The Finumus household is enjoying its first interaction with the student loan scheme in 30 years.

Our eldest is (hopefully) off to university in the autumn. Our youngest will be going two years later.

Just to keep things interesting, the government is completely overhauling the student loans system for the 2023 intake. Hence we get to do a little natural experiment with our finances. 

We’ll skip over the debate about whether university is a good use of time and money. Our children are going, and that’s that.

The question for now is: “Should they borrow the money or not?”

Enter the student loan

Let’s first acknowledge how fortunate we are that whether or not to take the student loan is even a question.

Most families don’t have a choice. The only way their children can afford to go to university is with a loan. This makes the value-for-money calculation that much harder for them.

But our kids go to public (that is, private) school. The annual cost of their education will actually be marginally reduced once they are at university, compared to the current status quo, even if they borrow nothing.

So we can afford to support them – in terms of both fees and maintenance.

However we’re going to have them borrow the maximum amount of student loan.

Like everyone else they’ll be saddled with crippling student debt when they graduate!

Does this seem a bit mean to you?

Let’s look at the reasoning.

How the student finance system works

Students are expected to borrow money from the government’s student finance scheme to fund their university education.

They can borrow to cover all the fees (£9,250 p.a. ) and also some element of maintenance – ranging from about £4,500 p.a. to about £12,000 p.a. – depending on various complicated criteria, including family income.

(This is if you reside in England and are attending university in England. Otherwise the rules are more complicated).

Repayment works like a hypothecated, limited amount, graduate tax.

• Under the current scheme, you have to pay an additional 9% income tax over a certain threshold, until you’ve paid the loan back or until 30 years has passed. At that point the student loan is written off. Interest charged is roughly RPI+3%.

• With the new (2023) scheme, the earnings threshold is lower, the interest rate is lower (roughly RPI), and the term is 40 years.

Crucially, for us, you can also repay early with no redemption penalty. 

According to the IFS, the 2023 changes will mean that far more graduates will repay their loan in full (75% vs 25%) but those students who would be paying it back in full under both systems (that is, higher earners) will benefit under the new scheme. This is because the interest rate is lower. 

More lower earners, who might have escaped repayment under the old system, will be caught by the new lower earnings threshold. These people will end up worse off. 

The change then is highly regressive – if you are measuring only within graduates.

If you’re thinking about the wider tax base, it’s not quite so clear – because arguably the change reduces the tax burden currently falling on those who don’t go to university. 

The stated intent of the changes is to encourage students to read subjects that lead to higher-paying careers.

Any side effect of discouraging some from going at all the government doubtless sees as an extra bonus. After all, universities teach young people to think for themselves, and turn out lefty-liberal-remainer-voting ‘experts’.

But this is a finance blog not a political one.

Let’s take the system as we find it and – well – think for ourselves. 

Gaming the system

Back in the halcyon days of positive real interest rates, low asset prices and cheap student debt – when your correspondent was at university – gaming the system was easy.

The student loan was only required to cover maintenance (fees were paid by the state – imagine) and the interest rate charged was very low. 

Although my parents insisted that they didn’t want me to get into debt and hence paid for my maintenance, I of course borrowed the money anyway and used it to speculate in the stock market.

I could even have stuck it in the bank and come out ahead, too. (Admittedly you did have to avoid the temptation to spend it all in the union bar). 

But things are more complicated under today’s shifting regime. The loan is dearer than it was for me, for a start.

However even if you can afford to sidestep the student loan altogether and just have your kids pay-as-you-go (PAYG), you might still want them to get into hock by maxing out their student loan, and then you (as a family) stash away the equivalent sum borrowed elsewhere.

To be clear, we’re suggesting that on graduation, our graduate will be in one of two positions:

Which one is best? The net positions seem identical.

However there are two reasons why you might prefer to borrow: 

1. Positive carry: it makes sense to take out the student loan if you can earn a low-risk post-tax return that’s higher than the interest rate on the loan.
2. Loan write-off: if our young graduate isn’t ever going to have to pay the loan back, then that’s a win.

We’re not going to spend much time on the first reason. Earning a sufficiently high yet near-risk-free rate of return will be extremely difficult under the current scheme, although it might just be possible under the 2023 scheme, with its lower interest rate.

Your required rate of return also depends on your individual tax circumstances. It’ll be harder if you’re already filling up everyone’s ISAs and SIPPs to the max, for example, because your return will be taxed. You’ll have to do your own maths, based on your personal circumstances.

Borrowing also adds unnecessary complexity and leverage to the family’s affairs, so that’s a demerit.

All things considered, for us the positive carry argument doesn’t stand on its own.

It comes down to the second reason. Are my kids really going to have to pay the loan back? 

Reversible decisions

As Jeff Bezos famously pointed out in his 1997 Amazon shareholder letter, it’s much easier to make reversible decisions.

The student loan can be paid back at any time. This means borrowing the money is an easily reversible decision.

At any time after graduation our family can collapse the ‘Borrow’ row in my table above into the ‘PAYG’ row. We simply take money from our savings and write a cheque to the Student Loans Company to do so.

However we can’t go the other way round. Once we’ve not-borrowed the money, there’s no going back and asking to borrow it again.

Therefore, we should borrow the money. It’s what’s known in finance parlance as a free ‘real option’:

We’d be foolish not to take it.

Little darlings

If you’re in a position to make a decision like this, you’re likely over-estimating the probability that your child will have to back the loan in full.

We know that between 75% (current scheme) and 25% (new scheme) of graduates won’t repay the loan in full.

But of course, your kids will, right?

You’re likely a high-earning university graduate yourself.

So you imagine that your children are going to have fulfilling, well-remunerated careers.

They may well do so. But they might not.

Stuff you don’t want to think about

I was fortunate enough to attend one of Britain’s most elite universities – the sort of place that churns out Prime Ministers and Fortune 500 CEOs.

At a recent gathering of some old college friends, conversation turned to the range of outcomes that our cohort of about 150 had experienced. This led me to consider whether we all would have paid back the student loan if we’d been borrowing under today’s rules back then. 

In our sample there’s a large rump of successful middle-class high-earners, a few centimillionaires, and a bus driver. All of them would likely all be paying back their loans.

Then we have people who have worked their whole lives for charities on fairly low pay – mostly women. Some had a fairly short career because they decided to prioritize family. Others became artists or poets.

They likely wouldn’t be paying back their whole loan. 

We also have a few who wouldn’t have had to repay any of the loan at all. The ones who suffered mental and physical health problems, addiction, family break-ups, legal problems, or just unlucky employment choices that materially impacted their ability to earn. Their careers sort of petered out before they really got going. 

Finally, and I’m sorry to bring this up, but it is a reality – we have those who didn’t make it at all.

One didn’t get to graduation. Three died before they were 30: traffic accident, drowning, cancer. 

I concede this is a set of anecdotes, not a representative sample. But there it is. Sometimes things don’t go to plan. It doesn’t matter how middle-class you are, how good a university you go to, or how much money you have. Nobody is immune to these possibilities. 

More happily, we also had a few who permanently emigrated. They wouldn’t need to pay back their loan. (I know nowadays in theory you would, but in practice if you’re permanently emigrating then what are they gonna do about it?)

They’ll change the rules

So there you have it. As a family, you should have your children borrow the money, while you squirrel away in a savings account whatever you would have spent. Then simply decide later whether to pay it back.

You could choose to repay the loan the day they graduate or a decade later. Taking out the student loan is an easily-reversed decision that provides a fairly low-cost insurance policy against bad outcomes for your child. 

Finally there’s the other side of the equation. The rules will change – probably for the worse, but possibly for the better.

The whole system could be replaced with a graduate tax, which they’d be paying anyway. This would likely incorporate some sort of forgiveness of the existing debt as part of the process.

The fact is 30-40 years is a very long time. Anything could happen. The US paused loan repayments during the pandemic. Some politicians are now advocating student loan forgiveness.  

Just whatever you do, don’t let your spunky offspring splurge the borrowed money away in a future resurgence of YOLO madness.

If you enjoyed this, follow Finumus on Twitter or read his other articles for Monevator.

What caught my eye this week.

Another miserable week in the markets. Thanks in part to shocking updates from US retail giants Target and Walmart, the all-important S&P 500 index briefly joined the growthier Nasdaq in bear market territory on Friday, having dropped 20% from its all-time high before a mild end-of-day rally.

Meanwhile inflation in the UK hit 9% and the Bank of England won both plaudits and wooden spoons for candidly admitting there’s not a lot it can (constructively) do about it.

Getting on for a year into this regime change, and some readers continue to insist there’s nothing to see here. Nor in the bond market, which has endured its biggest, sharpest sell-off for decades, if not ever.

I’m not sure why the denial, apart from the currency weakness that I talked about last week clouding the picture. I think we can agree markets rose an awful lot in 2020 or that super low interest rates spurred some ‘questionable’ antics without downplaying the reality check that’s now taking place.

Veteran commentator Josh Brown describes it as:

one of the most treacherous environments I have ever seen, and I traded during the dot com meltdown, 9/11, Enron and Tyco and WorldCom and Lehman and LTCM and Madoff and the debt ceiling downgrade and the Asian currency crisis and the European debt crisis and Gangnam Style and the pandemic lockdowns and Zika and Ebola and SARS and Bird Flu and Hoof and Mouth and all sorts of other shit.

Not just traded for myself but answered to others about their money, in real-time, during all of it. Those environments were tough. This one’s impossible.

I even spotted the once famously bearish hedge fund manager Hugh Hendry making waves on Twitter, like some wintry White Walker reappearing from legend in Game of Thrones.

Hendry was appropriately uber-gloomy. The last time he got a mention on Monevator it marked the bottom of the financial crisis crash. But I’m not confident of a repeat, omen-wise.

(For one thing: has anyone seen the especially portentous Nouriel Roubini?)

Once upon a time

In that last big bear market I wrote a lot about how and why I bought stocks in downturns.

Eventually, those investments turn out to be among the best you will ever make.

But it can be hard to see cheaper prices as your opportunity to profit when your portfolio is shedding ballast faster than the Met issuing fines in Downing Street.

So I thought I’d point newer investors to a comment I uncovered while digging for this week’s Archive-ator link below.

Doing so, I came across 2008-era-me offering unsolicited advice as usual, only this time on someone else’s blog: Accumulating Money.

At the time, January 2008, that blogger’s household net worth was just shy of $72,000.

Accumulating Money knew buying at lower prices should be good, long-term.

But they also recognized they faced a challenge after a ‘brutal start’ to 2008.

The Goldilocks scenario

I was there in 2008 and it was indeed tough going. The year got a lot worse before things started getting better, too.

But we have an advantage, sitting here in 2022. We know how the story ended.

In fact, it turns out we can skip to the most recent net worth update from Accumulating Money, March 2022, where we learn their number is now…

…$1.5 million!

Yep, despite the gloom in 2008 and a lot of terrible headlines in-between, A.M. has multiplied their wealth more than 20-fold. And that’s despite the market mauling their retirement accounts in recent months.

To be honest I’m not surprised by this figure. It more or less tracks my own trajectory over the past 15 years.

But I thought perhaps those who haven’t yet lived through a few stock market storms might be reassured, by seeing what’s come before.

Are you sitting comfortably?

Of course every market downturn is different. To me this one looks more challenging for the likes of Monevator readers, at least with hindsight, thanks to its higher inflation and rising interest rates.

I expect both to start coming down, but that’s partly because I expect demand destruction and at least a mild recession. (As do a few of those sellers of Target and Walmart shares I’d wager.)

On the other hand, if inflation and rates do keep on rising indefinitely… well.

Either way, we know the playbook. Try to earn more. Live below your means. Save as much as you can without derailing your life.

Then invest in equities for the long-term, probably through low-cost global index funds.

Just promise to come back in 15 years to tell us how it went!

Take these time-tested steps towards financial freedom and I believe your tale will also have a happy ending.

[continue reading…]

As the rising cost of living outstrips real incomes, how can we maintain our quality of life? There are plenty of good tips out there on saving money, but they only get you so far. 

Most people quickly reach a point beyond which more cuts feel like self-deprivation. 

But instead of praying for mercy in the budgeting dungeon, you can escape the money trap by focusing on quality of life, not quantity of spending. 

The trick is to cut your mental link between spending and happiness. 

The payoff? Less worry about scarce pounds – because they’re being better spent on the things that really matter to you. 

There are three steps for someone who’s not a natural saver (and that includes me):

• Break the connection between spending and self-worth. This will take time. 

• Eliminate discretionary spending on anything that fails to move your happiness needle. This takes experimentation. 

• Start small and build up your momentum. Belief and confidence turn from a trickle to a flow until eventually better spending is second nature. 

Breaking the link between spending and self-worth

It’s no secret that status is heaped upon those with conspicuous wealth. As status-driven primates, we’re easily sucked into the consumer arms race. 

Capitalism monetises our insecurities and presents ‘solutions’ in beguiling forms: a car, a pill, a handbag, a workout, a membership, a nose job, a super yacht.  

We want things that fulfill our self-image. So in order to want things less, you need to change your self-image. 

That means you need a new story that appeals to you more than world-class marketing. 

The story can take many forms. Here are some examples.

A greater goal 

For example: I’m saving for financial independence, or buying less as my contribution to the fight against climate change. 

Savvy consumer

For example: I’m not a capitalist zombie-drone who buys crap because some influencer told me to. Or, I don’t follow fashion because I’m curating a capsule collection of timeless classics. 

I see through the illusion

For example: status goods don’t make me happy or solve my problems. I want to live a simpler life founded on family, friends, community, and connection. 

Personal challenge 

For example: I want to achieve a 50% savings rate. Or save a house deposit in five years. Or run the heating no higher than 17 degrees. You can gamify yourself using targets and tests of resilience. 

Choose your own adventure

You’ll already have a strong notion of the stories that mean something to you. Develop them and they can become anti-spending countermeasures that overlap like armoured plates. 

Your new, positive stories absorb the impact of consumerist messages and redistribute their negative energy away from your sense of self. 

Controlling spending is now no longer a tale of denial. It’s a sign of self-empowerment grounded in your personal values. 

Shifting the narrative helps you design more creative and daring solutions against the rising cost of living. 

Because now you’re beating the system, not being beaten down by it. 

Eliminate spending on things that don’t make you happy

Wander round your house and look at the things you used to think would be amazing but now you barely notice.

Once they were an answer. You slid them out of the box and they seemed to whisper: “You complete me”.

Now they’re just wallpaper. 

Use those items as consumerist memento mori. Their withered significance is a reminder to focus on real priorities. 

Forget ‘sparking joy’. Your old tat sparks revelation. Specifically the insight that the next must-have will soon be as washed up in your affections as an aging pop idol. 

With this mindset, it becomes easier to take a Zippo to those persistent outgoings that bleed your finances like ticks. 

Burn off anything that makes you no happier than before you ever had it. 

That’s easier said than done, of course. Loss aversion stabs us with vile psychic pain out of all proportion to acquisition’s pale pleasure. 

Possession is like caffeine addiction. It can turn us into mini Gollums:

If your Gollum is too strong, try just putting an expense on pause for a month and see if he notices. If it doesn’t feel so bad, do without it for three months and promise yourself a review. 

By then the habit could be broken. 

Pick your cost-cutting battles

Substitution is the methadone of budget cuts. 

Swap something in and we don’t have to give anything up. Instead we take away the pain by using a cheaper version. 

Done right this can be liberating and the stuff of happy memories. 

Let me share some personal anecdotes.

A family fish and chip night is way more fun than going to a posh restaurant. Everyone loves fish and chips. And it doesn’t matter if you squirt ketchup all down your front. 

I’ve spent many a happy lunch hour walking around the city with friends and colleagues. Just talking, chugging coffee, and moving our legs instead of boshing an expensive lunch. Maybe they’ll show you a part of town you didn’t know.

The best work night out I ever had was playing frisbee in the park one summer evening instead of nursing pints in the company’s local. 

A downgrade can often be an upgrade because it’s easier to relax in low-key, informal settings. 

It always works if you suggest ideas that are universal crowd-pleasers. Often everybody else is relieved to be doing something different, too. 

Super sub

Substitution is a classic technique for dealing with the rising cost of living and personal inflation.

Academic literature on inflation will cite consumers switching from steak to pork, for example. 

I’ve had some success eating less meat altogether just by chopping 20% off the helping I’d normally heap on my plate. Or by exploring some of the amazing vegetarian food available. 

As a lifelong carnivore, I find it easier to give up something I love by tying it to a bigger win: 

• Like trying to be a better global citizen in the face of the climate crisis.

• Or eating a healthier diet to boost my chances of living a full and active life into my dotage. 

Cycling is another rising cost of living winner. Fuel costs drop, gym costs drop, and it seems to boost your immune system. Handy in this era. But I still have to make an effort not to just jump in the car. 

My point is substitution is a learned skill, so you need reasons to stick with it. But your abilities turn from puny to powerful the more you practice. 

The substitutions that make sense to you are almost certainly different to mine. But if you keep experimenting, you’ll unlock more and simpler pleasures that work for you. 

(I’d love to hear more ideas from Monevator mavens who’ve already mastered this art!) 

Upgrades

I advocate spending more not less on something for two reasons:

1. When it’s truly core to who you are

I know a photographer who’s taken out a small mortgage to own the camera of his dreams. He pours his heart and soul into photography. He’d be sad as a deflated party balloon without it. He economises elsewhere to focus his spending here. I’d never argue he’s making the wrong choice. 

2. It’s worth spending more when that helps you spend less

I bought the best, most reliable, energy-efficient boiler I could after living with cheapo burners for years. The only reliable thing about budget boilers was that they’d reliably break down in the middle of winter and reliably need hundreds of pounds worth of repairs. 

My walking boots are another example of extravagant luxury disguising investing smarts (honest). After continually wrecking £50 jobs, I spent ages researching a repairable, German hiking boot that may be the last pair I ever buy if I look after them. 

I love them. That and the ridiculous expense means I’ve committed myself to a meticulous programme of maintenance to ensure I haven’t mugged myself. 

In short:

• Upgrade things that bring you genuine pleasure and that you will look after. 

• Downgrade things you don’t care enough about to research and maintain.

The rising cost of living: quicker fixes

This is a post about making choices with the money you have. It’s not about making choices nobody should have to make – like choosing between feeding your family or heating your home. 

The rising cost of living is pushing some people into poverty. Debt charities like Step Change offer targeted help for anyone in that position. 

If you’ve never systematically trawled your bills and switched to cheaper providers then check out Money Saving Expert’s money makeover programme to save a packet. 

Everyone has to start somewhere. As I’ve mentioned before on Monevator, I used to spend money as if it burned my fingers. 

The most important savings tips I ever used were the first ones I followed. They set me down a better path to making my own choices. 

Now controlling spending is the air I breathe. I’ve never regretted it because it’s made me happier. 

Take it steady,

 The Accumulator