The article below was written by D3’s Adam Glassberg and published in Dental Products Report on May 16, 2016. Link to article in Dental Products Report
No one would argue that dental school is expensive. As a result, many dentists begin their career servicing a massive load of debt. How should dentists tackle this debt load while saving for short- and long-term goals?
For many dentists, taking out student loans is well worth the investment. Becoming a dentist yields the reward of higher earning potential, and the opportunity to do something that they truly enjoy.
Most dental students rely heavily on student loans to make it through dental school. In fact, according to the American Dental Education Association, in 2014, the average educational debt of these graduates was a staggering $247,227. Many dentists are faced with tough financial decisions throughout their career due to their high debt load. Read on for some keys to developing a loan repayment plan.
Distinguish good vs. bad loans
After you graduate, you will want to separate your loans into two categories: good debt and bad debt. Loans with high interest rates or not tax-deductible are bad debt. This includes credit card debt, most auto loans and unsubsidized student loans. Good loans carry low interest rates, and can be deductible against income. Examples of good debt are mortgages and subsidized student loans.
Your debt repayment plan should focus on eliminating the highest interest-bearing (bad) loans first, and working your way to the lowest interest-bearing (good) loans last. This is why you shouldn’t consolidate your loans, because it limits your ability to selectively pay off the bad ones while making minimum payments on the good loans.
Reduce interest rates
Check to see if you can replace bad debt with good debt. How to do this: refinance your mortgage or take out a home equity line of credit to pay off credit card debt or student loans. Another option is to refinance student loans to reduce the interest rate. Be especially cautious when refinancing government loans, as you may lose repayment flexibility by refinancing these loans with a private company. Reducing your rates could potentially save you thousands of dollars in interest or lower taxes over the course of the loans.
Set up auto-pay plans
Not only will this prevent you from missing a payment, but also some direct loans may receive a 0.25 percent interest rate reduction when automatic payments are used.
Set up a manageable debt-repay plan
After graduation, income for dentists can be across the board depending on specialty and career path. Please understand that all plans allow you to make more than the minimum payment, which will decrease the term of the loan and total interest paid. Read on for a few different repayment plans to consider for federal loans:
Standard repayment plan
The standard repayment plan for student loans is the 10-year program. This plan may be appropriate for dentists with a low amount of debt or higher amount of income, but for dentists with a high amount of debt and modest income, the required monthly payment may be too high to service. The main benefit of this plan is the quick payoff (the quicker the payoff, the lower the interest paid over time).
Extended repayment plan
A 25-year extended repayment plan reduces the monthly payments considerably, but increases the interest paid over the life of the loan. This may be appropriate for dentists who cannot afford the monthly payments of the 10-year plan, and like the predictability of the same monthly payment throughout the course of the loan.
IBR, PAYE plans
Many dentists who cannot afford a fixed repayment plan choose the income-based repayment plan (IBR), or pay as you earn plan (PAYE). These plans use a formula that caps your minimum payment to 15 percent (IBR) or 10 percent (PAYE) of your discretionary income, which is typically lower than the fixed-term repayment plans. Click here to determine if you are eligible for either of these plans.
If your circumstances change or if you just decide that you want to pay off your loan faster, you can. Enrolling in an IBR or PAYE plan also allows for debt forgiveness for direct loans. If you faithfully make income-based repayments on time every month, you might qualify for loan forgiveness after 25 years (IBR) or 20 years (PAYE). Don’t forget: the amount of loans forgiven are subject to federal income tax!
If you work for a nonprofit or for a federal, state or local government, you may be eligible for public service loan forgiveness under these plans. Public service loan forgiveness allows debt to be forgiven after 10 years of steady repayments. To have debt forgiven, you need to work full time for a qualified employer, and make all of your payments on time. Loans forgiven under the public service loan forgiveness program are not currently subject to federal income tax.
For many dentists IBR and PAYE plans provide the most flexibility, but come with some disadvantages. Because the minimum payment is based on your income, you need to submit paperwork every year to determine your minimum payment. Also, making the minimum payment means you pay more interest in the long run.
Because income for many dentists significantly increase after the first few years, so will the minimum payments. If this is the case, you probably won’t carry a loan balance after 20 or 25 years, meaning many dentists under these repayment plans are unable to take advantage of the debt forgiveness program unless they are a public service worker.
Because every situation is unique, and not all loans qualify for every repayment plan option, you should seek the help of a financial advisor. An advisor can also help decide when it’s best to save for retirement vs. aggressively paying down your loans. Many advisors have experience helping young dentists, and they can give individual advice for making a debt repayment plan.
-Adam Glassberg CFP®, CIMA®