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Follow the rules to make student debt more manageable

I can still recall life on campus in my first year in university. There were rules to follow. On the first day of school, the dean addressed the students: "The female dormitory will be off limits for all male students, and the male dormitory to female students. Anybody caught breaking these rules will be fined $40 the first time, $90 the second time."

He continued, "Anybody caught breaking this rule the third time will be fined a hefty $200. Are there any questions?"

At this, my friend Paul inquired, "How much for a season pass?"

We never did find out, but I'm guessing that a season pass would have been a lot more than any of us could have afforded. We were students. And like so many others, most of us graduated knee-deep in debt.

Today, let me share with you some advice about student debt.

Understand the statistics

The most recent National Graduates Survey taken by Statistics Canada looked at the class of 2000. As it turns out, 41 per cent of college graduates, and 45 per cent of bachelor degree graduates, left school with government student loans.

The college graduates owed an average of $12,600, and bachelor graduates owed an average of $19,500. The graduates owed on average 26 per cent more than those graduating in 1995, and 76 per cent more than those who graduated in 1990. And with tuition costs escalating each year, student debt loads will continue to rise.

Understand the advice

I've got three pieces of advice for those who are considering student loans, or have already borrowed for an education.

1. Follow the rule of tens.

The biggest problem with student debt is that some students borrow too much. My suggestion? Follow the rule of tens: For every $10,000 in student loans, the student should earn about $10,000 annually over a base of $10,000 in order to pay off the debt in 10 years. Here's what I mean: If your child graduates with student loans of $30,000, then she ought to earn $30,000 annually plus a base of $10,000, for a total of $40,000 annually, to be able to pay off that loan in 10 years.

In this example, $30,000 of debt can be paid off in 10 years at a monthly payment of $348 (assumes interest at 7 per cent). The total loan payments annually would be $4,176, which would be about 10 per cent of the $40,000 annual income earned by your child. While 10 per cent may not sound very high -- it is. Particularly when your child may need to borrow for a car, home, or other reasons as well.

2. Pay off student loans last.

Unlike most other debts, student loans will offer tax relief if they are loans made under the Canada Student Loans Act, or similar provincial legislation.

I'm talking about a tax credit available for the interest paid on these loans. The interest must be paid in the calendar year to claim a credit, and the credit can be claimed by the student in that year, or in any of the five subsequent years. This will save the student taxes equal to about 25 per cent of the interest cost. The bottom line? Other debts that offer no tax relief should generally be paid off first.

3. Don't consolidate student loans.

While consolidating debts may seem like a good idea in many cases, avoid this temptation with student loans that offer the tax credit I just spoke about. If you take a student loan qualifying for the credit, and replace that debt with new debt that is not made under the Canada Student Loans Act or similar legislation, you'll lose the ability to claim that tax credit for the interest costs.

tcestnick@aic.com.



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