Financial Planning for Generation X & Y Women
 
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Expert Q&A Archive

06/23/2008
What is the best way to invest student loan money?
"What is the best way to invest student loan money so that when it is time for me to pay it back I can use the interest and still have some money left over?"
Gary Silverman, CFP:
expert info »
Hmmm...hopefully you'll get some "normal" answers to this. Here's an idea I've had, but it's not to the point of being a recommendation.

Assuming you have earned income to qualify, put up to $5000 into a Roth IRA.
When the loan is due, withdraw back out the $5000 (this will be penalty- and tax-free).
The growth from the Roth that is left in there is the beginning of your retirement savings once you graduate.

As for what to invest the money into...you don't want to take too much of a risk. Money market funds and other fixed-income type securities are all you should use, unless you are willing to take the gamble that the investment might be lower than what you started with when the loan comes due. Since I do not know your tolerance for risk or your other assets and income potential, I can't address that directly.
Rosemary Ervin, CPA:
expert info »
If it is excess student loan proceeds that you will not be using, then you would have to invest it to earn at a percent higher than the rate you are required to pay back. Recall, investment return is linked to investment risk. You cannot afford to lose value if you need to return it. Investing conservatively will probably not allow you to earn more than you owe.
Michael A. Masiello:
expert info »
Depends. Presumably you won't need the money for education? If not, unless the rates on the loan are considerably lower than what you could earn in a SAFE account--read savings or money market--not really an investment account unless you can handle potential loss with this money. Then it doesn't make sense to borrow money @ 6% to earn 3% in a safe account. Even ING Direct, a high interest savings account, is only paying 3% currently.

In general the strategy you referenced only works when safe rates are equal to or greater than loan rates. Fundamentally it sounds to me that you should carefully reconsider taking on any debt, let alone debt you don't need but will have to pay back for some time while earning less on the money than you pay in interest. Hope this helps.
Joan Koonce, Ph.D:
expert info »
In order to possibly (not guaranteed) earn high rates of return on investments, typically a person has to put the money in something that carries high risk (i.e., equity investments such as stocks, stock mutual funds, etc.) and leave the money there for a period of greater than five years. If the repayment period for the student loan does not begin until more than five years, the person might consider equity investments such as stocks or stock mutual funds. If the loan needs to be paid back within five years, the person might need to put the money into debt investments such as short term bonds (up to five years), long-term CDs (up to 5 years), etc.

Because there are so many investment alternatives to choose from, the person should seek investment counsel. With equity investments, there is a possibility of large gains, but also a possibility of large losses. With debt investments, the possibility of losing the money invested is unlikely, but the returns are usually not as great. In either case, the person will probably still have to use some of the student loan principal when repaying the loan.
Rebecca Schreiber CFP:
expert info »
Ten years ago this strategy was a real opportunity. Many students who did not need loans took subsidized loans from the government, earned interest in ultra-safe money market accounts and then paid off the loans keeping the interest for themselves. Today, however, the interest rate environment is the opposite of those good ol' days - subsidized student loans are at much higher rates and even a money market account will only get you 3% - before taxes on the interest.

The short answer is, don't do it.

You have to start making payments six months after you graduate which means you only have 2-4 years to invest the money. With this short time period it is too risky to go with stocks, let alone aggressive stocks. Even if you do well you'll have to pay 15% capital gains on any profit - any profit you'll have over the closing costs on the loan (remember those?). In these times it doesn't make sense. What does make sense is to save your own money in a Roth IRA or brokerage account and invest it for the long-term, not flip the government's money. Imagine getting stuck with a bunch of unnecessary student loan debt because you couldn't flip it in time...

Life's too short. Get rich on your own dime. You'll spend it better. Thanks for the opportunity to answer this very interesting question! Best wishes,