Personal Finance

Money Matters: Evaluating student loan forgiveness plans

Q. Like many of my peers I’ve graduated from college with significant federal student loan debt. A friend of mine is taking a public service job that he says will allow him to make low payments as well as having a significant amount of his debt forgiven. I’d never thought about working for a public service organization. I always associated those jobs with low pay and the reason I went to college was to increase my earning power. It would be nice to be debt free after ten years but how does one decide if the trade-off for lower pay is worth the debt forgiveness?

A. Congratulations on your degree. By making some assumptions you can run the numbers to see if it makes sense financially to seek out public service work and qualify for loan forgiveness. Job satisfaction, stability, future career advancement opportunities and benefits are also factors that should be taken into consideration. Before I get into numbers, there are two repayment plans for those with federal student loans of which you should be aware. These repayment plans can be much more favorable than the standard 10 year repayment plan.

One is the income based repayment plan (IBR). This plan determines the payment amount based on income and family size. Monthly payments are capped at 10 percent of your discretionary income, the length of the loan is limited to 20 years and after that any remaining balance is forgiven. For this purpose, discretionary income is determined by taking your adjusted gross income (AGI) and subtracting 150 percent of the poverty line. In 2015, the poverty line for a single person is $11,770 so the amount to be subtracted from your AGI is $17,655. If you get married and/or have children, the poverty line is higher but any spousal income must be included in the AGI calculation unless you file separately.

The other is the public service loan forgiveness (PSLF) plan, which I assume is the one about which your friend was talking. The PSLF forgives any remaining loan balance after 10 years of payments and qualified employment. Qualified employment must be full-time with a federal, state or local government organization; a 501(c)(3) nonprofit organization or other nonprofit organizations that provide specified public services. This debt forgiveness may off-set the potentially lower income in these qualified employment organizations compared to incomes in the private sector. These plans can be used simultaneously.

Assuming you have $40,000 in federal student loan debt and the interest rate is 5 percent, the 10-year standard repayment would be $424.26/month for a total repayment of $50,011.20. Assuming your income is $40,000 and you are filing single, under the IBR repayment plan, your monthly repayment amount would be $186.20/month for 20 years for a total repayment of $44,69.00. If you were to find a public service job earning the same amount, your total repayment would be $22,344 ($186.20 multiplied by 120 months). The assumptions used don’t account for increases in salary or in the poverty rate. If you think your earning potential in the private sector is at least $2,500/year more than in the public sector and if public service has never been of interest, you are probably financially better to seek employment in the private sector.