Our Top 4 Strategies for Paying Off Your Student Loans:
If you’re like many young adults in America, you know the heavy burden of student debt. In this post, we will share our top 4 strategies for paying off your student loans – something that is all too common now with rising education costs!
We can debate if student loans are still worth the return on investment in another post (the growing cost has tripled the rate of inflation). For now, let’s assume you are here because you already have loans to repay.
The federal government has resumed student loan interest and repayment schedules as of September 2023, and payments will be due again in October 2023. Don’t fret yet if you’ve forgotten about loans you had on pause. Luckily, there is a grace period until September 2024 for late payments, and they won’t be reported to debt collection agencies or the credit bureaus.
We have paid off over $90,000 worth of student loans in under 2 years. We want others to learn from our mistakes and discover the 4 different strategies for paying off student loans.
Whether you are a new grad figuring out life beyond school, or a long-time holder of debt (minimum payment party, anyone?), these approaches will help you! Now, our top 4 strategies for student loan repayment.
1. The Snowball Strategy
This method was popularized by Dave Ramsey, and is more useful for the emotionally driven loan payer. It capitalizes on the positive momentum you feel when paying off a loan completely.
The idea is pretty simple: pay off your smallest loan first. This is in addition to paying all your monthly minimums, but excess funds will always go towards the smallest loan.
You’ve probably noticed that your loans are broken up into many smaller loans. Some are subsidized, others are unsubsidized. The important part here is that they will have different dollar values (…and interest rates, but more on that later).
If you imagine a snowball rolling down a mountain, it will gather speed and size as it travels. You will use the “debt snowball” to pay off the smallest dollar amounts until you reach the bottom of the mountain and all your loans are gone!
Use those small wins to make total loan repayment seem less daunting. This method of student loan repayment capitalizes on innate human psychology, and breaks a big obstacle into manageable portions.
Now, I can hear all the mathematicians in my audience screaming, “That’s not the most efficient way to pay off loans. You’re throwing money away!” This is technically true, but we aren’t always logical creatures.
These emotional wins go a long way to keep you motivated. Paying off student loans is a marathon, not a sprint, and you might need the long-term positivity that the snowball method brings!
2. The Avalanche Strategy
This is where my math lovers can rejoice. The avalanche method was designed for more logical thinkers, or people who just want their dollars to go further.
If you are highly self-motivated and have a burning vendetta against your student loans, the avalanche method will be a great fit for you.
Just like the snowball method, the avalanche method requires you to make the minimum monthly payments. Before, we mentioned that each loan will have a unique interest rate. The avalanche method requires you to pay off loans with the highest interest rate first.
High-interest loans will naturally accumulate faster than lower interest loans. Paying them off first ensures you can get ahead of debt.
Let your loan repayments vanish like a skier caught in an avalanche!
This is the strategy we primarily used when paying off our own student loans. To learn more, check out our post Paying Off Our Student Loans: $90,000 in 2 Years.
3. The Loan Arbitrage Strategy
Let’s first give a definition for arbitrage. Simply put, it is when someone takes advantage of market inefficiencies. These inefficiencies are usually caused by rapidly changing interest rates.
We at NYOP love the avalanche, but it’s still not the most optimized loan repayment strategy depending on your current student loan interest rates. There is one more step to elevate your financial strategy.
The loan arbitrage method is designed with the “order of investments” in mind. If your student loans qualifies as low-interest debt, you should consider how you will prioritize your money allocation.
As a reference, this is our personal order of our investments:
This method can make your dollars go even further than the avalanche method. One big caveat: this method only works if you have student loans with low interest rates, and other interest earning accounts (like high yield savings accounts, HYSA) are offering higher returns.
Student loans currently require have interest rates between 3 and 8%, but many high-interest savings accounts are paying more than 5% annual percentage yield (APY) at this time.
*At the time of writing in February 2024; there is no guarantee AAPYs will remain this high.*
If you can put cash into a HYSA with an APY greater than your loan’s current interest rate, then you can be making money instead of just paying off low-interest debt.
The greater the difference in these rates, the less you will be paying long-term on student debt. Invest in a high-yield account, and keep making minimum monthly payments. The growth of your HYSA will outpace your loans interest!
The biggest risk of this method is that HYSA APYs are not guaranteed and can change at any time. Some rates may even change immediately after you sign up.
Typically, when APYs increase, lenders are charging higher interest rates for loans and credit cards. This is because bank savings rates are linked to the federal funds rate set by the Federal Reserve.
If you do choose this method, the key is having a student debt payoff plan. When APY on your HYSA dips below your debt’s interest rate, you will resume either the Snowball or Avalanche method.
The ultimate goal: limit the amount of money you are losing to interest payments. This can be one of the best strategies for paying off your student loans.
Click here for some examples of good APY funds at the time of writing listed by NerdWallet, then you can compare them to your student loan interest rates.
4. Money Prioritization Strategy
This is the last of the 4 strategies for paying off your student loans. It is also the most broad, and can run in tandem with the other methods. It boils down to two main approaches – prioritize your budget, and increase your savings rate.
Prioritizing your money and budget means exactly what you think. Make a list of what you will intentionally spend your extra dollars on.
Becoming debt free will be priority number one, especially if your loan interest rates are above 5%! Still unsure of how to prioritize your extra dollars? Check out this post on how we determine where to prioritize our money to give us the best returns!
Lastly, a high savings rate will be crucial for paying off loans quickly, which will allow you to pay more than the minimum monthly amount.
Your budget may already be tight, but seek out areas in your spending you can reduce. Check out how we personally cut costs while paying off $90,000 in student loans.
With financial discipline and consistency, your student loans will be paid off before you know it. Capitalize on those small mental wins – make good financial behavior feel like its own reward.
The Next Steps After Paying Off Your Student Loans…
We hope after reading each of these 4 strategies for paying off your student loans you develop a plan of your own and feel more confident that you CAN do this!
You are definitely not alone when it comes to having student loans. The best advice we can give to you is to find the plan (or plans) that work best for you and stick to it!
If you want to expedite your debt free plans, it is imperative you start by setting financial goals. Check out our post on setting your best financial goals, which will help inspire you to transform your financial future!
After figuring out your goals and making a plan to achieve them, we recommend you check out our posts 7 financial habits we use to save money and 10 ways to reduce your grocery bill. Every dollar counts, especially when interest is NOT working in your favor.
With this saved money, we also want you to understand how to best make your money work for you. If you aren’t sure where you should put this additional saved income, be sure to read our post onour order of investmentsto know where your next dollar should go.
Intentional saving paired with intentional investing is a powerful combination!
Finally, when you begin your debt free life, keep the same financial habits and discipline you developed while paying off your student loans. These habits will help you tremendously in your future financial goals, especially if you want to achieve financial independence!
Check out our other posts!
- Barista FIRE: How to Semi-Retire Early and Enjoy Life
- Coast FI in our 20s: The Best Type of Financial Independence
- How To Invest Your First $1000 (So You Can Retire Early)
- Simple Investing Tips For Beginners
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