The HECS on Study Loans

The-HECS

“Even if you were to fall into extreme financial hardship and file for bankruptcy, you need to understand that your student loan debt will not be discharged,” warned Suze Orman.

The same is true with outstanding HECS (Higher Education Contribution Scheme) loans among the few debts that still have to be repaid after your bankruptcy term ends.

While the Federal Government helps university students obtain their degrees by offering upfront financial relief, this is one debt that will grow like a barnacle on the rudder of a career if ignored.

But is that enough to prompt students or their families to pay HECS off as quickly as possible?

Certainly there are incentives to pay the debt off quickly, beginning with a 10 per cent discount if you pay your student contribution fees upfront. With term deposit rates currently below 4 per cent, that’s a far better rate of return than money in the bank.

Discount deals
Even if you can’t afford a large upfront payment, a modest contribution of $500 or more will earn a discount.

For instance, if the cost of four units of a degree is $3000 and you pay $500 upfront, the deferred balance will be cut by about 10 per cent.

There is also a 5 per cent discount for making voluntary contributions of $500 or more over and above compulsory instalments during the life of your HECS debt. So, a voluntary payment of say $1000 multiplied by 5 per cent would reduce the final balance by $1050.

Once you graduate, repayment of your HECS loan is not required until you earn a taxable income above certain threshold. This threshold is adjusted each year and is set at $53,345 in 2014-15.

To put this year’s income threshold in context, it’s mid-way between the minimum Australian wage of $33,000 and the average full-time wage of $76,000.

There is a Bill before the Federal Parliament recommending a review of university funding, including pegging annual HECS loan increases to the 10-year government bond rate – currently around 2.5 per cent – and removing some of the discounts. Opposition to the proposed legislation in the Senate means its future is uncertain.

So for now, HECS loans remain interest-free but are indexed each year in line with inflation, as measured by the Consumer Price Index (CPI). Over the past four years, annual increases of between 2 per cent and 3 per cent have been applied.

At an effective interest rate of less than 3 per cent, graduates with cash to spare are currently better off repaying higher interest rate debts first, such as a personal loan, credit card or mortgage.

Taxing time
How quickly the debt must be repaid depends on how soon, if ever, a graduate begins to earn more than $53,345.

The Australian Taxation Office (ATO) applies a sliding scale to determine what percentage of your taxable income will be deducted to repay your HECS debt.

Repayments begin at 4 per cent on taxable incomes between the minimum threshold and $59,421. At the other end, once you earn more than $99,070 you pay 8 per cent, or around $8000, towards your HECS debt each year.

One strategy for graduates earning at the high end might be to roll a student debt of say $30,000 into a mortgage. Across 25 years at an interest rate of 5 per cent, repayments would be just $2100 a year compared to $8000.

The downside is that over 25 years a $30,000 addition to a mortgage would collect more than $20,000 in interest.

The best strategy to tackle a HECS debt will generally depend on the differential between prevailing market interest rates and the rate of inflation. But for families with the means, full or partial upfront payment remains an attractive option.