How Much Are You Sacrificing to Pay Down Your Student Loans?

Katie Simon
Posted

Student loans vs. retirement savings: which should you tackle first?

According to a recent breakdown by the New York Times, the answer is both.

The class of 2014 carries the highest amount of student debt in America’s history, at an average of about $30,000 per student. At the same time, younger generations are increasingly expected to fund their own retirement. This creates a dilemma for young adults trying to set up a savings strategy.

A look at the numbers helps answer the question: Could going to college (and taking on significant debt to pay for it) reduce your ability to save sufficiently for retirement?

Say two people graduate from college at the same time, and start working with the same $45,000 salary and the same raises over time. Person A has accrued massive student loan debt, and spends the next 10 years solely paying down loans, without saving a penny for retirement. Person B, who graduated without any debt, starts saving 4% annually (plus a 4% employer match), increasing savings by a percentage point every year until reaching the annual pretax maximum set by the federal government, $17,500. Person A starts the same saving routine, but begins at age 32, after paying down those student loans.

Both Person A and Person B earn 5% annual returns on their retirement savings. At the age of 65, Person B (who had no student debt and began saving for retirement at age 22) will have saved $1,829,571 for retirement in today’s dollars. Person A, who only started saving at age 32, will have $396,039 less.

But the solution isn’t necessarily to forgo a college education. If a college graduate with a $45,000 salary simultaneously pays down student debt and saves for retirement (saving a total 8% of income annually), she will save more than a high school graduate earning $30,000 annually, even if the high school graduate also dedicates a total of 8% per year to retirement savings. By age 65, the high school graduate will have saved $1,382,172 for retirement, while the college graduate will have $225,677 more.

RELATED: The Post-College Outlook: A New Money Worry for 20-Somethings?

There are many options to avoid student loan debt or hone your repayment strategy, from spending two years in community college to taking advantage of Obama’s recent expansion of the federal income-based repayment programs. And if you’re still skeptical about the benefits of starting to save for retirement early, the numbers speak for themselves.

  • Keisha

    I graduated college in 2010 with $48,000 in loans (private, out of state college–not the best financial decision my 18-year-old self could have made), and while I found a job with a 401(k) so I’m saving 4% of each paycheck (no employer match) in that account, it’s the only savings I have. Everything else has gone into paying off my loans, my husband’s student loans, and his car loan. While the car and his loans will be paid off this year, I’ll by 30 at the earliest by the time mine are done (and that’s being super aggressive about paying them!) and I’m extremely worried about spending 10 years post-graduation not saving for retirement as much as I should. My parents are both 50 and have absolutely no retirement savings (or any savings at all), so at least I’m doing better than that?

    • Lara

      I feel that I am in the same boat but both my mom and husband have a guaranteed pension which just makes me feel like unless i get that, i am royally screwed! i also graduated in 2010 but would kill for your student loan total – I started off with $102K for my 6 year NYU stint and of course at the time, it totallllly seemed worth it. Well, now that I have a kid and am making only $60K/year living in NYC, I sure do feel differently about that decision. I am not yet saving for retirement but am going to really aggressively ramp up my Roth IRA contributions. One thing I don’t like about the LearnVest articles is that it doesn’t inform you about the 401(k) administration fees and does not make any recommendations about alternatives. For instance, at a seemingly low account management fee of 1%, ADP will make over $10K on a retirement account of $1M, and if this is a pre tax account, then you only really ‘end up’ with maybe $600K of that total. So while they largely promote 401(k)s they really omit saying that 401(k)s are ONLY worth it if you have employer matching because otherwise you are pretty much better putting your money into a retirement vehicle that guarantees a similar return rate but only charges say a .3% management fee, http://money.usnews.com/money/retirement/articles/2014/04/14/how-to-pay-lower-fees-on-your-retirement-investments

      I hope this is useful :)