Updated: Feb 15
When I graduated from graduate school, I had over $50,000 in student loan debt. I know from experience how stressful it can be to be carrying that level of debt at a young age. It feels like you have a mortgage payment but no house to live in.
Naturally, new graduates want to free themselves of this anxiety which causes many people to make their student loans not only their number one financial priority but their only financial priority. This is the number one mistake new graduates make, they only focus on one aspect of their financial life.
While it is good to pay off your student loans, focusing exclusively on that goal has an opportunity cost. Dedicating your limited financial resources to paying these loans off will prevent you from other financial priorities that can help you build more long-term wealth.
The financial priorities for recent graduates
Build an emergency fund
Handle any toxic debt
Start saving for retirement
Pay off student loans
Priority 1: Building an emergency fund
Yes, you need an emergency fund and yes you need one before you pay off your student loans.
I realize that there is nothing exciting about parking cash in a savings account earning 1% interest. This is especially true if you have loads of debt that is causing you serious anxiety.
Think of your emergency fund this as taking your “financial medicine”. It might not taste great going down, but it could save you from a world of hurt.
If you don’t have cash on hand in case of emergency, you leave yourself vulnerable to loading on more debt.
Let’s say you graduated 6 months ago with $50,000 in student loan debt. Once you got your first job you started throwing every penny you have against your student loans. You feel like you've started to make a dent in that $50,000 and you're feeling pretty good about things.
Then your car breaks down and you need to pay the mechanic.
Where are you getting that money from if you don't have any money set aside in case of a financial emergency?
You are borrowing it.
You’ve spent the last 6 months paying off student debt, and now the debt piles back up. This time instead of student loan debt you will be adding credit card debt. That can be a deflating feeling and even causes some people to lose hope.
The best way to “keep the debt off” is to build some savings as you pay off the debt. It will take you longer to clear the debt, but you will shield yourself from having to borrow more money to cover unexpected expenses.
If you have a strong emergency fund set up, your chances of staying out of debt are much higher.
Action item: You need to start putting together your emergency fund. If you don't know how to do that, here is a free resource that walks you through exactly how to build a strong emergency fund.
Priority 2: Paying off toxic debt
Not all debt is created equal. In a previous article, I ranked the 7 types of debt from worst to best.
Here is a summary of the rankings
Mortgage (your home)
Mortgage (income property)
If you have payday loans or credit card debt you should focus on paying those off before worrying about your student loans. These types of loans have the highest interest rates and can quickly damage your credit score if you don’t manage them properly.
If you have non-student loan debt, you're going to have to look at how your student debt fits into your overall debt. There are generally, three ways to pay off debt large amounts of debt.
The snowball method
The avalanche method
For a full rundown on the three debt repayment strategies read this story.
Action item: I've provided you a free debt repayment calculator here. All you need to do is enter how much you owe, the interest rate and how much you want to pay towards your loan and it will tell you when you'll be debt-free. If you don't have a plan to pay off your debt, this is the place to start. Go play around with the calculator right now and if you have questions, leave them in the comments and I'll answer them.
Priority 3: Make investing a lifelong habit
This is not a rule set in stone. Depending on how much student debt you have and the interest rate you pay on that debt, it may make sense to pay that debt before you start investing.
However, my personal preference is to begin saving and investing for retirement before you go all out on your student debt.
When you graduate from college you have one variable working in your favor and that is time. The more years you have to save for retirement, the less you will actually have to save.
If for example, you wanted to save $1 million by the age of 65:
If you start at age 25 you would need to invest $298 per month
If you start at age 35 you would need to invest $670 per month
The younger you start investing, the more you can let compound interest do the heavy lifting. Each year you delay investing for retirement, you will need to save more money over the course of your lifetime.
If you are lucky enough to have access to a 401k through work, you should contribute enough to get the full employer match. Failing to do this is giving away free money.
If you make $50,000 per year and your employer matches up to 5% of your salary and you contribute $2,500 into your retirement account your employer contributes an additional $2,500 into your account.
You just doubled your money by doing nothing.
By age 65 you would have $1.4 million and you would have only needed to contribute $150,000 over the course of your life assuming a 7% average return on investment.
The other $1.25 million would come from your employer matching contributions and investment gains.
Action item: I've provided you a free retirement savings calculator right here. You can easily modify it to account for a 401k or employer-matched retirement plan. All you need to do is add in the monthly contributions that your employer makes on your behalf. Start playing around with it and if you have questions, leave them in the comments and I'll answer them.
Beyond the numbers, it’s important for psychological reasons to build the habit of saving and investing as early as possible in life. Investing is an intimidating and scary for many people.
The sooner you face that fear and start investing the more comfortable you become with the process. The older you are before you start investing the more likely it becomes that you never start at all.
Priority 4: Attacking student debt
Once you have a solid emergency fund, have paid off your more toxic debts like credit cards and started investing some money for retirement it’s time to start aggressively paying off those student loans.
Only now you will be doing some from a position of financial strength, not desperation.
By the time you get your student loans paid off, you will have built up a significantly positive net worth rather than just getting back to a $0 net worth if you made repaying student loans your first and only financial objective after graduation.
I’d love to hear from you. If you had (or have) student loans what was your strategy to paying them off? Do you agree with my financial priorities for new grads? Do you have a different approach? Let me know in the comments below.
Any recent graduate has the most valuable asset in the world. Something that you have that someone like Warren Buffett does not. Time. By making small simple changes today, your financial future will look dramatically better in your 30's, 40's and 50's.
In my online course, "Millionaire in the Making: The 30-Day Blueprint" I show you how to use the money and resources you already have and begin reshaping your financial future.
Click here to enroll. I only accept so many students at a time so that I can give them the 1-1 attention they deserve, so I would recommend enrolling today to guarantee your spot.
This article is for informational purposes only, it should not be considered Financial or Legal Advice. Consult a financial professional before making any major financial decisions.