How student debt grows
Is it worth paying off part of a Plan 2 loan? Almost never, says Paul Lewis
Graduates who started university in England and Wales in the eleven years from September 2012 to September 2022 can find that their student loan debt grows even though they are paying 9% extra income tax called a student loan repayment.
They have what are called Plan 2 loans taken out to pay tuition fees of up to £9,250 a year, and maintenance loans which may be even more. Government figures show that these 3.9 million graduates still owe an average £53,000. Every year interest is added to this loan. The current rate is 6.2% a year for those earning £51,245 or more. On earnings below £28,470 the interest is 3.2% and is on a sliding scale where a salary is between the two. For example, someone on average pay of £38,500 will be charged 4.5% a year interest.
The interest increases the loan but the student loan repayment tax should reduce it. The extra 9% tax is taken from all income above £28,470 this year. But that tax is frequently less than the added interest. For example, someone on average earnings will pay £900 graduate tax this year but the interest on the average outstanding loan will be £2,400 – leaving their loan £1,500 more. At £65,000 a year the two balance out, so only if a graduate earns more than that does the loan reduce. But in most cases it will still not be paid off until it is cancelled 30 years after graduating.
It is almost never worth paying off part of the loan as the extra tax will be taken while any of the loan remains unpaid. Paying off the whole amount may be worthwhile to stop the extra tax, and the higher the graduate’s income the bigger the savings. There is no formula to determine if it is worthwhile to pay off the loan: there are too many variables, including future rates of inflation, changes to pay, and life events such as redundancy, health problems or pregnancy. It is even possible the rules may change at some future date.
For more information, search ‘student loans’ at litrg.org.uk, moneysavingexpert.com, or savethestudent.org. Remember that this piece is only about Plan 2 undergraduate student loans in England and Wales. Earlier and later plans, plus student loans in Scotland or Northern Ireland, work differently.