Debt a bitter pill for future doctor

Setting things straight

Both Gichon and the WIR members who joined this informal Community Challenge to solve Tara's debt debacle were in agreement about the basics:

• Don't wait, consolidate. Gichon points out that there's no reason Tara can't consolidate her private loans at a fixed rate, ASAP. "If you strike out with your current lenders, check out Bankrate.com or Myrichuncle.com," she says. As soon as the private loans are consolidated, Tara can start paying little chunks toward those; the private loans should be paid first, given their higher interest rate (probably about 8%). While her income is still relatively low, Tara may also be able to deduct up to $2,500 in student loan interest.

• Erase the credit card debt. Like Gichon, the WIR members are adamant that Tara can and should blast her $6,100 MasterCard balance. Getting on a budget, plugging that cash leak, breaking the plastic habit ("No credit, debit or store cards!" Gichon says) -- and then using the extra money to pay at least $500 a month would do the trick. "Ideally she could have her credit card paid off in a year," Gichon says.

• Save, save, save. Both the WIR members and Gichon couldn't stress this enough. Besides the fact that Tara needs an emergency fund so she doesn't incur more debt, Tara would do well to establish good savings habits now, before her salary skyrockets and that spending instinct revs up again.

Tara just started saving $25 each paycheck, and Gichon recommends that she move her savings to a high-interest account at an online bank.

Gichon and the WIR members agreed that Tara should open a Roth IRA now, and she should increase her contributions when her credit card is paid off. (Once she starts earning more than $100,000, she won't be able to contribute any more, but this will strengthen her savings habits.)

Gichon suggested finding an institution, like Vanguard or T. Rowe Price, that waives the minimum opening deposit if you agree to make automatic contributions of at least $50 a month. "Then put that money in one of their target date retirement funds," she advises.

What the future holds

The real challenge for Tara will be how she decides to live -- and pay back her debt -- once her student loans come due in mid-2009 and she's earning triple her current income, or about $150,000.

At that time, Tara's net income, after taxes, insurance and retirement contributions, will be just over $6,000 a month. How should she allocate her money?

(The following calculations are based on a total average interest rate of about 6.5% for all of Tara's student loans.)

• Scenario No. 1: Tara continues to live like a medical resident for several years and puts the lion's share of her income toward her student loans. That would mean living on $2,600 a month and putting $3,400 a month toward her student loans -- and being debt-free in about 10.5 years.

• Scenario No. 2: Tara bumps up her standard of living a little and puts less toward her student loans. If she pays about $2,700 a month, she could live on about $3,300 and be debt-free in 15 years.

• Scenario No. 3: Tara takes her time and pays off her loans over the course of about 30 years (roughly $1,900 a month), but enjoys a much higher standard of living from the get-go.

Defining quality of life

There are many "right" roads to financial sanity. What you choose to do with your money and your life is always a balancing act, weighing one goal or priority against another.

While some of the WIR members strongly advised Tara to pick Scenario No. 1 (and if I were 27, that's what I would do, but hey), that option is the least appealing to Tara herself.

After years of hard work, Tara would like to escape the student lifestyle. She also wants to start saving for a down payment for a home.

• Video: 3 ways to avoid the student-loan trap

One WIR member agreed: "I'm a big believer in paying off debt, but we can get hung up in that mode," she wrote. "We must feel like we're living, not suffering for 'the cause' all the time."

Gichon also felt that Tara had to balance her debt repayment with the need to save -- and to invest in both retirement and a small starter home, like a one-bedroom condominium.

Gichon felt that finding a middle ground between Scenarios No. 2 and No. 3 would be ideal. Tara could start by paying $2,000 a month, but as she got raises and bonuses she could increase her payments. "Even an extra $500 a month would substantially shorten the life of the loans," Gichon says.

Tara herself was pretty daunted by all this. "It makes me a bit queasy," she said at first, after tallying up all her debts and expenses.

But once she realized that it wouldn't be hard to implement a plan -- in fact, she could enjoy a nice quality of life and not remain mired in debt -- she grew excited. "It's a relief to know that when I get out of my residency that I have a strategy," she said.

Published Aug. 9, 2007

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