Parent Plus loans offered by the U.S. Department of Education and education loans marketed by private lenders seem to be the easy answer in the moment for many parents who wrestle with a moral imperative to send their kids to college. Even if they’ve saved for college, increasing costs have caught many of them unprepared for getting all their kids to and through school. Yet these loans can prove to be a real detriment to retiring on time or with enough resources to sustain the lifestyle they had imagined.
Many pre-retirees or newly retired households may realize they have found themselves in a pickle and will knock on our door, asking how best to dig themselves out of this circumstance. These same households are often accelerating mortgage payments to have a paid-off-home in retirement, while making little to no progress on the student loan debt they co-signed for years ago.
Then there are the legislative issues to sort through.
Loan Forbearance and Cancellation
The forbearance program offered during the pandemic allowed parents to hit the “pause button” and they are now faced with resuming payments in October 2021.
Loan cancellation — a promise Joe Biden made on the campaign trail — is also on the forefront of every borrower’s mind. Why rush to pay off debt that could magically be wiped away?
A detailed timeline regarding this issue is available from Nerd Wallet. The most compelling sign that some amount of student loan cancellation will happen emerged on March 11, 2021, when President Biden signed the American Rescue Plan Act.
“Buried in the fine print is a provision that makes any student loan forgiveness tax-free from December 2020 through December 2025 …”
Buried in the fine print is a provision that makes any student loan forgiveness tax-free from December 2020 through December 2025, literally paving the way for student loan debt to be cancelled without the consequence of that cancelled loan value being tacked onto taxable income in the year of forgiveness.
This is no small development, and we owe it to our clients to help them navigate through this uncertainty.
Tackling an Elephant
As an example, I am working with parents right now that have over $57,000 of Parent Plus loan debt between mom and dad and another $90,000-plus in private loans they co-signed for with their youngest of four children. The loan rates range from 6.3% to 8.875%. The couple wants to retire in five years and is struggling with how best to tackle this elephant on the balance sheet.
The first thing I did was hire a certified student loan professional (CSLP) to do a behind-the-scenes analysis of their eligibility for an IDR (income driven repayment) plan and/or an ICR (income contingent repayment plan). The CSLP also looked at the REPAYE (revised pay as you earn) option and their eligibility for the Public Service Loan Forgiveness (PSLF) program.
Admittedly, the repayment options related to federal student loans are ridiculously complicated (talk about alphabet soup!), but I wanted to make sure I didn’t miss an opportunity for my clients because I don’t operate in these weeds on a daily basis. Because they are not willing to work another 10 years before retiring, the opportunity to double consolidate and make 120 consecutive payments in an IDR plan that qualifies for the Public Service Loan Forgiveness plan is off the table.
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This does, however, leave us with some worthwhile options for debt consolidation that improve cash flow and tax efficiency.
Rolling Student Debt into a Mortgage
We will begin by rolling non-deductible interest for the private loans (this household is phased out of student loan interest deductibility due to their combined adjusted gross income) into a new first mortgage. They’ll be replacing their existing 15-year mortgage with a 30-year mortgage. This locks in a low interest rate, lowers the 7% to 8% non-deductible student loan interest to 3.25% deductible interest on $90,000-plus of outstanding debt. A little tax break with lower combined monthly payments helps this couple on the cash flow front for the last five years before retirement.
Until the decisions are made on federal loan cancellation, we will resume making minimum payments. Everything at this point is speculation, but we will consider changing their tax filing status (move from married filing jointly to married filing separately) so mom will qualify for loan cancellation. Dad makes too much money based on the stated income threshold of $125,000 for loan cancellation from the Biden administration. Obviously, we have until the end of 2021 to change their tax filing status but this single move (including any increase in total tax paid) might result in more than $23,000 of debt evaporating from their balance sheet.
Additional Reading: Helping Adult Children Pay Off Student Loans
How do we demonstrate value when we are operating in a world of uncertainty and changing rules?
In their book Who Not How, Dr. Benjamin Hardy and Dan Sullivan make the case that leveraging the expertise of others is clearly the way to have more impact and do better, faster, for more people. I would not hesitate to engage a CPA or attorney for significant or specialized planning needs; college loans at this level and at this stage of the game fall into that category of detailed expertise. Connecting with a financial professional that specializes in the complexities of student loan repayment plans gives me the confidence to deal with this situation now and in the future.
Beth V. Walker is a wealth advisor with Carson Wealth Management and founder of Center for College Solutions, which is based in Colorado Springs, Colo. She can be reached at [email protected] or 719-522-2278.