Americans’ student debt loads are poised to lighten up and people are making plans on what’s next for their freed-up cash. Borrowers appear to have two prime targets in mind: getting current on their other debts and getting ahead in their investment portfolio.
That’s according to a MarketWatch poll that quizzed borrowers on their post-debt cancellation financial plans.
In late August, President Joe Biden announced that the government will be forgiving up to $10,000 in student-loan debt for people with federal student loans and up to $20,000 for Pell grant recipients. Borrowers have to earn under $125,000 a year in order to be eligible. Payments are scheduled to resume in January 2023 on the student loans that have been paused since the pandemic’s March 2020 start.
The debt relief, made possible through an executive order, has inspired cautious applause from borrowers bogged down by debt, who are now waiting for more details. It’s also prompted sharp criticism from people without student loans to cancel.
While people await more details about the application process for forgiveness (and as some critics mull legal action to block the plan), some of MarketWatch’s readers say they know what they’ll be doing when they don’t have student loan payments to worry about anymore.
Investing was the top vote-getter when MarketWatch put out a poll on Twitter TWTR,
Nearly four in 10 people (39%) said they would invest and in second place, 35.6% of voters said they would be paying down other debts.
Here are the full results:
Admittedly, it’s one unscientific poll conducted via social media. And MarketWatch, by its very name, is focused on markets and the economy, so it might not be a stretch to think online followers would have their investment portfolio top of mind.
But making more investments and paying off other debts are surely valid next steps for borrowers, no matter who’s doing the voting.
There are more than 43 million student loan borrowers owing around $1.6 trillion, according to the Federal Reserve Bank of New York. The largest share of them, more than one quarter, had balances between $10,000 and $25,000 by the end of last year. Around three-quarters of the benefits from the forgiven debts would go to households making up to $88,000, according to Penn Wharton Budget Model estimates.
This form of financial relief creates specific personal-finance questions. Debt forgiveness would alleviate a future obligation and free up more cash now. But it’s not a stimulus check that pops into a bank account and provides instantaneous extra money.
Furthermore, federal student loan payments have been paused for the last two and a half years. In that time, inflation has heated up and possibly eaten at money that would have gone towards payments. Choppy stock markets and economic slowdown worries might also make some people shy away from more investments.
When borrowers are thinking about how to use money unlocked by student loan forgiveness, Larry Pon, a Redwood Shores, Calif. accountant and financial planner, suggested they ask themselves, “Where is this money coming from if you weren’t spending it already?”
One method could be to review the monthly student loan payments that applied before the pandemic and linking that sum, or a portion of it, to an account away from your regular checking account, said Andres Garcia-Amaya, founder and CEO of Zoe Financial.
That way, a person could avoid watching the freed-up money get drained by regular expenses or frittered away with impulse buys, said Garcia-Amaya. Zoe Financial is a platform that helps people find vetted financial advisers based on their location, specialties and investing approaches, and Garcia-Amaya noted people have been increasingly looking for advisers who can offer guidance on student loans since the Biden administration announcement.
For all the people thinking about what to do next, MarketWatch asked financial experts to weigh in. The most important thing is being sure there’s enough to pay the bills and get by in the moment right now. After that, the paths can vary depending on the particular financial facts.
The smart way to pay down other debts
“The first question somebody should ask is, ‘What is the interest rate I am paying for my debts?,’” Garcia-Amaya said.
In a time of increasing borrowing costs, debts with higher interest rates, like a credit card balance, should be at the top of the to-go list, Garcia-Amaya, Pon and others say. If a person has lingering credit card debts, Garcia-Amaya said he’s hard pressed to think of many investment scenarios with double-digit rates of return that can match interest rates in the high teens that a person has to pay right now.
On lower-costing debts, there’s more nuance when considering interest rates to face now versus potential investment returns, he said. But credit card debt is a glaring example at a time when Americans have roughly $890 billion in credit card balances.
The typical annual percentage rate (APR) for a new credit card offer was 17.96% at the end of August, according to Bankrate.com. That rate surpasses a recent pre-pandemic high of 17.87%. The rates could likely go higher because credit card rates are directly influenced by the Federal Reserve’s own key interest rate; central bankers sound ready to keep pushing it up in the fight against inflation.
There are other ways to reduce debt, like the so-called “snowball” method, where a person extinguishes the smallest debts first and then moves up to bigger debts, no matter the rate. It’s supposed to build the mental momentum of getting debt-free.
Paying off high-interest debt first may be more mathematically efficient, but the emotional boost may be more valuable for some people. “We can always use the best psychology we can get,” Pon said.
When investing makes more sense
For the person with low-interest debt (perhaps a mortgage refinanced early in the pandemic) and some cash to cushion unanticipated shocks, investing could be a good next step.
It’s necessary to think what the investing is for, and when the money needs to be accessed.
If it’s a long term goal like a comfortable retirement, beaten-down stock prices now could be bargains offering rewards in the decades to come, Bloomington, Minn. financial planner Grant Meyer of GTS Financial previously told MarketWatch.
Equity ETFs can also be a good wager for the longer investments, Jackie Fontana, a financial planner and portfolio manager at FBB Capital Partners told MarketWatch at the time.
“History tells us that the stock market has a high probability of being higher in 10, 20, and 30 years from now. That’s the perfect investment for your retirement or another goal that will happen decades from now,” said Tara Unverzagt of South Bay Financial Partners in Torrance, Calif.
But if it’s closer goal, like a down payment on a house or money for more education in the coming years, Unverzagt said the person needs to dial down the risk by a lot.
Conservative, highly liquid accounts like a money market fund could be a good place to put freed up money in this instance, Garcia-Amaya said.
“You don’t want to put it in something speculative like the stock market. History shows that in any given 1, 3, 5, or even 10-year period, the stock market could be down,” Unverzagt wrote. “Don’t set yourself up for a fire sale at the worst time of the market cycle. Or worse, postponing that house purchase or grad school for 5 years until the market recovers.”