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Learn How to Pay off Student Loans Fast

For someone with a bevy of student loans outstanding, I can understand the desire to get them paid off as quickly as possible. It's one thing when you're paying a car note, because you at least have the car out in the driveway that you can see out the window and understand why you're making those payments each month. With student loans, the education is over and done with by the time you are required to start making payments on the loans, so even though you received a valuable education from the experience and another notch on your resume, there's nothing tangible to show for the check that you have to write each month. It almost feels like you are paying money for nothing.

But hold on there, not so fast. If you come into a large amount of money, it doesn't always make sense to pay off student loans all at once. Believe it or not, paying down student loans may actually wind up costing you money.

The principle is this: depending on your interest rate, you may be able to invest the money you were going to put toward the extra principal on the educational loans at a higher interest rate than you are currently paying on the loans. Sound crazy? Say you have a student loan that you are currently paying 4 and a half percent on. If you pay off student loans, it is like earning four percent on that money had you invested it. But here's the kicker: the amount of money on which you would be earning four percent actually declines each month, as the imaginary principal would have gone down with each payment that you would have been required to make had you not paid off the entire loan.

Even if you invest the extra money at the same four and a half percent annual rate of return, you are still ahead of the game after the first month, since you will be earning that rate of return on the entire amount for as long as you commit to the investment vehicle. However, it is often possible to find investments that exceed the interest rate of the student loan. For example, many mutual funds have a history of earning far more than the hypothetical four and a half percent used in this example. Some bonds can be found that exceed this rate of return as well, along with stocks that pay dividends greater than this rate.

Another factor affecting the calculations is that interest on student loans is often tax deductible. This can work to bring the interest rate down another few points, increasing the likelihood that an investment will pay off better than paying down the loan.

So, there are many different types of investments that can pay better than the interest rate on a student loan, which would make it prudent in some cases to invest the extra money. However, many would argue that the peace of mind that comes with being debt free is worth the additional money that could be earned by investing the money. It's just a matter of personal preference, and which is more important to the individual.

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