Financial Planning For Resident Physicians, Item #9 Dig Yourself From Under The Mountain
This is the tenth article in a series dedicated to helping the resident physician take steps to put their house (financial and otherwise) in order. My previous articles on the subject may be found here.
It’s been rare that I’ve met with a young doctor that I don’t hear about how crushing the student loan debt feels.
You probably have a lot of debt. If you don’t, consider yourself exceptionally blessed among your MD and DO peers. The good news is that you’re going to be making a great deal of money to wipe out that debt in the future. The other good news is that the government has created some favorable income-driven repayment plans to help you manage your federal student loans during the lean years associated with residency.
The problem is with so many (complicated) options, it can be difficult to know which path to take. At the end of the day, your unique situation will dictate the plan. With student loan planning there is no one size fits all approach. Either you, or someone else is going to need to hit the books to determine what the best course of action is.
In the case of student loans, tens of thousands, or even hundreds of thousands of dollars may hinge on your decisions.
Your financial advisor may not know much about student loan planning.
It might be surprising to you that many financial advisors know little or nothing about student loan planning. You would think that their training and experience would prepare them to speak to such an important topic. Unfortunately, even well-regarded programs such as the CFP®️, have practically no training that prepares advisors to counsel you properly on your student loans.
How you pay your advisor also influences their motivation for understanding student loan planning. If they are paid based on product sales or from extracting fees from your investment accounts, there may be little motivation for them to understand how to best advise you regarding student loans.
Student loan planning is extremely complicated. The Certified Student Loan Professional (CSLP®️) designation can be a helpful indicator of whether your financial advisor has some preliminary training in student loan planning, and a basic understanding of the risks associated with the advice they provide.
Should you take advantage of mandatory forbearance during residency?
As a resident physician you qualify for mandatory forbearance. The forbearance is “mandatory” because the lender is obligated to give it to you—not because you are obligated to take it. In fact, it’s almost certain that you should avoid it.
During mandatory forbearance you are not required to make payments. At all. While it sounds appealing, interest will continue to accumulate and at the end of the forbearance period, all of that accrued interest will capitalize. Meaning that the interest becomes a permanent part of your loan balance and interest begins accruing on that amount as well.
Most residents should avoid this because of the availability of income-driven repayment plans that make loan payments during residency much more manageable.
Income-driven repayment plans.
There are four basic income-driven repayment plans. Income-contingent repayment (ICR), income-based repayment (IBR), Pay As You Earn (PAYE), and Revised Pay As You Earn (REPAYE). Income-driven repayment plans base your monthly payment off a percentage of your “discretionary income.” Discretionary income is your adjusted gross income (AGI) minus 150% of the poverty line for your state. The poverty line also varies by family size.
Because discretionary income is affected by your AGI and family size, planning opportunities arise for reducing your monthly payment when you can reduce your AGI—such as contributing to pre-tax 401(k) plans—or when your family size increases.
While a manageable payment is highly desirable during residency, don’t be surprised if you experience negative amortization. Negative amortization is the process whereby your loan payments are not enough to cover interest and your total student loan balance continues to swell.
Each of the income-driven repayment plans has unique factors that may make them more or less desirable for your given situation. Because of this, it can be difficult to determine which plan is right for you. Your income, marital situation, current and near-future family size, post-residency job prospects, and other factors will need to be considered as you carefully plan this part of your financial journey.
Should you refinancing during residency?
A limited number of companies will refinance your student loans during residency. The first question to answer when considering refinancing during residency is whether or not you will pursue Public Service Loan Forgiveness (to be discussed in more detail later). If you are absolutely certain that you won’t do Public Service Loan Forgiveness (PSLF), you may consider refinancing. Under this strategy, you are attempting to obtain a low interest rate now so that less interest accrues, and then throw a lot of money at the loans once your income increases. It’s not a bad line of thinking considering that the longer it takes you to pay back your loans, the more money it is going to cost you over time. Decreasing the interest rate and decreasing the repayment period can save you money.
However, it’s not always that simple. For example, under Revised Pay As You Earn (REPAYE), monthly payments are limited to 10% of discretionary income AND the government forgives 50% of your monthly unpaid interest. Meaning that your effective interest rate under REPAYE may be lower than the rates being offered by the student loan refinance companies. In that case you may be better off switching to, or keeping your loans under REPAYE, and refinancing once you complete residency.
Public Service Loan Forgiveness (PSLF).
Public Service Loan Forgiveness is a federal program allowing for forgiveness of student loans under qualifying circumstances. Many physicians are attracted to the prospect of having their student loans forgiven. If you decide that PSLF is right for you, your strategy will be to reduce payments as much as possible, thereby generating the greatest amount of tax-free loan forgiveness.
To qualify for Public Service Loan Forgiveness you must:
make payments under a qualifying plan (income-driven repayment plans qualify);
make 120 qualifying payments (120 monthly payments = 10 years minimum); and
work at a qualifying institution—in most cases, a 501(c)3 entity.
A little technical, but still seems simple enough? The PSLF program began in 2007, so the earliest that anyone could receive forgiveness was in 2017. In late September 2018, the Education Department reported that only 96 individuals of the 28,624 applications for PSLF were granted forgiveness. Over 70% of borrowers who applied didn’t meet at least one eligibility requirement prescribed above. The other roughly 28% had incomplete applications and were therefore rejected.
What’s the future of PSLF? No one can predict with absolute certainty, but it’s my opinion that we’ll see more and more people receive forgiveness over time. If the program is retired, I would be surprised if current participants were not grandfathered in. That being said, nothing in this world is certain, and it is prudent to prepare for worst case scenarios. Perhaps that’s one of the reasons why James Dahle, author of The White Coat Investor blog, recommends saving up a side fund in case PSLF goes by the wayside and you don’t benefit from it for one reason or another.
Seems like prudent planning to me.
Some final thoughts.
Student loan planning is complicated and the answers to your questions are determined by your unique situation. It’s important that you understand your options so that you can make an informed decision. Either you, or someone else, needs to do the necessary homework to determine the best path for you to pursue.
These are my opinions, unless I’ve specifically cited other material. The information and ideas I’ve presented are for information purposes only. Before you implement anything, make sure you have a thorough discussion with a qualified professional who understands your situation.