The student loan crisis has reached $1.6 trillion in the United States. Needless to say, paying off student debt can be daunting and confusing.
“We’re all expected to go to college after high school and about 70 percent of are going to take out a loan to do that. But how many of us actually understand how they work?” Perez said.
Federal versus private loans
When you’re trying to cover tuition, you’ll usually run across two kinds of loans: federal and private.
“A federal loan is covered through the Department of Education where private loans are through any private company or lender,” she explained.
Interest rates can come at you fast and quickly leave you owing more than you ever imagined.
“Interest rate is the percentage of your principle that gets added to your amount due at the end of every single year,” she said.
For example, if you have a two percent interest rate on a $100 loan, but you haven’t made any payments, at the end of the year your bill would be $102.
“If possible start paying interest while you’re in school or during your post-college grace period,” she said.
Tackle the principal
If you’re making minimum monthly payments, you may only be paying off the interest of your student loans. Perez suggested aiming for a bi-monthly payment schedule to lower the balance.
“Pay extra and make sure that money goes towards the principal if you can,” she said.
The Debt Snowball vs. The Debt Avalanche
The financial expert recommended taking a holistic approach to tackling student debt.
“You want to lower your expenses, not acquire any more debt but also put a plan in place to tackle your current debt,” Perez said.
There are two ways to do this, the “debt snowball: and the “debt avalanche.”
“The debt snowball is organizing and paying off your debt smallest balance to highest balance, regardless of the interest on those,” she stated.
Your student loans are going to be on the higher end, even though they have the lower interest.
“What you do is make the minimum payment on all of your debts, except that first one you have on your list, your smallest debt,” Perez explained. “You put as much money as possible toward that small debt. Once that’s paid off, you roll all that money you were paying into that small debt up to the next debt, so on and so forth. Until it’s all paid off.”
The debt snowball is all about accruing small wins and healthy habits when it comes to paying off all of your lingering balances.
“The debt avalanche is paying your debt highest interest rate to lowest interest rate regardless of the balance,” she said. “So you would organize it in the same way. You pay as much as you can toward that’s first debt with the highest interest rate, while paying the minimum on all the other debt.”
It is the most mathematically sound approach to paying off debt because it directly addresses interest rates.
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