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Paying Off Student Loans vs Investing: What’s the Right Choice?

Paying Off Student Loans vs Investing: What’s the Right Choice?
Sulaiman Abdur-Rahman
Sulaiman Abdur-RahmanUpdated November 8, 2022
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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
If you have some extra money and you’re wondering, should I pay off student loans or invest, this is a decision you’ll want to make carefully. If canceling debt is your top priority, you might choose to pay off your student loans. But it can also be wise to consider the possible return you might get from investing. Either way, it’s an important choice. Read on to find out more information to determine which option, investing vs. paying off student loans, may be best for you. 

Should I Pay Off Student Loans or Invest?

Paying off your student loans may be the right move to make if your main concern is tackling debt. There is no prepayment penalty for paying off student loans early, and doing so may minimize your interest costs, which will save you money. In this case, it may make sense for you to pay your loans off now so you’ll have money to invest later.However, if you determine that investing the extra funds may get you a higher return than what you’d save in interest by paying off your student loans early, you may want to consider investing. Recommended: How Much Student Loan Debt Is Too Much?

When to Pay Off Student Loans

If you don’t qualify for student loan forgiveness, you may benefit from paying off your loans early. It’s also generally a good idea to pay off student loans if you have a high interest rate. Interest is charged daily over the life of your loan, so paying off your student loan debt early can save you money. Eliminating debt improves your debt-to-income ratio, which may help you qualify for better terms on a mortgage or another loan in the future.And because the average time to pay off student loans is substantial — it can range from 10 to 30 years for borrowers with federal student loans, and five to 25 years for those with private student loans — paying off your loans sooner can be a big relief.You may even want to think about refinancing as an option for repaying your student loans under different terms and conditions. Reviewing the pros and cons of refinancing student loans can help you decide whether refinancing is right for you. Recommended: What is Student Loan Refinancing?

When to Invest

Investing can help you prepare for the future, such as retirement. However, there is no guarantee that investing will lead to a positive return. Paying off student loans early may minimize your interest costs, while investing may generate gains or losses.If, after doing careful research, you decide that investing might give you a high enough return to make it an option for you, just remember that you will still need to pay off your student loans. Failing to make required payments on student loans can lead to delinquency and default, which can damage your credit and make it harder for you to borrow in the future. Be sure you can afford to invest and meet your monthly payments without stretching your finances too much.

Factors to Consider When Deciding to Invest or Pay Off Student Loans

Here are some important things to think about when deciding whether to pay off student loans or invest:

Emergencies

Emergencies happen, and there are times when you will face unexpected expenses. Whether you choose to pay off your student loans or invest, make sure that you don’t deplete your bank account. Having a sufficient amount of savings — at least three to six months’ worth of expenses in an emergency fund — can serve as a cushion in the event of a disaster or crisis. 

Retirement Funds

Contributing money toward a retirement fund could help you prepare for the future. If your company offers a 401(k) plan, you may want to consider contributing wages to it, especially if your employer offers matching contributions. A 401(k) can provide you with a retirement nest egg. And because you choose how much to contribute, you can opt for an amount that helps you save for the future — and have enough money to pay your student loan debt.

Interest of Your Debt

As noted, paying off your student loans early can minimize the amount of interest you owe, which can save you money.However, you should also be aware that paying off your student loans early can impact your ability to claim a student loan interest deduction. The student loan interest deduction allows eligible taxpayers who have paid interest on a qualified student loan to claim a deduction on their federal income taxes. This is a tax break that can reduce your taxable income by up to $2,500 during an annual tax period. Paying off your student loans early can limit your ability to claim this deduction going forward.

Type of Investments

There are different kinds of investments you can make, and some may offer more flexibility than others. For instance, with certain investments, you can take withdrawals if you need money. But investing can be very risky. There’s no guarantee that you’ll see a positive return. And you will still need to make your regular student loan payments.

Future Goals

When choosing whether to invest or pay off student loans, it can be helpful to think about your future goals. If you want to buy a home, for instance, you may want to hold off on both investing and repaying your student loans in full. Instead, you can make minimum loan payments, and save for a house. If your goal is to get out of debt as soon as possible, you may want to pay off your loans early and put investing on hold. And finally, if you want to build money for your retirement and the future, it may be right for you to invest and make your regular student loan payments, rather than paying off your loans early.

Alternate Ways to Pay Off Student Loans

There are some other options for paying off your student loans that you may want to consider, including: 

Loan Consolidation

Borrowers may consolidate their federal student loans into a Direct Consolidation Loan. Debt consolidation can merge all of your federal student loans into a single federal loan. It can also give you up to 30 years to repay your loans in certain cases.You may lower your monthly payment by consolidating into a longer repayment period. Consolidation can also simplify your federal student loan repayment obligations by merging them into a single loan product.Here are some factors to keep in mind:
  • A Direct Consolidation Loan is a federal student loan, not a personal debt consolidation product.
  • Only federal student loan borrowers may apply for Direct Consolidation Loan.
  • The U.S. Department of Education does not offer small business debt consolidation loans.

Refinance Student Loans

Borrowers may refinance federal student loans with a private lender. This means federal student loan borrowers may switch from a federal repayment plan to a private student loan refinancing plan. Refinancing into a longer repayment plan can reduce your monthly payment.Education loans can be federal or private, and borrowers may refinance both. Refinancing your student loans may provide you with a lower interest rate. However, the portion of your federal student debt that you refinance loses its eligibility for federal loan forgiveness, including military student loan forgiveness for members of the U.S. armed forces. You can refinance a portion of your student loans if you qualify for student loan refinancing.

The Takeaway

Deciding whether to invest or pay off your student loans comes down to your priorities. If you believe you’ll save more money in interest by paying off your loans early than you would through investing, loan repayment might be the best option for you. On the other hand, if you think you’ll earn more by investing than you would save in interest, investment could be the choice you opt for. And remember, you may be able to pay your loans and invest simultaneously. Borrowers can explore investment opportunities while paying off their student loans over time.If you want to refinance student loans, Lantern by SoFi can help you easily compare student loan refinance options. Refinancing might be right for you if you can lock in a lower interest rate. Find and compare student loan refinance options with Lantern.

Frequently Asked Questions

Is it better to invest money or pay off student loans?
Why should you not pay off student loans?
Is it good to pay student loans off in full?
Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.
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About the Author

Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman writes about personal loans, auto loans, student loans, and other personal finance topics for Lantern. He’s the recipient of more than 10 journalism awards and currently serves as a New Jersey Society of Professional Journalists board member. An alumnus of the Philadelphia-based Temple University, Abdur-Rahman is a strong advocate of the First Amendment and freedom of speech.
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