4 reasons why repaying your student loan is a good idea

Getting a student loan is an inescapable rite of passage for many pursuing a higher education.

But it comes with a harsh reality: the weight of that debt can linger for years, sometimes decades, impacting your financial freedom and life choices.

If you're reading this article, chances are you have a student loan, and you're probably wondering whether you should try to pay it off as quickly as possible or instead stick with the minimum payments.

You’re not alone. With more than 650,000 borrowers in New Zealand, the average loan balance exceeds $20,000, and the overall loan debt is approximately $16 billion.  

Here are four reasons why paying off your student loan as soon as possible could be in your best interests, plus when you should take a slow approach to repaying your loan, and of course exploring the relevance of a university education today.

1. It Reduces the Amount You Can Borrow

When you apply for a mortgage or any other loan, lenders assess how much you can afford to repay regularly, including if interest rates were to rise.

This is a critical factor in determining how much money you can borrow.

Here's the catch: your student loan repayments are part of this equation.

If you live in New Zealand, Inland Revenue subtracts 12% from each dollar you make beyond a certain threshold.

This means your student loan repayment reduces your income by 12% – above the threshold – and therefore the amount of free cash flow available to you, and thus reduces the amount of debt you can service.

So, even if you have managed to save a substantial deposit for a home, there’s a high chance your student loan repayments will still impede your ability to buy a property. The large regular repayments required for your student loan consume a significant portion of your income. This reduces the amount a lender (bank) will be willing to lend you, as they are aware of the mandatory student loan payments. In this situation, paying off your student loan sooner-rather-than-later should be high on your financial to-do list.

Even though a student loan is interest-free if you live in New Zealand, getting rid of it will boost your borrowing power and may be just what you need to qualify for a mortgage.

It’s not just about securing a mortgage either. Perhaps paying off your loan and reducing your expenses could mean you have more funds to allocate towards a business venture, another investment, or simply moving forward in life without the burden of regular payments.

2. Interest Accrues If You Head Overseas

Taking off to explore the world after finishing studying is a dream for many Kiwis. This could be the classic overseas experience (“OE”), or a permanent relocation. Although good data to support this trend is patchy, one 10 year old study indicated a full 41% of  New Zealand doctoral graduates live overseas, while 31% of bachelors graduates have left New Zealand. Recent media reporting about a ‘brain drain’ of young New Zealanders leaving our shores could very well mean those numbers have increased in the years since, especially after several years of closed borders due to pandemic restrictions.

If there’s a chance you’ll move overseas, it’s important to be aware of the implications for your student loan.

While living and working in New Zealand means a straightforward repayment process, the story changes if you decide to live internationally.

Once you've lived abroad for more than six months, your student loan will start accumulating interest, backdated to the day you left New Zealand. You'll also become responsible for managing your loan and making fixed repayments.

Interest on overseas student loans stood at 2.8% for the year ending March 2023, with predictions of staying near 3% for two more years.

If you fail to meet your repayment obligations, the interest will start compounding at 6.8% on overdue payments.

Data from the latest student loan study for 2021/2022 showed that 106,612 borrowers had overdue repayments, with overseas-based borrowers forming the majority of this number.

The study found:

• While overdue repayments had gone up by 3.6 percent overall, the overdue amount had increased by 17.6 percent.
• Over 90 percent of the value of all overdue repayments are with overseas borrowers.
• Around three-quarters of all overseas-based borrowers have overdue repayments.
• Many overseas-based borrowers with overdue amounts have been outside New Zealand for more than 10 years, and their interest, late payment interest, and the amount of assessed loan that is overdue is continuing to grow.
• The number of New Zealand-based borrowers in default increased by 8%.
• Most New Zealand-based borrowers are salary and wage earners who have deductions made per pay period through PAYE so are unlikely to get into default.

If you’re planning to move overseas after you finish your study, you might want to consider waiting until your student loan is paid off.

3. You Could Face Legal Consequences

In addition to the financial costs, there can also be legal ramifications for Kiwis who default on their student loan repayments.

Kiwis with student loan debt are occasionally facing border arrests due to overdue student loan repayments.

The policy was introduced in 2014, and the first arrest was made in 2016 when Cook Islander Ngatokotoru Puna was stopped, according to the NZ Herald. Since the policy’s inception, there have been a total of 11 border arrests, with one arrest in 2022 and two arrests in 2020, the report says.

Inland Revenue told the Weekend Herald that arresting someone as they attempt to leave New Zealand was a “last resort”.

“Inland Revenue will always try to work with our customers directly before pursuing legal action. There are relief options available to help manage repayments for those who are in a position of hardship.”

While this might be an extreme scenario, it's important to understand that defaulting on student loans can have serious consequences.

4. The Emotional Toll

Student loans can be a double-edged sword, impacting not only your finances but also your emotional well-being and life choices.

Rob Stock, a money and consumer affairs reporter for Fairfax, argues that expecting overseas borrowers to self-manage the repayments of their student loan is a “fatal flaw in the student loan scheme”, and says its “patently clear” they “pay a high price”.

He says while it’s fair to say overseas borrowers who are missing repayments are failing to meet their legal obligations, it’d be “a big leap to think of them all as debt-dodgers”.

“How many would be young people who have stuffed up, stuck their heads in the sand, and may now feel themselves as exiles from a country of low wages and high house prices? Some may be really, really struggling,” he wrote in an article for Fairfax.

Defaulting on a student loan can have a severe emotional impact on those living abroad and may even deter them from returning home.

“I hate to think that many of those overseas New Zealanders have given up any idea of ever returning to these shores to help with the skills shortage or may be too afraid to come home at some point to see their homeland, or visit sick or dying relatives,” Stock writes.

He believes student loans should “come with a serious financial health warning”.

“For parents of young people who intend to head overseas after studying, student debt is a threat they need to worry about.”

Why you Shouldn’t Pay Off Your Loan Fast

Now, to give a little context, let’s take a quick look at the reasons why you wouldn’t want to repay your student loan any faster than is required.

If you have high-interest credit card debt or a personal loan as well as your student loan, it is better to tackle these first. Interest rates on these products are typically quite high.

As we’ve already mentioned, student loans don't charge interest to New Zealand citizens and residents if they live in the country. (Note, there is a $40 annual administration fee). This means that you don't have to worry about your debt growing over time. You can even let inflation chip away at it over time. So, if you already own a home and have no intention of living overseas, it might be worth making minimum repayments. “In New Zealand, we don’t apply indexation (adjustments to account for inflation) to student loans. This means that if you took out $10,000 of student loans in 2000, they would still cost you $10,000 to repay today, even though hourly wages have doubled since then. That’s inflation eroding the value of your student loan, and it makes it faster to pay off,” writes Emma Vitz for The Spinoff.

Related articles:

• What to Do When Your Investment Value Falls
• Stop Buying Lattes and Get Rich?
• Stocks Versus Real Estate
• Don’t Save Money
• Safeguarding Your Finances: A Comprehensive Guide to Scam Prevention
• You Need More Debt

Traditional Education is Becoming Less Relevant

Here’s some related food for thought. The digital age is redefining the very essence of learning and could challenge the conventional value of traditional education as we know it. This suggests that unless you’re in a specific field such as medicine or engineering, there might be no need to go to university at all, and so no need for a student loan.

Changing Landscape

The job market is changing rapidly. Many of today’s jobs didn't exist a decade ago, and many of the jobs that exist today will cease to exist in the next decade. This means that traditional education, which is focused on teaching specific skills and knowledge, is becoming less relevant. Instead, students need to learn how to adapt to change.

Once, you needed a university to access knowledge. Academics and their institutions were the purveyors of nearly all information. Now anyone with curiosity and the internet can unlock all humanities’ knowledge. Podcasts, YouTube, and internet-scraping artificial intelligence (“AI”) will tell you anything you want to know. The rise of online courses has made high-quality education more affordable and accessible.

CIS Professor Steven Schwartz, who published a study called ‘Degree Inflation: Undermining the value of higher education’, says there was an “explosive growth in universities” over the past 20 years and as the number of graduates increased “the economic value of their degrees withered”.

Schwatz says as the popularity of having a university education increased, vocational education and training (VET) became stigmatised as a second-class education option, and employers’ demand for university degrees for jobs that formerly didn’t require them led to “credential inflation”.

“Twenty percent, or more, of today’s university students, would have been better off financially by skipping university and going straight from school to work. The same is true for the thousands of students who drop out of university each year,” he says.

‘I’m Worried I’ll Rely on My Parents Until I’m 40’

Jessica Gill agrees. After finishing her degree people expected her to land a high-paying job.

“People are stunned when you tell them you have a degree yet you're still working at your local coffee shop or running mail around an office. Those of us with degrees should, in theory, be in a better position than those without - but that just isn’t the case these days. But teens that left school and went straight into fulltime work are now saving enough money to buy houses, while I couldn’t be further from buying a house if I tried,” she wrote in a Reader’s Report for Fairfax.

She headed overseas after completing her degree to have a break from the stress of university. Reality hit when she returned to New Zealand.

“With my student loan looming over me, I worry that I will rely on my parents for financial support until I'm 40! After paying for rent, power, groceries, transport and that pesky university bill, you're lucky if you have any money left to put into your savings.”

She said teenagers who decided against going to university were looked down on, but she admires them as they are now “living comfortably” and climbing their way up the career ladder.

Falling Enrolments

University enrolments are falling at all New Zealand universities, bar one. The overall number of students enrolled in formal study at tertiary providers in New Zealand decreased by 5.1 percent, from 397,920 in 2021 to 377,695 in 2022, according to Education Counts. Even more fascinating, is this coincides with the implementation of taxpayer-funded (“free”) tertiary education fees. Despite no fees, would-be students are voting with their feet, by choosing alternatives to universities. To keep costs down, universities are cutting staff in response.

Cancel Culture

Slumping university enrolments might be due to social reasons, too.

There’s plenty of reporting to suggest universities here and overseas are ground zero for cancel culture. This means university students might avoid healthy classroom debate for fear of offending somebody as, at worst, they might be cancelled. It has been suggested that important issues (health, productivity, crime, innovation, the economy) can’t be reasonably debated and become harder to address when all ideas cannot be openly aired and analysed. Universities used to be incubators to help solve pressing issues. The irony is the universities could end up cancelling themselves.

The Bottom Line:  Repay Your Student Loan

Paying off your student loan early can feel like a daunting task, but it could be one of the smartest financial decisions you make.

It could free up your money for other financial goals, such as buying a home, saving for retirement, or starting your own business.

It’s always important to weigh your options and make a decision that aligns with your unique goals and circumstances. Your student loan is just one piece of your broader financial puzzle, and understanding how it fits is key to securing your financial future.