How to triage your debt

When Caleb Butts, M.D., was visiting his alma mater, the University of South Alabama College of Medicine, he made a quick stop into the financial aid office.

“I’d been in there so much as a student, asking questions about loans, that I thought I’d stop in to say that I’d finished paying my loans back,” he says. His visit was unexpected by the financial aid officer. “She cried,” says Butts. “She knows all these medical students taking out loans, and never hears how it turns out.”

What was even more noteworthy than his visit was the speed with which Butts reached debt-free status: 4 years and 4 months after paying off med school loans. Butts credits the discipline and goal-oriented mindset of both himself and his wife, Tricia.

“We wanted to aggressively address the loans now, rather than let them linger,” he says. They based their budget on one income, despite their dual-income status. “We didn’t want to have to go backward [after having children], so we lived off one income, and used the other to pay down the loans.”

Whether you’re just getting started or you’re unsatisfied with your present payback plan, there’s a wide spectrum of approaches to use to pay off your educational loans. Key to success is knowing what’s available, and choosing the best plan for your family.

Devising a plan to pay off student loans

It can feel overwhelming when it’s time to repay your medical school loans. But rest assured: Most physicians start their professional careers in the exact same situation.

Three-quarters of medical school graduates leave school with a significant amount of debt, according to the Association of American Medical Colleges. The AAMC’s survey shows that in the class of 2016, 76 percent of new medical school graduates began their career with loans to pay back, with the median educational debt level for that year’s graduates at $190,000. Thirty-two percent of graduates carry debt from undergraduate school, while 73 percent accumulate debt in medical school.

“Despite the high cost of education, it is absolutely possible to pay off [medical school] loans and have a perfectly nice lifestyle,” assures Julie Fresne, the AAMC’s director of student financial services. “There’s strong job security and excellent income potential with the career.”

If you’re searching for the best approach, start by brushing up on the programs available to you. The AAMC’s website is a good place to begin, and they also offer counseling at many different medical schools. Your medical school may also have financial experts or counselors on site, or provide referrals to trusted advisors.

One thing to keep in mind: The best payback options that may have existed for your mentors or even colleagues not much older than you may actually cost you thousands if used today.

“The menu of options is much broader than it was 10 years ago, when graduates had lower debt and rates were variable,” notes Jason DiLorenzo, founder and executive director of Doctors Without Quarters (dwoq.com), a firm that helps early-career physicians approach their student loan repayment strategically. “The newer income-driven options make the most sense for many of today’s house staff, federal forgiveness is now available, and the private marketplace offers lower rates in many cases.”

Justin Kribs, CFP, counsels medical students and recent graduates at Oregon Health and Science University. He says there’s no one-size-fits-all advice for managing your debt.

But there is a solution to fit everyone’s situation, Kribs assures, and tells students to start by making an evaluation of their goals and plans. “You’ve worked hard to get this far, now look ahead to what is in your future: buy a house, retirement, household obligations? What are your career plans?”

The right plan will be a balance of your own priorities and the best available payback solutions.

Public Service Loan Forgiveness

If you’re planning to go into public service, you may be eligible for Public Service Loan Forgiveness (PSLF). Eligible borrowers in this program make 120 qualifying monthly payments toward their federal direct loan over 10 years, after which any remaining principal and interest is forgiven. According to the IRS, the amount forgiven through PSLF is not considered taxable income. Repayments can begin as early as residency. Presently nearing it’s 10-year anniversary, PSLF is approaching the first year anyone could be eligible for forgiveness.

PSLF appeals to Erica Marden, M.D., a second year psychiatry resident at the University of Vermont. She is currently making payments through a PAYE repayment plan.

“These payments will count as qualifying payments toward PSLF,” she says, adding that she hopes to receive forgiveness after 10 years.

While PSLF presents a great opportunity for those whose professional plans align with the program, new participants should proceed carefully. Thoroughly research what constitutes a qualifying position, and remain informed. Changing legislation (or changing jobs to a non-qualifying employer) could affect your participation.

If you’re concerned about Congress changing the PSLF rules, consider making large payments to cover the debt in an accessible vehicle. Then, if the benefits change unfavorably, redirect the investment toward your loans.

The loan paying route

All federal student loan borrowers are eligible to enroll in the default standard repayment plan. This simply calculates your total amount due over 10 years and derives a monthly repayment amount.

This plan offers the lowest overall cost to the borrower over any other repayment plan when loan forgiveness isn’t an option, but it comes at the cost of a potentially high (and for trainees, likely untenable) monthly payment. For those who carry a low balance, have an achievable plan for making the payments, and aren’t considering career options with loan forgiveness available, this could be a good option.

Butts chose to tackle his loans with the Graduated Repayment Plan, which begins with a lower monthly payment, then increases periodically over the next 10 years. “I was able to make the monthly payment, but most months I planned to add extra. Also at the end of the month, whatever we had left over was used to further drive down the principal.”

Though the standard payment plan can work for some, many physicians seek other, more accommodating options.

Income-driven repayment plans

Income-driven repayment plans are critical for physicians just starting out.

“These plans are based on income, not debt. And if you keep to the plan, after time, the balance is forgiven,” says Fresne. “The payment amount is usually comfortable, something which most residents can make.”

In 2007, as a result of the College Cost Reduction and Access Act, Income-Based Repayment (IBR) was created. It went into effect in 2009. The Pay As You Earn (PAYE) program came later, in 2012. Under these plans, you can calculate your monthly loan payment based on a percent of your discretionary income.

Pay As You Earn (PAYE)

Pay As You Earn (PAYE) usually offers the lowest monthly payment, which is set at 10 percent of your discretionary income. According to the Federal Student Aid website, “your spouse’s income or loan debt will be considered [for PAYE] only if you file a joint tax return.”

After 20 years of making qualified payments, any remaining debt is forgiven.

Federal Student Aid reports that, to be eligible for PAYE, you must be a new federal borrower on or after October 1, 2007, have received a Direct Loan disbursement on or after October 1, 2011, and demonstrate financial hardship.

Income-Based Repayment

IBR determines your monthly payment based on your discretionary income. For borrowers on or after July 1, 2014, payments are based on 10 percent of your discretionary income, with a repayment term of 20 years. Those who borrowed prior to this date are capped at 15 percent for a 25-year repayment term. You must demonstrate financial hardship to qualify. (Most residents and fellows will meet this requirement.) Stafford Loans, PLUS Loans and Federal Consolidation Loans are eligible. Loans refinanced with private lenders aren’t eligible for IBR.

Revised Pay As You Earn (REPAYE)

The most recent option, created in 2015, is the Revised Pay As You Earn (REPAYE) plan. Borrowers who have a Direct Loan and financial hardship may qualify, regardless of the loan origination date. REPAYE calculates monthly payments no higher than 10 percent of your discretionary income. Payment is calculated over either 20 or 25 years, depending on if the loans were for undergraduate study or graduate/professional study.

“The most attractive benefit of REPAYE is that only half of outstanding interest is charged during periods of negative amortization,” DiLorenzo says.

With all income-driven payment plans, you need to supply documentation to verify your income and profile, and resubmit this each year, even if your financial situation hasn’t changed. Failure to do so risks losing your plan and being converted back to a standard plan.

If you qualify for PSLF, payments made under these income-driven payment plans are presently considered qualifying payments.

Balance forgiveness

Another benefit of the income-driven plans is balance forgiveness. At the end of your payback period of either 20 or 25 years (depending on your plan), any remaining debt is forgiven.

While that is enticing, it’s not completely without warning, says James M. Dahle, M.D., founder and editor of The White Coat Investor (whitecoatinvestor.com), a financial blog for physicians.

“That forgiveness, unlike PSLF, is taxable—meaning you’ll owe a tax bill that could be substantial,” says Dahle. “For most docs with anything but a terrible debt-to-income ratio, the debt will have been paid off in less than 20 years anyway, so there won’t be anything left to forgive.”

Shopping around: refinancing

Interest rates on federal loans are not always the most competitive, so physicians often refinance to a private company to gain a more attractive rate.

A note about refinancing: to qualify for Public Service Loan Forgiveness, you’re required to remain with a federal loan program.

In his blog, Dahle says a determining factor to consider in refinancing is at what point you are in your career. If you’re an attending physician who is not pursuing PSLF, refinancing could save you significant interest. Residents, however, should usually only refinance private loans that are ineligible for income-driven repayment plans (see the sidebar on page 45).

“If you are a resident, the government REPAYE program is often a better choice than refinancing as it effectively subsidizes your interest rate to an amount less than you can currently refinance the debt to,” he says. Plus, once you refinance your loans with a private lender, you cannot go back to the income-driven repayment programs or PSLF.

Frugal living

For Butts, good, old-fashioned frugal living was his route to repaying quickly.

“It may seem like simple advice, but live on less than you earn, use the rest to pay back loans. Make a budget every month with what’s coming in and what’s going out,” he says.

Dahle suggests that, rather than upgrading your lifestyle in parallel with increases in income, you delay lifestyle upgrades, and instead direct new income toward your educational debt.

“It will be far harder to cut back your lifestyle later than never to have upgraded it in the first place,” Dahle says.

Delaying repayment

Rather than defaulting on your loan, which will have lasting negative consequences, some physicians have considered one of two programs that permit temporary pauses in payments: deferment and forbearance.

Deferment is granted based upon certain issues, including financial hardship and status as a student. When loans are in deferment, you do not have to make payments, and you aren’t responsible for any interest that accrues on subsidized loans. You must apply for deferment and supply documentation to support your case.

Forbearance is another option that may sound appealing, but keep in mind that your loans will continue to accrue interest during this time, which will capitalize once the forbearance period ends. Over years, your loan balance will significantly increase.

Lynn M. O’Connor, M.D., M.P.H., now director of the Women’s Colorectal Care Program at ProHealth Care Associates in New York, used forbearance while in residency at The Johns Hopkins Hospital and Union Memorial Hospital in Baltimore. However, while in forbearance, the compounded interest added up— increasing her balance due when it came time to begin paying.

“I needed to put a large lump sum towards my loans just to bring my loans out of arrears [and] get them to a point where they could be refinanced,” she recalls.

That’s why DiLorenzo doesn’t recommend forbearance for physicians starting their careers now. “You don’t want all that interest accruing and capitalizing against you. Loan forgiveness and the reduction of accruing interest is much more favorable using income-driven repayment rather than forbearance or deferment.”

With an income-based repayment plan, DiLorenzo points out, your payment amount in residency can be as low as $0—and still position you for loan forgiveness while reducing accrued interest.

Protecting yourself and family

Whatever your loan balance, consider how your family would manage an unforeseen loss of income.

“It’s important to have a risk management plan in place,” says Kribs, advising that the ideal components include disability insurance, life insurance, health insurance and umbrella insurance. Read your employment contract carefully to understand what is offered, and if any additional coverage is needed.

During loan repayment, the more important elements are disability insurance and life insurance. Some advisors recommend you purchase the maximum amount of individual disability insurance you qualify for, which provides a tax-free benefit of about two-thirds of your income in the event of total disability. They also recommend purchasing 8 to 10 times your income in term life insurance. However, many residents find it difficult to afford as much insurance as they need at this critical time in their careers.

Though no one likes to think about life insurance, it’s essential if your payback plan is based on a dual income.

“Honestly, it is usually the spouse that is under-covered; if the individual with the loans passes away, then the loans could possibly be discharged due to death. However, if the spouse passes away, then the person with the loans still has the loans,” Kribs says.

Buying a home

Educational debt and minimal employment history often present obstacles to new physicians hoping to qualify for mortgages. That’s why lending institutions have created doctor’s mortgages, often offering:

• A lower down payment, often under 10 percent
• No required private mortgage insurance
• An employment contract in lieu of pay stubs as proof of employment

Doctor mortgages may carry a higher interest rate, and typically require you to use some of the bank’s other services, such as a checking account. But if you are set on making a home purchase with less than a 20 percent down payment, it can make a lot of sense, freeing up cash that can be used to pay down student loans.

Most physicians eventually establish a doable method for getting ahead of their medical school debt.

“Use the resources at your medical school or residency to educate yourself as much as you can,” says Marden.

And don’t feel you have to have it all figured out; as your career evolves and federal programs change, reevaluate your situation and adjust your plans accordingly.