Student Debt – Both Parents and Children Need to Educate Themselves

Private Finance has recently researched the subject of student debt with a focus on the implications on not only the student but their parents as well. Key findings include:

  • Parents of top earning graduates could save their children over £30,000 in interest by remortgaging to clear their student debt
  • Top graduate earners will pay £43,000 in student loan interest – this could be reduced to £11,440 by taking out a mortgage to repay student debt
  • Typical house prices in England have risen by more than £60,000 in the past five years, providing homeowners with equity to tap into
  • However, average earners will see their loans wiped before they repay the full amount, making a house deposit a potentially more useful gift

Private Finance has identified that parents of high-flying graduates could save their children more than £30,000 in interest by using mortgage facilities to cover university debt. That said, graduates with more moderate salaries could benefit more from a helping hand onto the property ladder.

The average student debt upon graduation is now £50,0001. This consists of £27,000 in fees, £18,000 in maintenance loans and three years of accrued interest while studying.

The cost of borrowing £50,000 on a 30-year term (the maximum repayment period for student loans) at today’s average two-year fixed rate of 1.42%2 would be £61,440 overall, with £11,440 paid in interest. While this is a short-term rate, student debt is also linked to short-term factors such as inflation.

With interest on student loans much higher at 6.1% during study, and RPI + 0-3% thereafter, a graduate (with the average student debt) in the top decile in terms of salary will repay an average of £93,000 in total1, with £43,000 or 276% more paid in interest post-graduation.

 Table 1: High earners could save over £30k in interest if their parents paid fees by remortgaging

Borrowing method Interest rate

Original loan amount

Total interest paid
Mortgage 1.42% (2 year 75% LTV) £50,000 £11,440
Student loan 6.1% during study

RPI + 0-3% thereafter*

 £50,000 £43,000*

*% added to RPI is dependent on earnings. Student loan is based on graduates in the top decile of earnings.

 

The average house price in England has risen by £63,0003 over the past five years, suggesting many homeowners have equity to tap into and facilitate a remortgage. Another potential benefit of parents helping to pay off their children’s student loan by remortgaging is the gift will potentially not be liable for Inheritance Tax4 as it would be if left as part of an inheritance. The child will also benefit from loan repayments not being taken from their monthly income, having a positive effect on a lender’s assessment of affordability and giving them a greater borrowing capacity should they wish to apply for a mortgage.

Given mortgage rates are expected to rise in the medium to long-term, some may wish to fix the amount they repay each month and guarantee the amount saved in student loan interest.

Parents borrowing £50,000 at 2.77% for a 10 year-fix (75% LTV) over 10 years will pay even less in interest (£7,314), a saving of £35,686 compared to repaying a student loan. However, monthly repayments would be high at £478.

Table 2: Shortening the mortgage term results in even greater interest savings

Amount borrowed Initial rate/ product Term (years) Interest paid Interest saving vs. student loan
£50,000 1.42% (2 year 75% LTV)

30

 £11,440 £31,560
£50,000 2.77% (10 year 75% LTV)

10

 £7,314 £35,686

Rates are taken from the Bank of England’s quoted average household rates (August)2

£50k better spent helping graduates with lower salaries onto the property ladder

However, it’s not necessarily financially effective for all parents to pay off their children’s student debt.

Under the current system, the loan is wiped clear 30 years after graduation. The average graduate will repay a total of £48,600 over that time1. Graduates expecting a typical earnings trajectory might therefore benefit more if the same £50,000 was given to them in the form of a house deposit.

The average graduate salary one year after graduation is £18,5005, allowing mortgage borrowing of up to £60,1006. Take into account a £50,000 deposit and they could purchase a home up to £110,100, which would cover the average cost of a flat or maisonette in the North East (£95,271)7.

An individual earning £25,000 would have greater purchasing power, and could typically borrow up to £81,300. With the addition of a £50,000 deposit, they could afford a home of up to £131,300, covering the average cost of a flat or maisonette in the North West (£118,714), East Midlands (£115,344), West Midlands (£128,160) and Yorkshire (£117,168).

A couple where both individuals earned £25,000 each could afford a flat in all regions except London (£434,587) the East (£200,172), and South East of England (£208,062) if they were gifted this deposit.

Table 3: Gifted deposit helps graduates approach the property ladder

Amount Permitted to borrow

Maximum House Price
Salary Single Couple Single Couple
£18,500

£60,100

£92,500

£110,100

£142,500
£20,000

£65,000

£100,000

£115,000

£150,000
£25,000

£81,300

£125,000

£131,300

£175,000
£30,000

£97,500

£150,000

£147,500

£200,000

*Assumes each individual has the same salary.

Private Finance Managing Director, Simon Checkley comments: “Contrary to popular belief, there is no financial penalty for paying back student loans early. With average mortgage rates still at rock bottom, this presents parents of high-earning graduates the opportunity to help clear their student debt at an affordable rate of borrowing, potentially saving them tens of thousands of pounds. Mortgage rates may increase, but interest on student debt is also liable to change, as it is linked to inflation which has risen significantly in 2017. Borrowing rates are likely to remain well below the rate of student loan interest for many years to come.

“Most people will have seen the value of their home appreciate since they first took out their mortgage. For example, the average house price in England has risen by more than £60,000 in the past five years. Remortgaging effectively allows you to cash-in on this increase in value without moving home. However, anyone thinking of remortgaging would need to make sure their finances are in good health first, as affordability and credit checks still apply.”

“For many graduates, taking that first step onto the property ladder is out of reach. However, a gifted deposit can make all the difference and help graduates access the property market much faster than normal, if not immediately.”

1Institute of Fiscal Studies, Higher Education Funding in England: past, present and options for the future, p.17, p.20, p.25

2 Bank of England’s quoted household rates, August

3 Average house prices in England have risen by 35% since 2012 from £180,000 to £243,000 according to ONS UK House Price Index (prices between July 2012 and July 2017)

4 Unless the giver dies within seven years of giving the gift (see here).

5 Department for Education, Employment and Earnings Outcomes of Higher Education Graduates, Table 2a. Median value for academic year 2012/2013 (latest available data).

6 According to the MoneySavingExpert.com borrowing calculator.

7 Land Registry UK House Price Index (July 2017)

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