in the past somebody who earned £100 a yr could be very wealthy, they would not be wealthy now. It’s all about relative prices.
So to make this straightforward, lets say if you go to college your tuition charges and upkeep loan complete £10,000 – sufficient to purchase you 100 £100 purchasing trolleys price of products. There you go. The subsequent yr, these purchasing trolleys would possibly all price £101, the yr after £102, after which £105, after which £110. But as a result of your charge of curiosity is about, at most, on the charge of inflation, all you may ever should repay again is, at most, 100 purchasing trolleys’ price of products at no matter that prices sooner or later, primarily based on no matter earnings are sooner or later, and that’s the definition of no actual price.
Now you may keep in mind I defined that your rate of interest is about, at most, on the charge of inflation, or it may very well be the Bank of England base charge +1% as it’s proper now, which is decrease than inflation. And that truly means, in technical phrases, your student loan is shrinking.
So if we had been to take this purely on a theoretical evaluation, you positively do not wish to overpay your student loan, as a result of the debt’s shrinking, not rising, in actual phrases. But that is the speculation, so let’s transfer on to apply.
Compare the price of your student loan vs different makes use of of money
In sensible phrases, what you must analyse will not be the price of your student loan vs inflation, however the price of your student loan vs different makes use of of money. So for those who can afford to overpay it and also you’re more likely to clear the loan earlier than it wipes, what else might you do with the cash?
Now it is necessary to grasp your student loan is the most affordable long-term loan you’ll ever get, set at a most of the speed of inflation and it has higher phrases too, so that provides it head begin. The first query it asks you is: “In the future, will you ever need other forms of commercial borrowing?” A mortgage, for instance, or a private loan. Undoubtedly, they are going to be costlier than your student loan. You know, an ordinary mortgage charge is 4-5%. OK, you may get a less expensive deal earlier on, but it surely’ll be far more costly than the student loan is correct now. Personal loans may very well be 10-15%, credit playing cards 20%, and I will not go into hideous types of lending which are costlier than that.
So what you would not wish to do now whilst you’ve bought spare money is overpay your student loan, however then should borrow it again from a mortgage or a credit card in future if you want it. So if these are believable occasions, do not overpay your student loan, maintain the money liquid.
But extra so, even for those who would not be borrowing sooner or later, the very fact is the student loan rate of interest on Plan 1 loans is presently 1.75%. You can earn 2% curiosity in a one-year mounted financial savings account – on the time I’m filming this anyway. So you possibly can truly earn extra money in financial savings than your student loan is costing you. And that clearly means, each as a result of it offers you a security internet – you already know, put the money in financial savings, you are each incomes greater than the debt’s costing you, and in case it’s essential borrow again in future, you’ve got bought a security internet – I definitely wouldn’t be paying off a Plan 1 loan.
Now you would possibly say to me: “Hold on. What about if in the future, inflation goes up and savings rates don’t keep up, so the interest is costing me more than I can earn in savings, and I don’t want to borrow anywhere else?”
Well in that case, all I’m suggesting right here is you lock your cash away for a most of 1 yr. So on the finish of that one yr, if the state of affairs has modified and also you wish to clear the Plan 1 loan, you possibly can.
The solely different caveat may very well be if we overlook this pure monetary logic, which is what I’m basing it on, and likewise take a look at you as an individual. Do you belief your self? Do you are inclined to splurge and have unhealthy impulse management? In that case, you would possibly wish to think about – although it does not add up – overpaying your student loan, as a result of not less than then the cash is doing one thing good.
Once you determine to overpay, you possibly can by no means change your thoughts
But do keep in mind, when you make the choice to overpay, you possibly can by no means change your thoughts. So if in future you had been to lose your job and begin incomes lower than that roughly £19,000 threshold the place you begin to repay, so you haven’t any student loan repayments to make, you would not then be capable of take this a refund.
So usually, do not overpay your student loan on a Plan 1. And for those who’re in a kind of uncommon circumstances the place you suppose it is perhaps price doing, suppose very, very fastidiously, as a result of when you do it, you possibly can’t change your thoughts.
I do know that is all been difficult. I’ve tried to take it fairly slowly and I hope all of it is sensible. I count on a few of you would possibly wish to watch it by way of a few occasions, and I’ll put a transcript of this in my weblog, so you possibly can learn it by way of slowly.
But if I am going again to it, my massive abstract – for those who ask me: “Should I overpay my Plan 1 student loan?” For most individuals, the reply is not any. Put it in prime financial savings as a substitute.