(Ep. 62) How Money From Your Employer For Loans Can Hurt You | Student Loan Planner

Weird question. Your employer wants to give you money to pay off your student loans. You should take it, right? Your employer wants to give you money. Who wouldn't want to take that? Here's the problem. In some cases, that can actually be a little bit of a trap, and it's not anything malicious or inimical or anything, but it's something that people don't think about because they don't realize that employer-student loan repayment is actually not always a good thing. That's what we're going to talk about in today's podcast because it really gets me fired up when employers give their employees money to pay back their student debt, and it actually kind of works against them instead of working in favor of them. Really kind of a weird concept, but if you can imagine that this kind of topic gets my blood boiling, maybe you think I deserve to be in the Nerd Hall of Fame or something, but this is a really fascinating topic. We're going to go over some listener examples that I've heard in the past few weeks and months of how people got money from their employer, and it actually messed up their finances. Really crazy coming at you for this podcast episode, but first, we're going to do something that I love to do probably more than anything, which is answer your questions. If you have a burning question about anything related to finances, or heck, you can go broader than that. You can ask what my favorite sandwich is or something, but we may or may not feature it, but if you have a question that you'd like to ask for the show, go to studentloanplanner.com slash voicemail. You can press record on your phone and ask a one-minute question about whatever you want, and if we think it's a cool question, we'll use it for the show. So please go do that, because I think that we'd love to get more of your questions answered, because I think a lot of other people have that same question, too, if you were thinking about asking it. So first, we have a question from Tyler, who is a resident and who is thinking about buying a house. He seems like he really wants to buy a house, and he even has looked into how affordable the rental market is in his area versus owning, and so we're going to see a little bit about what he's concerned about, and I think this probably will apply to a lot of you thinking about home ownership. Hi, Travis. I am a graduating medical student about to hopefully match into family medicine residency program in March in the state of Texas. The highest cost of living place that I could see myself ending up is San Antonio, Texas, which has a price-to-rent ratio of 13.34 according to smartasset.com, and the home price for a $1,000 rental is $160,000, pretty on the low end, not San Francisco or anything like that. So I was wondering if, even if I'm only doing a three-year residency, if you could see it making any sense at all to buy a home. I know you've talked about this in some ways before, but I'm just curious if you think it's totally foolish to consider a home in the $160,000 to $180,000 range on a physician mortgage with no down payment. My gut tells me that you would say it's a bad idea, and I just want to confirm that I should just stop even considering it, and then I can just move on with my life with that. So thank you very much, and I appreciate all you do. All right, here's how I would look at this. You've got a three-year residency program, and you're looking at a $160,000 house that you can rent for $1,000 a month. So that's what a 13-to-1 price-to-rent ratio means, is you take your entire purchase price of a house, and then you divide it by whatever the price-to-rent ratio is, and that gives you the rent annually, and then you divide that by 12 to figure out what the monthly rent is. Now, another way to look at this is, let's say that you had a $200,000 house that rented for, let's say, $2,000 a month. So we would divide that by 2,000 a month times 12, so that's a price-to-rent ratio of eight. So that would be telling you that owning a house is a very good idea. In other words, a low price-to-rent ratio is a really good thing. So a really high price-to-rent ratio is in San Francisco, which is currently around 50-to-1, okay? And what does that mean? So let's say that you have a $3,000 a month place in San Francisco. San Francisco, $3,000 a month rent, times it by 12, so that's 33,000. Multiply that by 50, and so that tells me that a place that's $3,000 a month would be purchasable in San Francisco for about $1.65 million. So let's work into the specific math of this reader's question. So you've got a house that's $160K. So if you buy that on a 30-year mortgage, your payment's going to be about $860 a month, depending on the interest rate. And the vast majority of that is going to go towards the interest and not the principal. So it's a little bit of a confusing concept, but when you buy a house, basically in the beginning part of that period, all the money is going towards interest and not a lot's going towards principal. And then as you own it more over time, more of that money goes into the principal balance and pays it down. So how much are you actually going to pay down your mortgage balance if you take out $160K with a doctor's mortgage with 0% down payment, let's say? Well, what happened is is your $160K would end up at the end of three years at about $152,000. So you paid down a little bit less than $10,000 of your principal balance. So $160K down to about $150K. Let's say it was $150K because you got a super good interest rate or something. So you've got a $10K advantage so far in paying down your mortgage that you didn't have if you rented during that entire period. But how much is the commission going to be on a $160,000 house? You can sometimes negotiate this down, and maybe in theory you could list your own house, but my guess is if you're thinking about where you're going to do your fellowship or where you're going to be in attending or where you're going to get your next job, you're probably going to want to just hire a realtor instead of do it yourself. So a 6% commission on a $160,000 house is about $9,600. So that's about a $10K commission. So you've got, just to recap this, you're paying down your mortgage by about $10K, and then you have a $10K commission that you've got to pay to get out of the house. Now that's assuming no other transfer fees, no other closing costs, no other kind of miscellaneous expenses, like I think there's real estate transfer taxes in some states that you'd have to account for too. And so certainly if you have any costs like this at all, you're already negative unless you assume there's some sort of increase in home prices. So that's really the interesting part, is let's say that you have a 2% annual increase in home prices. So that's about an increase of about $3,000 per year. You could be up about $10K on your home price. So say $160,000 goes to $170,000. So we've already said that you're kind of net neutral after paying down the mortgage and all the expenses, and then you're looking at maybe a $10K advantage in the home price. So pretty much that advantage is going to get wiped away probably by most of those miscellaneous fees that we're talking about. Here's the thing. If the price of your home goes way up, then you might make a significant amount of money. People that bought a house in Seattle 10 years ago are feeling pretty good about themselves. People that bought a house in 2012 are feeling pretty good about themselves in most parts of the country. That said, we've also had clients that have bought a house at exactly the wrong time, and that $160K house drops to $120K, and suddenly you are coming out into your first real salary job with a big loss that you're trying to figure out how to get out of this house that's an anchor around your neck. Here's what I would say about this, because this is a little bit of a unique situation. If you're going to be buying a house with a limited downside, then why not go ahead and do it for just a life benefit? So if this person's only going to lose at most probably some sort of small five-figure sum, $160K house in a decent town, you're probably not going to watch that become an $80K house. That's very, very unlikely. I think there's probably quite a bit of benefits to getting used to the cost of home ownership probably when your house is cheap rather than when it's expensive. So I think you'd probably learn about things like homeowner's insurance. I think you'd learn about how to call a maintenance worker when they're coming to fix something. So if you think that this could be a fun life experience, then I would say actually go right ahead and do it. If you think that you could buy a three-bedroom place in Househack and rent out some of the rooms to fellow residents, then you probably would come out significantly ahead because you could have somebody paying for your rental costs instead of you. So that might be a reason to buy instead of rent. And then the other thing I would push back a little bit on is as a resident, you're not going to have a lot of time, and time is really key here. So do you really want to be in charge of mowing your own grass or hiring somebody to do it or calling your own door repair person or waiting around for that person to show up when there's a plumbing problem? I rent personally in part because I'm not sure if we're going to stay where we're at for forever. And the other reason is simply when something breaks, I want somebody else to deal with it instead of myself. So there'll come a time where we'll probably want a home if we have kids, a yard, pets, things like that. But until you have that, until you have extra time, you're looking to really settle down, it's really a decision you could go either way with here. So it's a little bit of a cop-out answer, honestly. So sorry, Tyler, if you're looking for a more clear answer. But I think that you just want to decide, is this something you want for a life experience that you think you're going to have fun remembering? And if so, do it. And if this is something that you're like, well, I'm probably not going to have a lot of time, I'm not crazy about the idea of a home, but I think I'll make more money, then I would not do it because you're probably not going to make a killing on this. Now we have a question from Anonymous about whether or not it makes sense to refinance a part of your student loans as a hedging strategy. Hi, Travis. Thank you so much for all the content that you're putting out there for us. It's very much appreciated. I have a question for you about hedging. What do you think about refinancing just a portion of your loan if you're still not sure if you'll be going for PSLF or not and don't want to refinance the entire government loan just in case you transition out of your private sector job back into an NGO or government job later? So for example, I have $450,000 in loans at FedLoan with a 6.75% interest rate under the repay plan. I'm recently married and know that I'll definitely have to sign up for a new repayment plan within the next couple of years because my husband will be attending in a couple of years and it won't make sense to pay 10% of two attending salaries under the repay plan that I'm currently on. I also have about $40,000 in interest and I'm aware that this will consolidate into the principal once I change repayment plans. I currently work for a private hospital that's not eligible for PSLF but may move jobs in the next three to five years. I've already made 3.5, three and a half years of PSLF qualifying payments during residency. So what about if I refinance $100,000 with a private bank now to get a better interest rate and pay that off in the next couple of years in case I don't end up going back to a PSLF qualifying job and I don't want interest to keep growing at the 6.75% interest rate on my monster $450,000 loan? Will the rest of my $400,000 with Fed loans still be eligible for PSLF and would you recommend this plan of refinancing chunks of federal loans at a time while deciding whether or not I'll return to a nonprofit job or not? Really appreciate your thoughts on the matter and thanks so much again. All right, that's a good question and I think it's a terrible decision. So let me explain my reasoning. If you have a $450,000 student loan balance and you refinance, you're going to save about 2% on that interest rate if you refinanced everything, right? So you'd save about $9,000 per year if you refinanced everything. But we're not talking about refinancing everything, we're talking about refinancing $100,000. That's a part of it. And if you refinance a part of it, that's about $2,000 on $100,000 that you would potentially save on. So your savings are $2,000 times the number of years that you think that you might be unsure about whether or not to do PSLF or go to a private sector job. So let's say that's like five years, really stretch it out and make it try to seem like a long time to try to increase the amount of savings. So that's $2,000 times five, it's 10 grand in interest savings. Now that's really overstating it because when you pay down your loan, the interest costs go down every year and the interest savings go down every year. But let's just overestimate the savings from refinancing at 10 grand. So that's what you're saving by doing this partial refinancing. Now, what are you losing? Well, obviously, if you do PSLF, it's tax-free and the payments are the same if you have $450,000 or $350,000. They're the exact same monthly payments, which means that if you do PSLF, then you would have cost yourself $100,000. And so your upside is $10,000 of interest savings and your downside is $100,000 of lost forgiveness with PSLF. Now we have to assign probabilities of the two events. So if we assign a probability of 50-50 because you're unsure about your future. So by the way, if you're listening, most of your scenarios are going to be 50-50, right? If you don't have a strong opinion about something, then that's 50-50 odds. And that's how you should make financial decisions is assigning 50-50 odds to whatever outcomes that you're looking at. So 50-50 odds on you going private sector and missing out on this from not refinancing to 50% chance that you did a PSLF eligible job. So this is a statistical concept called expected value. And this is how professional gamblers make decisions. They look at the upside and the downside and they multiply by the probabilities and add them together. And if that number is positive, it's a great bet. If the number is negative, it's a bad bet. So every expected value on every single bet at a casino you will ever make is negative. And that's because that casino wants to make money. And so that casino just needs to get a lot of people to make bets so that from probability, they're going to make a ton of money and a ton of profits. A simple example is like in the roulette wheel or something. They have a couple spots to make the odds of black and red, not exactly 50-50. And so that's just a slightly negative expected value, but it's still one that if you get a million people taking that bet, they're going to make a killing. So anyhow, let's talk about this example again. So you've got the 10K lost interest benefit if you don't refinance. That is, let's say, 50%. So 50% times $10,000 lost is $5,000 that you could lose. Now, 50% times $100,000 is $50,000 that you could lose. So if you add the $50,000 minus the $5,000 that you could lose, then the benefit from doing PSLF using probability would be $45,000. So you can confidently say that to refinance this would be a $45,000 mistake based off of this concept of expected value. So that's the technical explanation for why it's not a good idea. The emotional explanation for why it's not a good idea is you don't know what the future holds, and you will feel a lot worse if you end up in a job that is not-for-profit, lower salary, something that you feel better about doing, maybe comes with lower pay, and that you took 100K and literally put it on your back to pay off, you're going to feel a lot worse about that than if you end up in a private sector job making a lot more than you were thinking you were going to make, and you have a little bit of extra interest to battle instead of having to just have a little bit smaller balance from having refinanced a part of it. So a better hedging strategy is just to take the money that you were thinking about putting towards your loans and put it in an investment account instead so that you can have that money available to use on your loans if you need to. That's a much better hedging strategy. You do not want to hedge by refinancing a part of your loans. It's generally a much better idea to refinance nothing or refinance the entire thing. Okay, so now for really the meat of today's episode, let's talk about when employers want to give you money for your student loans. So here's an example. We're just going to jump straight into it. A hospital recently offered one of our clients $20,000 per year for five years towards their student loans. That's 100 grand towards their student loans. Sounds amazing, right? Now, they really needed a doc. They were paying like 250K plus this loan benefit. And so their combined tax rate was about 40%, so about 35% federal, 5% state, because this person was also married. And so it's about, again, 40% tax rate. They're doing 20K per year for five years. This hospital is. Now, a couple extra things for you to know. This is a PSLF-eligible job. So this is a not-for-profit hospital. This person was a physician working full-time at this hospital. So they already qualified for PSLF. And the hospital really designed this program and came up with the idea to try to attract somebody to their hospital because they really needed somebody. It's a little bit of an out-of-the-way hospital. And so this idea wasn't clear as to who was responsible for paying the income tax on this benefit. Because when you do money as an employer contributed towards student loans, basically that's taxed as income by the employee. So if you're going to get a 20K per year benefit towards your student loans, under current IRS rules, you have to pay income tax on that amount. Now, sometimes the employers will cover the taxes and will give you that 20K to use, which is probably more common. But sometimes the employee is responsible for the income tax to pay on that amount. So we're going to kind of assume, we can assume it both ways, I guess. But if you have to pay 40% on 20K, that's $8,000 per year in extra taxes that this person was going to have to pay. Now, why would you do this? What would happen here? So if you raise your taxable income by 20,000 from an employer student loan benefit, and you're going for PSLF, then you're going to raise your payment on repay or pay, right? Because it's 10% of your taxable income. So the first negative impact for this person was going to be 10% of $20,000 that's going to go on to their PSLF payment. So that's going to be an extra $2,000 per year, right? 10% times 20,000, $2,000 per year extra they're going to have to pay on their income-driven repayment. Okay, so that's a cost of $2,000 per year extra that they didn't have to pay. Now, that'd be fine if this was coming because they had a higher salary. But this is because of a payment that's going directly to their loans. And this person had about $300,000 in loans. So you're going to get this payment on your loans. And remember, PSLF is a forgiven benefit on the whole thing. So that means that this benefit is not actually going to help this person at all, because in terms of the forgiven benefit for PSLF, it's the same regardless of your debt level. So no benefit in terms of the forgiven debt if this person does pursue PSLF. What about the payments? Can they use the $20,000 per year towards the payments? The answer there is it depends. So in this particular case, the hospital designed the benefit so that the payment was made directly from the hospital to the loan servicer, and the employee never got to see the money. So the hospital was making a one-time annual payment on this person's student loans. And that, at most, would count as one month of payment credit towards PSLF, because you can't stretch it out. You don't get to get extra months' credit by paying more. That's not a thing, right? So at most, this was counted as one payment towards PSLF when they would do this that the employee didn't have to make. So that's very, very modest savings in terms of payment savings. But in reality, I'm pretty sure that this was just an extra payment that was made. So in other words, they didn't even get any payment relief from this. So so far, the worst-case scenario is this. The person has to pay an extra $8,000 per year in taxes from what their employer did, plus an extra $2,000 per year on their student loan repay or pay payment. So that's $10,000 worst-case scenario annually that this person got stuck with. Best-case scenario, it's a higher cost of $2,000 per year because of just the higher income they're getting having to make a higher student loan payment. So if you look at that cost over, I think it was a five-year period they were thinking about staying at this hospital. So that's a potential $50,000 loss from something the hospital was trying to do to be generous, which is really just mind-blowing if you think about it. So the hospital was going to cost themselves $100,000 needlessly, and the employee was potentially going to cost themselves $50,000 needlessly. So holy cow, do I have your attention now? Somebody and their employer are losing $150,000 because of a poorly thought-out employer student loan benefit? This is why I wanted to do this episode to go into more depth about this, because it is really mind-blowing, the kind of stupid stuff that goes out with employers trying to help with the student loan problem when they don't understand what they're doing. It's kind of like somebody trying to stop somebody from bleeding out or something, and they don't know how to hold pressure. It's just very poorly thought out, and they're trying to do something that's really nice, and they're trying to help, but a lot of these programs are actually hurting more than they're helping. So we're going to get more into this idea as to why. Am I anti-employer student loan assistance? The answer is I'm not in every case, but I am generally. So the reason is, is in that example, that hospital could have just given that doctor higher income, but they didn't. They forced that doctor to accept a student loan benefit, and they really didn't leave a lot of room for negotiation as to negotiating that in salary, I think. But they basically said, this is what you're going to do. You're going to take this benefit because the best way to deal with student loans is to get a benefit to pay them off, because I had to pay my student loans off, and I'm 65 years old, and I designed this benefit program. So you're going to accept it, because that's the way to handle debt, is to get to zero. And that's the only way to handle debt, is to pay it down to zero. And that reflects an older way of thinking that's not in touch with the size of student loan balances today. Because when you listen to dentists, physicians, lawyers, et cetera, that graduated 30, 40 years ago, a lot of them graduated with student loan debts that were 20% of their first year incomes. Very, very small balances, because you had a different system that was in place. You did not have as easy access to credit. And the downside of that is you had more limited access to these fields. So you did not have as much diversity in these fields. People from worse off socioeconomic backgrounds were not able to access some of these fields. So that's certainly a downside. But the other downside was that now we have costs that are exponentially higher than they used to be. So my request is, whenever you see an employer student loan benefit, you ask them for the same amount of money and higher salary, rather than as a benefit. Employers are paternalistic in a lot of cases. If you think about it, an employer, the idea of a pension and retirement and benefits, I mean, these are good benefits, they are. But it's kind of the employer taking responsibility for you instead of you taking responsibility for you. I have a little bit of a colored view on this, full disclosure. So my granddad told me a story growing up where his employer offered him a pension. He said, well, no, I'd rather get the lump sum rollover option into my IRA. And the employer said, no, no, that's a bad idea. You want to take the pension because we'll manage the pension fund and everything will work out great. So he said no, and he took the money himself and put it into an IRA and was an early investor in Vanguard and things like that. The employer ended up going bankrupt and they spun off this employer into a subsidiary so they could write down a lot of the pension obligations to their employees. So he ended up vastly better off taking charge of his own future instead of relying on the employer to do it for him. So I do have a little bit of a built-in bias here of not necessarily trusting employers to always want to do the right thing for their employees. I think that a lot of us will act like sheep sometimes instead of shepherds on our own careers. And I'm going to get a little controversial here, so hold on to your shoes. I had a friend recently who talked about how awesome her job was going to be. She's going to get a five-figure salary. She's going to get a pension after 20 or 30 years, full health benefits, paid vacation, et cetera. So amazing, right? Another friend I had, very talented guy, he took a sales job because he was unhappy with his stable job that paid a decent amount of money, kind of similar to that first job that my friend had with basically the federal government. And this friend left a private sector job that was pretty stable to go to this sales job at a big employer, didn't hit his sales targets, then had to go back to another employer that he previously worked at and had to start with pay lower than he had. Both of these people have talked about the importance of safety to their mental health and well-being. So I'm all for you doing what you need to do if you have a family. Don't mishear me on that. In terms of getting a stable job at a big employer, if I had a special needs child and not a lot of savings, they needed health benefits, I would do whatever it took. And if that's you, you should do whatever it takes. Don't hear me saying that you shouldn't work at a big employer. That's not what I'm saying. What I'm saying, though, is if you don't need safety, if you don't have to have job security, then don't overvalue employee benefits. This is what I believe is happening with student loan benefits at work, is people are vastly overvaluing these student loan benefits at work to their detriment, which is why I wanted to have this show. I wanted to talk about this for a whole podcast episode because I think it's really that important that you be confident in yourself. Don't let someone else just run your life and run your career. You have to be really cognizant of all of the incentives that are going on when you're offered certain benefits, and we're going to go deeper into this. You can create your own benefits by negotiating a higher salary, lower time work, research money, more time off, or whatever's most important to you. You might not be able to do it in every job, but in general, with your skill set, you should be able to find something along the lines of what you're looking for if you're creative. So for example, my wife went to work for a very large, very bureaucratic, stable employer, and instead of negotiating for higher pay, she said what's important to me is more time off to do global health work. So she was able to negotiate a couple weeks every year that's not counted in her vacation so that she can go do something that's more important to her than making more money. Okay, so let's get back on the topic of student loan benefits. So let's talk about another one. And so this is not one for the physicians, this is one for the veterinarian. So this is a real-life example. I had a Banfield veterinarian. Banfield is one of the largest employers of veterinarians in the country, and they had the student loan benefit, and they wanted to know what I thought of it. So I'm giving my thoughts here. So basically, they pay $150 a month towards your student loans. I think they pay the taxes, so at least you don't have to worry about that. They also partner with a refinancing company, and they have $2,500 lump sum for any kind of student program you participate in when you become a Banfield veterinarian. So for example, if you volunteered for Banfield at your vet school or some sort of career program, that kind of thing. So think about veterinarians, okay? If you maybe know a veterinarian or you are a veterinarian, then you'll know that veterinarians graduate with a whole lot of student loan debt. They don't necessarily have the incomes to pay it off. $167,000 is the average student loan debt for veterinarians on the AVMA website, which is a hilarious number because that's for the class of 2016. I'm recording this in 2020, so that's the most recent data for the average vet school debt according to the profession's main association is four years old. And also, that's not even forward-looking for what the class that's graduating in the future will have. So this is a student loan benefit, which when you have a student loan benefit where they're paying a certain amount per month, that's kind of like just saying you should pay off your debt at some point. Like you're pairing with a refinancing company, you're paying $150 a month towards the debt. That's very much a pay it down to zero centric attitude. But we know that veterinarians on average are better off going for forgiveness because we've found through a lot of work that once you owe more than 1.5 times what you earn, you probably need to go for forgiveness under something like a 20-year pay-as-you-earn strategy. So what does that mean for a vet? Well, if your average vet's making under $100,000, which is generally the case, and your average student loan debt's above $150,000, then that's telling you your typical veterinarian should probably go for forgiveness. So when you have an average person that needs to go for forgiveness, by putting money towards their loans, what you're really doing is reducing the size of their student loan tax bomb. So that's just reducing the size of the forgiven debt in 20 years, which when you consider paying that over a long period of time, you really don't get that much of a benefit because you're getting 40% of what you paid in instead of 100% since you're talking about the lower size of that tax bomb, only saving you whatever the taxes were going to be on that difference, not actually saving you that money. Hope that makes sense. So think about this some more, right? So you've got an employer that's got a repayment program that's very centric on getting down to zero debt when your average employee that you're targeting this to go for forgiveness. So this is like a totally not aligned benefit. Now it will certainly help veterinarians that owe less than $100,000, so I'll say that, but it's not a benefit that is going to help your typical person that's working there that much. Thank you for listening to today's show. If you know that you need a custom student loan plan, you can schedule one today at studentloanplanner.com forward slash book. You can find the show notes for today's episode at studentloanplanner.com forward slash the number of the episode. And finally, if you'd like the podcast, leave us a review or share it with someone who owes more than you have a great week.