Student loans have suddenly become newsworthy. Despite only minor changes in their terms and conditions, the media has recently been filled with reports of how costly student loans can become.

This is an issue that has concerned us for some years, and many of those with the loans are now beginning to see large amounts being deducted from their salaries to make the payments, whilst their loan balances remain the same or increase.

We’re often asked whether it makes sense to give money to the graduate so that they can repay some or all of the loan. It’s also becoming increasingly common for graduates to inherit money, and loan repayment is an issue we always consider.

But, of course, there isn’t a “one size fits all” answer.

When we look at the maths, we can see that there are two groups who shouldn’t repay their loans:

• Those with low incomes – if your income is under £30,000 and unlikely to be much more than that throughout your working life, on an inflation adjusted basis, it is unlikely that your loan repayments will be large, so it doesn’t make much sense to repay.
• Those with very high incomes – if your income is £200,000, your loan balance will be repaid quickly as your repayments will be around £16,000 per year.

Only a small number of graduates will fall into these groups, and it’s important for everybody else to consider what to do. Loan repayments are made from net income (after tax and NI), and a typical repayment for a graduate earning £55,000 would be about £200 per month, which is a significant proportion of net pay, at a time when other costs may be high.

There are some calculators online, which can help with the maths; however, these tend to assume that a graduate’s salary will increase by a margin over inflation every year throughout their working life. Our experience is that graduate salaries increase sharply in the early years of work, followed by more modest increases in later life. However, the calculators are a good starting point, and, based on the assumptions used, they show how much the student loan will cost and how much of the loan (if any) will be written off by the government at the end of the term.

It is important to consider the impact of a partial repayment. It does seem unfair, but if you make a partial repayment, it doesn’t make any difference to the amounts you pay in subsequent months. There are also situations when making a lump sum repayment simply reduces the amount that the government writes off at the end of the loan period, so some care is needed, before making a partial repayment.

However, the maths is only part of the decision-making. We think that you should also consider the following:

• Career Breaks. If the graduate has a career break, then no payments will be made. The longer the career break, the less attractive repayment is.
• You Can’t Ask for your Money Back! Once you have made a repayment, you can’t change your mind and ask to re-borrow the money in the future. The finality of the loan repayment makes it a less attractive option.
• Impact on Future Borrowing. Despite apparent assurances to the contrary, lenders don’t simply ignore the monthly loan payments you make when calculating how much they will lend you. Lenders might not consider the outstanding loan balance, but they will include the monthly payments when considering affordability.
• Other Factors. The structure of the payments can have an impact on the incentive to earn more; many graduates will find that more than half of any increase in their earnings is taken up by a combination of student loan payments, tax, National Insurance and pension contributions. Whilst all of these may be a fact of life, they can have an impact on the incentive to take on a role which may involve more responsibility or longer hours. Some people also simply feel uncomfortable with debt, and others are concerned that politicians may change the terms of the loans for the worse in the future.

Good financial planning can help to reduce the impact of the student loan. Some types of pension contribution reduce the amount of student loan repayments, for example. Likewise, if you are able to control your income (e.g. if you have your own company and can choose how much you withdraw every year), then you can use this to your advantage. Taxable investment income (even if it is reinvested) also has an impact on the amount of the monthly payment, so it can be helpful to make use of ISAs to reduce taxable income.

The conclusion is that you should think carefully before taking any action or making a repayment. This is one area where good advice can have a real impact. 

Philip Wise | philip@sussexretirement.co.uk

Managing Director and Chartered Financial Planner

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This blog is for information purposes and does not constitute financial advice, which should be based on your individual circumstances.