# Should I repay my student loan to free up £800 in cash flow?

Some advice would be appreciated.

I am in a very fortunate scenario where I'm currently earning net £6k a month as a contractor inside IR35. My student loan balance remaining is £12k and I have enough in savings to pay it off today.

Because of the way students loans are calculated in the UK, from my earnings I repay a whooping £800 a month in student loans. My student loan balance will be cleared in almost 2 years' time if I've done my maths correctly.

I also have a mortgage. Repayments are £574 a month on a £166,000 mortgage loan.

My question is: Should I repay my student loan to free up £800 in cash flow? I have £15k saved so I will be able to pay off my student loans and have a little bit left over for emergencies.

• What are the interest rates on your debts? Nov 26, 2022 at 15:57
• My student loan debt total is 12,800, the interest rate is 3.25% and my repayments are currently £780 a month. My mortgage is £166,000, my repayments are 574 and I think the interest rate is 4.29% Nov 26, 2022 at 16:20

## 3 Answers

Wanting more "cash flow" doesn't make sense; if you need £800/month, you could just take it out of that extra £12k you have. And given that you also have a mortgage with a higher interest rate, it doesn't make sense to pay off the student loan before the mortgage.

Having a cushion of cash on hand is good in general, but the current economic situation gives even more reason to not pay off either loan. A quick google search pulled up an inflation rate of 9% for the UK. There's no guarantee this will continue, but it's reasonable to take this as a first approximation of future inflation rates. In a comment, you say your student loan interest rate is 3.25%. This means that your real interest rate is about negative five and a half percent. In other words, if you weren't making any payments, the value of your loan in constant pounds would be decreasing five and half percent each year. Your mortgage nominal rate is a bit higher, but the real rate is still negative. So if your mortgage is fixed rate, you should be looking to see whether there's anything you can invest your money in that will get more than your mortgage rate, taking into consideration the risk of the investment. If inflation holds steady, just getting an inflation-indexed fund would beat your mortgage.

• Where would you get an inflation-indexed fund from? In general there aren't risk free investments available that automatically match inflation. Nov 27, 2022 at 13:47

There are two important questions here:

• How much money should you leave yourself for emergencies?
• What is the best use for your extra money?

Many people in the US suggest ~6 months worth of expenses as an emergency fund, but you need to pick an amount that you are comfortable with. Don't exhaust so much of your savings paying off debt that you are left with some anxiety about an emergency.

Separately you need to decide the best use for your extra money, what can you do with it that will best help meet your financial/other goals. If getting out of debt is the goal, then you just need to calculate the net impact of each £1 of debt repaid.

In simple situations you just have to compare the interest rates and pay the higher rate debt first, all else being equal that is always the most efficient way to repay debt. Things that can complicate that math are adjustable/variable interest rates, tax differences between debt types, early repayment penalties. You'll want to do your best to calculate the effective interest rate you are paying on each type of debt by factoring in tax differences and early repayment penalties. Adjustable rates are trickier, but you could calculate based on some projections.

If your rates are fixed at 3.25% for the student loans and 4.29% for the mortgage, and there's no tax benefit for either kind of debt (or equal benefit for both kinds of debt), and there's no penalty for paying either off early then you should put extra money toward the mortgage. If your rate isn't fixed on the mortgage for the long-term, then you are faced with estimating how much it might change in the future, but it seems unlikely that they would go below the rate on your student loans before you have those paid off, so likely the best option is to pay extra towards your mortgage.

You also want to factor in safe returns, for example the last time I bought a used car they were offering something like 1 or 2% financing, while CD rates were over 3%, it made more sense to use my cash to open a 5-year CD than to buy the car with cash. This is the opportunity cost of paying off debt early. Some people will use average market returns to justify not paying off any debt early, but I suggest sticking with safe return rates since market returns fluctuate and complicate things in the same way as adjustable/variable interest rates on debt.

There are other things that could be factored in, like the value of accessibility (home equity can be tapped easily, while other new lines of credit might not be), or potential changes to tax law, and probably a dozen others, but adding too many unknowns and predicting the likelihood of each will overcomplicate things very quickly.

• In the UK, long term fixed interest rate mortgages are very uncommon. There's a risk that the OP will face higher interest rates on the mortgage in the future. Nov 26, 2022 at 21:38

Always pay down your highest-interest-rate loan first, unless there are specific reasons not to (for example, if you're expecting the government to forgive some or all of your student loan, you might want to consider deferring that one).

I presume this is going to be closed as a duplicate of past questions, though.