Thursday, 23 April 2015

Why I Am Happy to Have a Student Loan (in the UK) and Not Repay it Early

With the UK General Election fast approaching (has anyone in the UK noticed it yet?) the issue of university tuition fees and student loans has--as usual--become a hot topic. It got me thinking again about my relationship with my student loan.

I consider myself an incredibly lucky person. I have been given the opportunity to get an extremely good education.

I was the first person in my family to go to university. And it was the start of a long and invaluable process. I have since undertaken a Masters and then--as if that was not enough--my Doctorate.

Thankfully, with both my Masters and Doctorate I was generously funded. But like so many, for my first degree I had to take on a comparatively large debt to take up the opportunity.

All in all, that is about £21,000. A lot of money.

I won't lie to you, watching the letters pop through my door every year telling me how much has been added to my total loan is not my favourite letter.

But whilst I was working between my undergraduate and postgraduate degrees I seriously considered overpaying on my repayments. After all, being debt free is best isn't it? Luckily I did not do this.

Not all Debt is Equal

As I have increasingly read personal finance blogs you regularly come across posts on clearing all debt before investing.

I fully subscribe to this for most people. But if you got a student loan in the UK and got it between 1998 and 2012 I'd advise thinking more about whether this is the best thing to do.

So why will I not repay it early? Let's have a whistle-stop tour of reasons:
  • Credit History--It has no impact on my credit history. None whatsoever.
  • Loan Interest--I am not being hit by "bad" compounding. My loan--unlike those the students I am teaching--will be worth the same (or even less) in real terms as when I first took it out. Why? Because the interest rate will always be either the Bank of England base rate +1% or the rate of inflation--whichever is lower! As a result, although the nominal value I owe will continue to grow the real value will remain the same at worst.
  • Disaster Protection (Part 1)--I only have to repay when I have a job. In other words, if I lose my job (unlike other loans) I also no longer need to repay my loan. 
  • Disaster Protection (Part 2)--If I die or am no longer fit to work the loan is wiped. Similarly, anything left of my balance after 25 years is also wiped. As such, if a disaster does befall me debt will not be left for me or my family to pick up.
All in all, it is a pretty attractive loan. As a result, I have became rather at ease with having this particular debt "hang over my head."

As it is currently constituted, it feels rather more like an umbrella protecting my financial future (through the benefits of the education it provided) than an axe threatening it.

That's great news in anyone's book!

Caveats and "Conclusions"

Of course, I recognise that any readers outside of the UK--I am thinking the US in particular here--students loans are not such a malign force in their lives.

However, in the particular situation outlined above, it seems that higher education in the UK is the best leveraged investment I have come across. As such, I am happy to sit with my student loan letters carefully filed beside me. A pleasant reminder of how fortunate I have been.

After all, it is the best investment I have made.

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  1. Hi D2,

    Congrats on your Masters and Doctorate - I'm wondering if I should start calling you D3 now - Doctor Dividend Drive! :)

    I caught the introduction of student loans / freezing of grants when I was at Uni in the UK in the late 80s / early 90s, so my loan was pretty small and the interest rate was negligible. So I just let it run to term like you, although back then I was spending my money and not investing it. Also like you I was the first in my family to go to Uni and it was a great investment.

    The US is much higher in terms of student debt and the interest rates - I can't imagine how much you'd run up doing a graduate and post-graduate degree here, although some companies may help employees with tuition fees. The system seems pretty open-loop really; degrees are in demand so tuition goes up because it can.

    Debt is generally viewed negatively and there can be psychological value in paying it off early. But personally speaking, if a loan is low interest then I'd rather have $10,000 of debt and $20,000 in assets generating income; than $0 in debt and $10,000 in assets because I put money towards paying the debt early. That's why I tend to look at wet worth as a more important value than total debt.

    Over here any loan that is repaid on time without missed payments improves your credit score; your score might even be higher than someone without a loan I think.

    Best wishes,

    1. Thanks, DL. The D's get too much don't they!

      I have been very lucky to have the opportunity to have such an extensive education.

      I was brought in a very poor family in which any debt beyond that necessary for living was seen with intense suspicion. It was a big choice for me to choose to go to university as my parents did not fully understand how the benefits could outweigh the cost. They supported me, but were worried about it. They soon realised the value luckily.

      I also worked very hard before my undergraduate and again before my Masters in order to build up cash reserves. Indeed, much of that saved cash is currently being used for investments.

      Exactly, I can't imagine I would have had any HE opportunities in America as I struggled with myself in justifying the anticipated £20,000 odd in the UK even knowing how favourable the debt was.

      The amount US education costs is horrific. I was offered an opportunity to study in the US for my Masters but the funding--although significant--barely scratched the surface of the actual costs. It actually made me quite queasy looking at the figures!

      Yes, one of my friends paid off his entire student debt shortly after graduating. This was because he wanted to be debt free. I understand the impulse massively. But with the student loan as it is set up for me and him alike it makes no real sense.

      My portfolio is about £23,000 in total now. So around the same level as my student debt. However, whereas the "interest"/inflation change is usually about £250 a year at the moment my portfolio I set to throw out nearing 4 times that amount in dividends (assuming all ex-dividend dates were included). Puts it in context! (I may add a little bit on this in my above post, don't know why I forgot to in the first place!).

      Exactly, in the US context (and many others) much if not none of the above applies. Similarly, for current students in the UK things are not quite as pleasant but they are not that awful either.

      My chief focus on this was because many UK FIers start off chiefly reading US blogs (although the UK community is growing) which may lead some UK FIers a little astray as they may mistake the harsh US student debt structure with their own softer UK student loan. That would be, in my mind, a major mistake for the exact reason you noted above. The money is better focused on building assets!

      Thanks for the comment as always,DL. Very interesting.

      PS: Still love "wet assets". Wonderful turn of phrase!

  2. Hi, I have two sons who both incurred a fair (but not massive) amount of student loan debt and I appreciate what you are saying. My eldest son has now paid his loan off in full via his salary but the younger one (who has just finished his PhD is yet to make a start. I don't think the loan was/is a particular worry to either of them, for the reasons you mention - which are very valid.

    It would be great if all students (and their parents) were educated enough about finance to be able to look at things the way you do. Unfortunately many kids, especially those from backgrounds that used to be called "working class" worry about walking into debt and a loan of this kind can be a brake on them taking up the massive advantages that education can give. This unfortunately does skew educational advantage towards those who come from wealthy backgrounds who tend not to worry so much about debt as they know they can always fall back on the "Bank of Mum and Dad". It's a real shame. If only we could go back to the much fairer system that got me my university education - means tested LEA grants.

    Interesting post. Thanks.

    1. I look forward to hopefully repaying my loan in full from my wages like your son. I have made a start. But still some way to go! I am certainly keen to repay it so that it can benefit the next generation.

      That is exactly my experience. As someone from a working class background my parents had an understandable terror of debt in almost all forms. This they, of course, passed onto me. It did make the decision of university far, far harder to make from a more emotional than logical reasoning. I suspect if I had been going to university as the fees are structured today I would not have gone. That saddens me a lot. It is a different type of "money ceiling" which stops many people. Yes, it may be accessible to working-class students in real terms much the same way as it is to middle-class students. However, the perception of that accessibility is completely different because the benefits are not as obvious to those who have not experienced such educational experience indirectly (through parents, siblings, etc).

      I know from experience that the "Bank of Mum and Dad" is closed in many cases. I for one knew this from the outset. As a student I was, actually, quite often "earning" more than my parents. This was certainly the case once I was at Masters and PhD study. Knowing before you even start that this safety net does not exist can often lead to a feeling of the "risk" of university education and its costs as being greater than it actually is.

      Financial education really needs to be improved in the UK (and indeed worldwide). It is so complex nowadays and yet also so simple. Unfortunately, although many universities provide something along these lines it is too late by that stage. Financial education is something that should be started early. As you say, this is where educating the parents becomes important.

      It is hugely important it is done. It would hopefully reduce the amount of genuine bad debt and other poor financial decisions being made. It is not a financial panacea but it at least gives people the opportunity to make sound financial decisions.

      Do congratulate your youngest. Finishing a PhD is a remarkably punishing (but rewarding) process in a way many don't appreciate. He should be proud as punch, I hope!

      Thanks for dropping by and commenting!

  3. Interesting post DD - you should be out telling youngsters how it is, instead of them getting frightened by our own press about being 'lumbered' with outrageous debts and loans! Compared to the US folks. it's really not bad at all.

    I'm like DL, I caught the introduction of student loans in the early 90s. In my final year, I had both a means tested grant and a loan. I didn't really need the latter so took advantage of the Tory government selling off the utility companies, bought electricity shares (Manweb) and the profit I made when I sold them funded a 4 week holiday in the Far East!

    I graduated with only the loan and bank overdraft totalling around £2k. The loan I just paid off in instalments.

    So by the age of 24, I was debt free. If only I'd stayed that way haha!

    1. Exactly. The key thing is that people start to appreciate that not all debt is the same. Some is better than others. Some, in fact, is not even a negative. Other than my student loan I have no debts whatsoever. I have had credit cards for years (two of them) which are paid off, in full each month. UK student loans--of the old type--are very, very good.

      Nicely played by you there with your loan and grant. You took advantage of an opportunity well! Was that your first taste of share ownership?

      This is the thing, I am likely to sit with student debt for some time (certainly I hadn't paid it off by the age of 24!). I plan to keep myself otherwise debt free for as long as possible (except maybe a mortgage). Hopefully this gives me a head start!

    2. Yes, that was my first taste of share ownership, with an official paper share certificate! I just watched the share price go up and up and sold not long after!

      Since that experience, I had always equated share ownership with buying low and selling high, I'd never heard of buying and holding for dividends until when I came across the PF/FI blogging community, hence my reluctance to buy shares until recently as I knew I didn't want a trading strategy and that's all I knew about the stock market.

    3. Paper certificates. I can honestly say I have never had a proper paper share certificate! In a way, I am a little sad about that!

      I think that is true of many people. They think of trading rather than investing when they think of the stock market. And rarely do they even think of dividends. It is another area where financial education would be useful. Get people aware early on!

      Dividend investing does seem to be a growing interest to people. This may be one of the big benefits of this continued low-interest environment. People are seriously having to think outside their usual comfort zone. Will it be a lasting sea change of thought? I don't know. We will have to wait and see!

  4. Well Said DD!

    It is a little niggle for me to have it there, but for all the reasons you've stated above, it doesn't make sense to overpay it. Mine is currently resting at £5300 (ish). I could pay it off it days if I wanted to, but why risk that?

    That £5,000 in investments will earn much more than I'll pay for my loan. The interest per year for me is around the £100 mark. My investments should comfortably cover that interest a couple of times over.

    Great post, thanks for sharing.

    Is there an election coming up?! :-)


    1. Thanks, Huw. My pleasure.

      I agree, it remains a little niggle for me too. Psychologically it would be lovely to be able to wipe it away. But logically it makes no sense whatsoever. Eventually it will be whittled down to nothing. What a great feeling that will be. But I can endure a little psychological discomfort every now and then!

      Exactly, even a modest yielding portfolio should throw out more than the annual inflation growth--"interest" if you prefer!--of the loan. In a way, hopefully the letters will now just be a reminder of the progress I have made with my investing rather than any psychological "burden" the debt represents!

      It is also quite pleasing to be able to think: "I could pay this off, but don't need to." As I have said before, investing for income has a greater motivation for higher savings rate than paying off a debt. As a result, a malign debt like a student loan would also be a weak motivational tool for me. If I was paying off my debt early, I would probably have only paid off half of it. Through investing I have twice that.

      I have heard rumours there is an election. Not sure though. I will keep you posted if I see anything interesting! Haha.

      Only a few weeks and it will all be over! Unless there is another coalition of course. Then there will be even more weeks of it!

  5. Was looking forward to this post and it didn't disappoint! I myself only graduated last year so havnt paid a dime towards my student loan, which is around £21,000 like yours. I'm also not earning enough currently to be making any payments so I'm not entirely sure when I'll end up start paying it but I do hope I earn enough to repay the debt eventually.

    It is quite worrying when you first get the letter outlining how much you owe but once you really understand what it means, the UK student loan is nothing to be worried about at all. We really are in a lucky situation here and I'm thankful unwashed able to benefit.

    Look forward to reading more

    1. Glad to hear it was what you were hoping and you enjoyed the read!

      Yes, I really need to check how much I actually have to repay now. I have not looked for a while. I did not have much time repaying it before I returned to study again so stopped again!

      It certainly is. And I can understand why getting the update letter saying "£200/£300/£400" has been added to the total in interest can make you think: "I had better pay this off pronto". But when you sit down and think, as I say, this is shown to be a little silly.

      The debt was originally set-up to be as malign as possible. There are few such debts out there like that. Embrace it and do something more useful with your money!

      Thanks for dropping by. Look forward to reading your thoughts on my other posts you read!

  6. DD,

    As far as student loans go that's a pretty sweet deal you've got going for yourself. Basically, there's hardly any risk if you can't pay the loan back and the relative value doesn't increase at all over time.

    Personally I remain a large proponent of the system we have over here in Belgium. Higher (basically all) education is fully funded by the government with entry fees being around €800 for a bachelor's or master's degree. That way hardly anyone has to take out a loan to complete a degree.

    The downside of this approach is that some people try a programme before moving on to something they're good at, which results in wasted government funds. Of course there are ways to restrict "abuse" like that, but they're yet to be implemented.


    1. I agree, the system adopted by most European countries is far better the equitable. We use to, of course, have a similar system here until 2006.

      I had not thought of the fact that being "free" may mean it was "abused" by students and money wasted. I wonder whether retention of students has risen since fees were introduced in the UK.

      Fundamentally, I don't think the old (or, rather, post-2006) system was all that bad. The loan was favourable and it did help ensure universities were better funded (in the most part) and did, in fact, result in increased numbers of students going to university (even from poorer backgrounds like myself). But they have since tinkered with it and it is not as fair or--in my eyes--effective and is now becoming an unfair system. This is not good.

      I agree, the loan is excellent. It is one of those occasions where there is--as far I can fathom--no risk at all. I do not know, however, whether there is the ability for the Student Loans Company (who own the loans) to recall the money early. I suspect this is not the case. But I would have to check!

      When I was first thinking of going to university I spent days working out the loan element. If it had been less malign I would not have gone to university, I am sure of that. As it is, I am extremely glad I got the opportunity!

      Thanks for dropping by and commenting!

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