Hi Friendos,
My dad was Texas and had a way of peppering conversation with colorful sayings. That dog doesnāt just run fast, he runs faster than greased lightning! That gal isnāt just tough, sheās tougher than a pine knot! So I kind of love little expressions that capture the essence of things. Today we contemplate: when is the juice worth the squeeze?
Example: analyzing student loans.
I recently met with a client who has student loans about equal to their household annual income. They were trying to think through various planning scenarios.
Rather than just working directly to make higher education affordable, we instead have an alphabet soup of income-driven repayment plans: IBR (income-based repayment), PAYE (pay as you earn), REPAYE (revised pay as you earn), and now, SAVE (Saving On a Valuable Education).
Under SAVE, borrowers of undergrad loans will have to make loan payments equal to 5% of their discretionary income (this is 10% for grad school loans). āDiscretionary incomeā is defined as AGI (adjusted gross income from your tax return) minus 225% of the federal poverty level (FPL, a dollar amount that varies with āfamily sizeā).
Required payments on undergrad loans = 5% of (AGI ā 2.25 FPL)
If someone with student loans is married, and they file their taxes āmarried filing separately,ā then the SAVE formula will only consider their own AGI in calculating their monthly required loan payment. So, would that be better? Things that may impact the answer:
- Are they living in a common law state (where AGI will only reflect their own income if filing separately) or in a community property state (where AGI will be half of the married coupleās pooled total income if filing separately)?
- Do they have a tax hit from filing separately? This could happen due to, for example, credits that are not available for married filing separately (e.g., the child and dependent care tax credit), one person getting pushed into a higher marginal tax bracket, or losing subsidies for health insurance purchased on an exchange.
- For a given year, when filing separately, do savings on loan payments outweigh any tax hit?
- If they save on loan payments in one year, are they just pushing more loan payments out into future years, or would those payments ultimately be forgiven (may be most relevant for someone on PSLF, public service loan forgiveness)?
If a married person has tens of thousands in loans (common), they might save thousands and thousands by filing their taxes separately from their spouse. Or not – it depends on their specifics. And the highest quality analysis will consider the current year as well as future years.
If your loans are half or more of your annual income, Iād say no question the juice is worth the squeeze. Personally, Iād do a deep dive at much lower levels too (you know…Iām boring).
There is a Department of Education calculation tool that can help. These articles provide a deeper discussion. Someone could prepare some mock tax returns to verify what things look like āboth ways.ā When there are a lot of $ associated with something in personal finance, thatās where I focus the most time and effort.
-Stephanie
p.s. If you have a topic youād like to see analyzed in a future newsletter, let me know!
Frequently Taxed Questions 