This post has been corrected from its originally posted form as a reader pointed out that doubling the REPAYE payment was incorrect. If you read it in the very early hours the day it was published, it may look different!
I was emailed recently by a reader named Justin Dourado. Justin is a fourth year medical student who had a series of questions. Essentailly, he was saying, “I am a 4th year med student who is couples matching. My wife and I both have student loans. Should we use REPAYE or PAYE?” As I worked through the math behind the problem, I quickly realized how deciding between PAYE and REPAYE if married to another resident can prove quite challenging. I thought it was worth a post on this topic in order to figure out what the recommended approach might be for two people who are both earning income.
In today’s post, I hope to answer the following case scenario: Should a dual resident physician couple in the same PGY class who each have $200,000 in student loans enter into REPAYE or PAYE, and what happens to their PAYE payment if they file their taxes married filing separately.
Before we get to the math, remember that there are is one big decision to make at the beginning of this discussion. You have to pick one of two camps: Loan forgiveness or Self-Paid (i.e. planning to pay your loans off yourself ASAP after training).
Those that plan to pursue Public Service Loan Forgiveness (PSLF) should aim to pay the lowest amount of monthly payments to gain the largest forgiveness. Alternatively, those who plan on refinancing their student loans and/or paying it off themselves should aim to pay the lowest total amount of student loans over the life of the repayment period.
Figuring this out first will help you decide the rest of what you are about to read. Alright, here we go…
The Math Behind REPAYE and PAYE
Before we can get into the weeds, we need to understand the basic math behind both REPAYE and PAYE. In essence, the same exact formula is used to make the calculation for your monthly payment in both PAYE and REPAYE. It is the following:
Annual Payment = 10% x (Adjusted Gross Income – 150% Poverty Line)
Of course, to get to a monthly payment, the number that you calculate using the formula above would need to be divided by 12.
In order to find your AGI, simply locate your AGI as stated on your taxes from the preceding year. You can find it on form 1040. For the “150% Poverty Line,” you will need to know where you live and how many members you have in your household.
Here are the poverty line numbers for those in the 48 continental states in the U.S. (i.e. everywhere but Alaska and Hawaii). The original source of this information can be found here for anyone who has more than 6 people in their household.
|Persons in Household||Poverty Guideline|
An Example of the Math for a Single Resident
Often times, an example is useful to show the way that this works.
Let’s assume we have a single resident who earns $55,000 per year. This is how their REPAYE/PAYE payment would shake out.
To get their 150% poverty line calculation, we will locate the column with 1 person in the household, which is $12,940 for 2019. Then, we will multiply this by 1.5, which yields a 150% poverty line of $18,960.
Using this, we can calculate the REPAYE/PAYE payment for this single resident as follows:
($55,000 – $18,960) x 10% = $3,604
In order to get to a monthly payment, we can divide this by 12.
$3,604 / 12 = $300.33
It would be the same payment for both PAYE and REPAYE.
What about a married resident couple?
Even if married, this is a pretty simple problem to solve in the first two years of training.
For your intern year, your medical student income was likely zero. So, for intern year this will result in a zero dollar payment (because your AGI = zero dollars) and a large amount of interest paid through REPAYE. In the second year of residency, you will have an intern salary for half of the tax year. Your payment will increase, but a large subsidy will still be paid for you each month.
It is in the third year of training, when both residents have had a full tax year of income that this becomes interesting. If they filed jointly their REPAYE/PAYE payment could be calculated using their combined $110,000 annual income.
You’ve seen how the math works above. Here it is for this each person in the marriage:
($110,000 – $25,365) x 10% = $8,463.50
If we divide this by 12, their monthly payment would be $705.29
Married Filing Separately
This is where the REPAYE and PAYE program begin to have a big distinction when it comes to the math for married couples. In REPAYE, your spouse’s income is considered in the calculation regardless of how you file (married filing jointly or married filing separately) as shown above.
However, in PAYE you are able to file your taxes as “married filing separately” and this will then exclude your spouse’s income from the calculation.
So, what would happen to the monthly payment if the resident couple above decided to file their taxes married filing separately?
This is how the payment would be calculated for each resident:
($55,000 – $25-365) x 10% = $2,963.50
For the monthly payment, we will divide $2,963.50 by 12 = $247.
Remember this is a dual resident physician couple. Since they are now filing separately, this will be done twice. We have to double this monthly payment in order to compare apples to apples (i.e. comparing the situation to filing jointly), which is a monthly payment of ~$500.
Each month, this will result in a monthly payment that is ~$200 less than it would be if they filed jointly, which results in an annual savings on monthly payments of approximately $2,400 if they enroll in PAYE and file their taxes separately.
It is important to remember that while the monthly payment is lower, the total amount being paid is less.
Should they File Separately?
This is a more difficult question to answer than it might seem. As with any financial decision, it depends on the big picture.
If they are in the PSLF camp, they are trying to minimize their monthly payment and maximize their total forgiveness. In this situation, switching to PAYE (or starting there in the first place) wins out over staying in REPAYE.
However, if they are in the group that plans to pay off all of their student loans themselves, switching to PAYE might be a bad move. Despite the $2,400 they stand to save each year in student loan payments, there are other ramifications to not pursuing REPAYE and to filing their taxes separately if they plan to pay the debt back.
Comparing PAYE to REPAYE
For example, if their average interest rate was 6%, this couple would be accruing approximately $24,000 in interest annually on their $400,000 in combined debt. Following their married filing jointly REPAYE payment of $705 ($8,460 annually), they will still have 50% of any remaining interest paid for by the REPAYE subsidy.
This subsidy results in a monthly interest of ~$650 being paid for on their behalf by the US Department of Education. Annually, this will amount to $7,770 in savings through the subsidy. And this is after they prevented $8,460 of interest from accruing through their monthly payments. Of course, this only matters If they are in the camp that plans to refinance their student loans and pay the loans back themselves. They could even use a student loan refinance ladder.
What if the situation were different?
What if they each only had $75,000 (or a combined debt of $150,000)? In this scenario, they would only be accruing $9,000 in interest each year. After their annual REPAYE payments ($8,460), they would have paid almost all of their interest each month (plus some principle) anyway. So, they would not receive much of a subsidy benefit through REPAYE.
For those in the “self-paid” camp, this produces one of the rare situations where it might make sense to refinance your student loans in training to get a lower interest rate.
If pursuing PSLF, switching to PAYE might save some money on the monthly payment, but what about the taxes…
Taxes in PAYE
It would require a post all to itself to discuss the tax ramifications of filing your taxes separately compared to filing them jointly. Suffice it to say that your taxes are typically higher when you file your taxes separately, though not always.
The easiest way to determine how big of a change their will be in your taxes is to ask your accountant to file your taxes both ways and to see the difference. Or, if you are like me and you use Turbo Tax to do your taxes, simply toggle the switch from filing jointly to filing separately to determine how big of a difference there is between the two.
After seeing the difference, if you save more by entering into PAYE and filing separately than it will cost you in taxes then this might be the right move for you so long as the REPAYE subsidy doesn’t make more sense.
In the end, in order to figure out the solution that works best for you, some math is required.
The Two Camps:
So, for this dual physician couple the decision comes down to which camp they are aiming to join. Will they pursue PSLF? Or will they join the self-paid team? The result of this decision produces different goals.
If they file their taxes jointly, then their payment would be the same regardless. So, if they are receiving a subsidy, then joining REPAYE makes the most sense. Sticking with this and avoiding the complications that come with switching plans (and capitalizing your interest) makes a lot of sense.
However, when they both start to earn an attending income, PAYE (or the standard reapyment program) may suddenly become the better choice as PAYE “caps” monthly payments at the standard repayment amount. REPAYE will continue to ratchet up on the monthly payment at 10% of the discretionary income regardless of how much money they make.
If they are married filing separately, PAYE makes a lot of sense (particularly after someone starts earning an attending physician income). Making this decision, however, would require you to look at the change in your taxes versus the amount of money you stand to save.
What they do will depend on if they plan to pursue loan forgiveness (trying to maximize forgiveness) versus paying it back themselves (trying to limit total amount paid).
What If They Don’t Know?
What if they aren’t sure which team they will join?
In this setting, it might be prudent to join REPAYE for the first two years while they figure out their career trajectory. The payments will be low, and they will still receive the subsidy to lower their effective interest rate. In the third year, it does become a bit more of a complicated decision, but it is usually best to file jointly as a rule of thumb.
They must recognize that any time you switch programs, your interest will capitalize.
Maybe one spouse stays in academics and pursues PSLF (Don’t forget your PSLF side fund!) while the other privately refinances and pays their loans off? Maybe they end up picking one team or the other. Either way, staying in the federal repayment plans leaves the door open for PSLF.
Take Home: PAYE or REPAYE if Married?
The take home here is this: every couple who is married where both people earn an income must do the math to determine if filing separately and entering PAYE makes more sense than staying in REPAYE.
As for some general guidelines:
- If you plan to pay back your loans yourself and you are receiving a sizeable REPAYE subsidy. This is particularly true if you plan on paying off all of your debt yourself.
- If you plan on pursuing PSLF, then your goal is to have the lowest possible monthly payment. In this situation, you should likely enroll in PAYE from the beginning and file separately once you start earning an income so long as this savings is not offset by higher taxes. However, this is the right move for a small fraction of people. Make sure you understand it.
- Either way, you should compare your taxes filing both jointly and separately. This will allow you to make an apples to apples comparison on how much you are saving through PAYE by filing separately.
I hope that this was a helpful exercise going through all of this!
What do you think? Are you married to another income earner? What is your situation?
Are you in PAYE or REPAYE? Pursuing PSLF or not? Leave a comment below!