Student debt: to pay or not to pay?
The Covid-19 pandemic has changed higher education, with a new emphasis on online learning mixed with some in-person teaching. But this hasn’t reduced the cost or debts associated with going to university.
Undergraduate freshers will begin their studies this autumn. Most students in England will have taken out maintenance loans, plus tuition loans (of up to £9,250 a year). Different systems apply in the devolved nations, with Scottish students charged up to £1,820 a year in tuition fees at Scottish institutions.
Usually it makes sense to use surplus funds to pay off debts early. But graduates – or their helpful parents – should think carefully before using capital to repay student loans. This is because any outstanding debt on Plan 2 loans (the system introduced in 2012) is wiped out after 30 years.
Student loans attract interest like any other debt, which accrues while students are studying. The rate is 3% plus the Retail Prices Index (RPI), so currently 5.4%.
Subsequent rates are earnings-dependent, and repayments only start once graduate salaries reach a certain threshold. For the 2020/21 year this is £2,214 a month — around £26,500 a year. Students then pay 9% of their salary over this amount, so those earning £3,000 a month will pay 9% of £786 — or £70.74 a month.
This is the same monthly repayment whether they owe £20,000 or £80,000: paying off a chunk of capital will not reduce this monthly bill.
The larger the loan, the longer it will take to repay. But considering the 30-year limit, many students will not pay back more overall. Current projections suggest that 83% of students who have taken out a Plan 2 loan will not repay the full amount.
For these students there seems little financial benefit to paying the debt off early: it may simply mean a smaller sum is written off at the end of the term.