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Can I Use Home Equity to Pay Off Student Loans

November 13, 2020

It feels great when the work you’ve put in pays off in multiple ways. Whether it’s seeing your blood pressure drop from biking to work or getting a boost to your mood from toiling in the garden, unexpected benefits are always a welcome surprise.

 

So if you’re paying off student loans and a mortgage at the same time, you’ll probably be interested to hear that you can use the home equity you’ve already accrued to pay off your student loans even faster.

 

That might sound enticing, but don’t start drawing up the paperwork just yet – this strategy doesn’t work for everyone. Here’s how to use a home equity loan to pay off your student loans, and why you might want to think twice before doing so.

 

How a Home Equity Loan Works

Borrowers with high interest rates on their student loans can take out a home equity loan and use the proceeds to pay off their student loan balance. A home equity loan lets homeowners withdraw extra equity from their homes to use for any reason, like remodeling the kitchen or paying for a vacation.

 

The money is deposited as a lump sum, and borrowers start making payments on the new loan immediately. Home equity loans usually have fixed monthly payments, and the terms range from five to 15 years.

 

Homeowners need at least 20% equity in the home to take out a home equity loan. This often excludes new borrowers who don’t have enough equity yet.

 

Pros of Using Home Equity to Pay Off Student Loans

Here’s how a home equity loan could help you save money:

 

Could Save on Interest

Interest rates on home equity loans are usually lower than private student loans, which means borrowers can save thousands on interest. As of November 2020, rates on private student loans ranged from 3.82% to 14.50%. Rates on home equity loans are currently between 3.890% and 9%.

 

Let’s say you owe $50,000 in student loans with a 10% interest rate and a 10-year term. If you take out a home equity loan for $50,000 with 5% interest and a 15-year term, you’ll save $8,118 in total on interest. Your payments will decrease from $660.75 to $395.40 a month.

 

Could Decrease Your Monthly Payments

If you want more leeway in your budget, paying off your student loan payments with a home equity loan could free up the cash you need.
For example, if you have five years left on your student loans and take out a 15-year home equity loan, your monthly payments will decrease.

 

If you owe $40,000 in student loans with 10% interest and five years left, you’ll pay $534 less each month if you get a home equity loan at 5% interest and a 15-year term. You can use that extra cash flow to build up your emergency fund, save toward retirement or spend on other necessities.

 

Easier to Qualify for a Home Equity Loan

A home equity loan is easier to be approved for than student loan refinancing because it uses the home as collateral. On the flip side, that means you’ll need to stay current on both your mortgage and home equity loan in order to avoid losing your home.

 

Cons of Using Home Equity to Pay Off Student Loans

Taking out a home equity loan to pay off your student loans sounds like a no-brainer, but there are some huge risks.

 

Can’t Deduct the Interest

Before the Tax Cuts and Jobs Act of 2017, homeowners who took out home equity loans could deduct the interest on their taxes. The TCJA changed the rules so only homeowners who use the funds to repair, remodel or add to their homes can deduct the home equity loan interest.

 

This means there are no tax benefits to taking out a home equity loan to pay off your student loans. However, borrowers may be able to deduct student loan interest on their taxes.

 

Married couples can only take the student loan interest deduction if they file taxes jointly and have a modified adjusted gross income (MAGI) below $140,000. Individuals may be able to deduct student loan interest if their MAGI is below $70,000. Please note, you should consult a tax advisor about your specific circumstances.

 

Risk of Losing Your Home

When you take out a home equity loan, the home is used as collateral for the loan. If you default on a home equity loan, the bank can repossess your house.

 

The risks are much lower for student loans. If you default on student loans, the lender can’t take away your property or rescind your degree.

 

Lose Student Loan Benefits

If you pay off federal student loans with a home equity loan, you lose access to federal benefits and protections. These include income-driven repayment plans, deferment and forbearance.

 

Could Become Underwater on Your Home

If home prices in your area drop significantly, you could end up underwater on your mortgage. This means that your home will be worth less than the remaining loan balance.

 

Being underwater makes it impossible to refinance your mortgage or sell the house, because the sale price won’t make up for the loan balance.

 

Will Have to Pay Closing Costs

You’ll have to pay closing costs on a home equity loan, usually between 2 to 5% of the loan. In this way, a home equity loan is similar to a mortgage refinance.

 

If your home equity loan is $25,000, for instance, you’ll pay between $500 and $1,250 in closing costs. Sometimes you can roll these closing costs into the mortgage, but you’ll often have to pay them upfront. Lenders don’t charge closing costs on student loan refinances.

 

What to Do Instead

Instead of taking out a home equity loan, you may be better off refinancing your student loans to a lower interest rate. Refinancing student loans lets you save on interest without putting your home down as collateral.

 

To see if you qualify for student loan refinancing, contact an ELFI representative today. They can go over the steps and see if you qualify.

 


 

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The information contained in this blog is intended for educational and informational purposes only and should not be construed as legal, financial or tax advice.

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Woman thinking about using credit card to pay down student loans
2020-11-30
Should I Pay Student Loans with a Credit Card?

Paying off student loans can be a challenging process, so it’s natural to look for creative ways to accomplish your goal. One question some student loan borrowers have asked is whether they can use a credit card to pay student loans.    Technically, it is possible, but it’s generally not a good idea. Here’s what you should know before you try it.  

Can You Use a Credit Card to Pay Student Loans?

Unfortunately, making monthly student loan payments with your credit card isn't an option. The U.S. Department of the Treasury does not allow federal student loan servicers to accept credit cards as a payment method for monthly loan payments.   While that restriction doesn’t extend to private student loan companies, you’ll be hard-pressed to find one that will offer it.   That said, paying off student loans with a credit card is technically possible through a balance transfer. Many
credit cards offer this feature primarily as a way to transfer one credit card balance to another, and if you’re submitting a request directly to your card issuer, that’s typically the only option.   However, some card issuers will send customers blank balance transfer checks, which gives you some more flexibility. For example, you can simply write a check to your student loan servicer or lender and send it as payment. Alternatively, you can write a check to yourself, deposit it into your checking account, and make a payment from there.   Balance transfer checks often come with introductory 0% APR promotions, which give you some time to pay off the debt interest-free. That said, here are some reasons why you should generally avoid this option:  
  • Once the promotional period ends, your interest rate will jump to your card’s regular APR. The full APR will likely be higher than what your student loans charge.
  • Balance transfers come with a fee, typically up to 5% of the transfer amount, which eats into your savings.
  • Credit cards don’t have a set repayment schedule, so it’s easy to get complacent. You may end up paying back that balance at a higher interest rate for years to come.
  • Credit cards have low minimum payments to encourage customers to carry a balance, which could cause more problems. 
  • You won’t earn credit card rewards on a balance transfer, so you can’t count on that feature to help mitigate the costs.
  So if you’re wondering how to pay student loans with a credit card, it is possible. But you’re better off considering other options to pay down your debt faster.  

Can You Use a Student Loan to Pay Credit Cards?

If you’re still in school, you may be wondering if it’s possible to use your student loans to pay your credit card bill. Again, technically, yes, it is possible. But there are some things to keep in mind.    The Office of Federal Student Aid lists acceptable uses for federal student loans, and private student lenders typically follow the same guidelines. Your loans must be used for the following:  
  • Tuition and fees
  • Room and board
  • Textbooks
  • Supplies and equipment necessary for study
  • Transportation to and from school
  • Child care expenses
  If you incur any of these expenses with your credit card, you can use student loan money to pay your bill. However, if you’re also using your credit card for expenses that aren’t eligible for student loan use, it’s important to separate those so you aren’t using your loans inappropriately.   Also, the Office of Federal Student Aid doesn’t list credit card interest as an eligible expense. So if you’re not paying your bill on time every month and incurring interest, be careful to avoid using your student loan money for those expenses.  

How to Pay Down Your Student Loans More Effectively

If you’re looking for a way to potentially save money while paying down your student loans, consider student loan refinancing   This process involves replacing one or more existing student loans with a new one through a private lender like ELFI. Depending on your credit score, income, and other factors, you may be able to qualify for a lower interest rate than what you’re paying on your loans right now.    If that happens, you’d not only save money on interest charges, but you could also get a lower monthly payment.    Refinancing also gives you some flexibility with your monthly payments and repayment goal. For example, if you can afford to pay more and want to eliminate your debt faster, you can opt for a shorter repayment schedule than the standard 10-year repayment plan.    Alternatively, if you’re struggling to keep up with your payments or want to reduce your debt-to-income ratio, you could extend your repayment term to up to 20 or even 25 years, depending on the lender.    Keep in mind, though, that different refinance lenders have varying eligibility requirements. Also, just because you qualify, it doesn’t necessarily mean you can get more favorable terms than what you have now.   However, if you’re having a hard time getting approved for qualifying for better terms, most lenders will allow you to apply with a creditworthy cosigner to improve your odds of getting what you’re looking for.   Before you start the process, however, note that if you have federal loans, refinancing will cause you to lose access to certain programs, including student loan forgiveness and income-driven repayment plans. But if you don’t anticipate needing either of those benefits, it won’t be an issue.  

The Bottom Line

If you’re looking for ways to pay off your student loans more effectively, you may have wondered whether you can use your credit cards. While it’s possible, it’s generally not a good idea. Also, if you’re still in school, it’s important to be mindful of how you’re allowed to use your student loan funds, especially when it comes to making credit card payments.   A better approach to paying down your student loan debt is through refinancing. Take some time to consider whether refinancing your student loans is right for you, and consider getting prequalified to see whether you can get better terms than what you have on your current loans.
Woman learning how to start investing with student loans
2020-11-27
Should You Save, Invest or Pay Off Student Loans?

One of the questions many students grapple with as they begin life post-college is whether to invest or aggressively pay off their student loans. Figuring out when to start investing can be a complicated issue, especially if you’re worried about how much student loan debt you ended up with after college.   The good news is that it’s possible to start investing while paying student loans. However, everyone needs to make a decision based on their own situation and preferences. As you consider your own choices, here’s what to consider when deciding whether to start investing with student loans.  

Should I Invest When I Have Student Loan Debt?

When you have student loan debt, it’s tempting to focus on paying that down—just so it isn’t hanging over your head. However, there are some good reasons to invest, even if you’re paying off student loans.    The benefits of investing include:  

Compounding Returns

The earlier you invest, the longer your portfolio has time to grow. When you invest, you receive compounding returns over time. Even small amounts invested consistently can add up down the road. If you decide to wait until your student loans are paid off before you invest, you could miss out on several years of potential returns.  

Tax-Deductible Interest

If you meet the requirements, a portion of your student loan interest might be tax-deductible. If you can get a tax deduction for a portion of your interest to reduce its cost to you, that could be a long-term benefit. It’s not the same as not paying interest at all, but you reduce the negative impact of the interest. For more information about this option, speak with your financial advisor.  

Returns on Investment May Exceed What You Pay in Interest

The long-term average return of the S&P 500 is 9.24%. If you qualify for a tax deduction on your student loan interest, you can figure out your effective interest rate using the following formula:   Student loan interest rate x [1 - your marginal tax rate]   If you fall into the 22% marginal tax bracket and your average student loan interest rate is 6%, you could figure out your rate as follows:   6 x [1 - 0.22] = 4.68%   Long-term, the potential return you receive on your investments are likely to offset the interest you pay on your student loans.   Don’t forget, too, that if you decide to refinance your student loans, you might be able to get an even lower rate, making the math work out even more in your favor if you decide to invest.  

Student Loan Forgiveness

Another reason for investing with student loans is if you plan to apply for forgiveness. If you know that you’re going to have your loans forgiven, rushing to pay them off might not make sense. Whether you’re getting partial student loan forgiveness through a state program for teachers or healthcare workers, or whether you plan to apply for Public Service Loan Forgiveness, you might be better off getting a jump on investing, rather than aggressively tackling your student debt.  

A Word of Caution About Investing

While investing can be a great way to build wealth over time, it does come with risk. When paying off student loan debt, you have a guaranteed return—you get rid of that interest. With investing, you aren’t guaranteed that return. However, over time, the stock market has yet to lose. As a result, even though there are some down years, the overall market trends upward.    If you don’t have the risk tolerance for investing while you have student loans, or if you want the peace of mind that comes with paying off your debt, you might decide to tackle the student loans first and then invest later.  

How to Start Investing

If you decide to start investing while paying student loans, there are some tips to keep in mind as you move forward.  

Make at Least Your Minimum Payment

No matter your situation, you need to at least make your minimum payment. You don’t want your student loans to go into default. Depending on your income and situation, you might be able to use income-driven repayment to have a lower payment and then free up more money to invest. Carefully weigh the options to make sure that makes sense for your situation since income-driven repayment can result in paying interest on student loans for a longer period of time.  

Decide How Much You Can Invest

Next, figure out how much you can invest. Maybe you would like to pay down your student loan debt while investing. One way to do that is to determine how much extra money you have (on top of your minimum student loan payment) each month to put toward goals like investing and paying down debt. Maybe you decide to put 70% of that toward investing and the other 30% toward paying down your student loans a little faster. There are different ways to divide it up if you still want to make progress on your student loans while investing.  

Consider Retirement Accounts

If your job offers a retirement account, that can be a good place to start investing. Your investment comes with tax benefits, so it grows more efficiently over time. Plus, you can have your contributions made automatically from your paycheck, so you don’t have to think about investing each month.  

Use Indexing to Start

Many beginning investors worry about how to choose the “right” stocks. One way to get around this is to focus on using index funds and index exchange-traded funds (ETFs). With an index fund or ETF, you can get exposure to a wide swath of the stock market without worrying about picking stocks. This can be one way to get started and take advantage of market growth over time. As you become more comfortable with investing, you can use other strategies to manage your portfolio.  

Bottom Line

It’s possible to start investing while paying student loans. In fact, by starting early, you might be able to grow your portfolio for the future even while you work on reducing your student loan debt. Carefully consider your situation and research your options, and then proceed in a way that makes sense for you.
Recently married couple with student loan payments
2020-11-25
How Marriage Can Impact Your Student Loan Repayment Plan

For better and for worse, marriage can really change your financial situation. The tax bracket you fall into, the investment rules you need to follow, even your financial priorities can, and likely will, change after you tie the knot.

 

That principle also holds true when it comes to student loans. Getting married can help, hurt or simply alter your student loan repayment trajectory.

 

Read below for a breakdown of the most important things to consider when it comes to marriage and student loans.

 

Marriage Will Affect Income-Driven Repayments

Borrowers with federal loans on an income-driven repayment plan may end up paying more every month when they get married.

 

These plans include:

  • Revised Pay As You Earn Repayment Plan (REPAYE)
  • Income-Based Repayment Plan (IBR)
  • Income-Contingent Repayment Plan (ICR)
  • Income-Sensitive Repayment Plan
 

The federal government will include your spouse's income when calculating your monthly payment. You may see a huge increase in the amount due if your spouse earns significantly more than you.

 

Let’s say you earn $50,000 a year and owe $80,000 in student loans with a 5.3% interest rate. If you choose an income-driven plan, your monthly payment will range between $257 and $621, depending on the specific plan you choose.

 

If you marry someone whose Adjusted Gross Income (AGI) is $100,000, your monthly payment under an income-driven plan would increase to between $1,024 to $1,035 a month. You could end up paying tens of thousands more over the life of the loan.

 

Only the REPAYE plan won’t factor in your spouse’s income, assuming you file taxes separately. However, filing taxes separately can hurt your overall bottom line because you may miss out on significant tax deductions and credits. Talk to an accountant to see which filing status is best for your financial situation.

 

If you earn much more than your spouse, you may see your payments decrease or only slightly increase when you get married. You can use the official federal loan simulator to see how your payments will change.

 

May Lose Student Loan Interest Deduction

Borrowers may be able to deduct up to $2,500 in student loan interest on their taxes, whether they itemize or take the standard deduction. But only those who earn below a certain amount are eligible for this deduction. For more information about this option, speak with your financial advisor.

 

In 2020, single borrowers whose Modified Adjusted Gross Income (MAGI) was $70,000 or less may be able to deduct the full $2,500. Those with a MAGI between $70,000 and $85,000 may be able to take a partial deduction. Individuals who earn more than $85,000 do not qualify for the deduction.

 

Married couples may be eligible for the deduction if their MAGI is less than $140,000. The deduction is reduced for couples whose MAGI is between $140,000 and $170,000, and is eliminated for those whose MAGI is more than $170,000.[1]

 

If you currently qualify for this deduction, you may lose that eligibility if you marry someone who pushes your income past the threshold. Also, you cannot claim this deduction at all if you file taxes separately. This is another instance where filing taxes separately may not be worth it.

 

Legal Responsibility

Federal student loans remain the borrower’s responsibility, even if they die or default on the loan. The government won’t request payment from a spouse for their husband or wife’s student loan balance.

 

Private loans are different based on state laws as far as protocols for handling the original borrower’s death. Contact a local attorney if you have questions or concerns. Borrowers who are worried about leaving their student loans behind can increase their life insurance payout to compensate.

 

Divorce Impacts Student Loans

In most states, you're only responsible for the loans incurred in your name, unless you’re a cosigner. But if you or your spouse take out private student loans while married, the other person may still be liable for them even if you get divorced.

 

A prenuptial or postnuptial agreement can sometimes work around this. Make sure to have a qualified lawyer draft one of these agreements if this is a concern.

 

Make Payments Easier

Most couples find that their overall living expenses decrease when they get married because there's someone to split the rent, utilities and groceries with. This can free up more money for student loans.

 

Married borrowers may also be less likely to miss payments or default on their loans if they lose their job, because their spouse can pick up the slack. Obviously, this only holds true if both spouses have sources of income.

 

Can Cause Disagreements

Statistically, money is one of the most common reasons for divorce. Conflict can easily arise if one person is bringing in $100,000 of student loan debt and the other person is debt-free. The debt-free spouse may feel burdened, while the indebted spouse may feel shame and judgment.

 

Before you get married, discuss how you want to handle the student loan situation. Should you keep finances separate until the borrower repays the balance, or should you combine your incomes and knock out the debt together?

 

Marital counseling can help both parties work through these issues before they become a major problem, and a financial planner can help couples formulate a strategy that works best for everyone.

 

Your Spouse Can Cosign

If you were denied a student loan refinance because of your income or credit score, you may be a better candidate with a cosigner. Most lenders consider a spouse an eligible cosigner if they have a good credit score and stable income. Refinancing your student loans to a lower interest rate can save you hundreds and thousands in interest.

 

Having your spouse co-sign on your refinance means they'll be legally liable if you default. This will also impact their credit score and show up on their credit report, so make sure your partner understands what they're agreeing to before cosigning on your refinance.

 

Refinancing your student loans involves a simple application process. Explore the ELFI website today to learn more about student loan refinancing.