Consolidate debt with Stafford loan?

March 28, 2013 11:37 AM

I am a "mature" student, studying at a university part time while working full time. I just learned that I qualify for a Stafford loan of about $7400. I don't need the loan to pay for classes because of my work income, but it occurred to me that I could take the loan, use it to pay off credit card debt I carry at a rate of interest more than 5 points higher than the Stafford loan rate, and then pay the Stafford loan off early. Essentially, debt consolidation using this federal loan. My questions: is this kosher? Is it wise? What I might not be thinknig about.
posted by anonymous to Work & Money (12 answers total)

Student loans are non-dischargable in bankruptcy (except for severe disability). Credit card debt is unsecured and much easier to get rid of. Student loan interest rates may be lower, but you pay a high price by not being able to dump them, regardless of your later circumstances.
posted by Happydaz at 11:44 AM on March 28, 2013 [3 favorites]

I would not do this because you cannot discharge student loans. And you're supposed to only use it for "school related expenses" though of course money is fungible.

If you can pay extra, just pay extra on on the credit card. If you can pay it off within a year, consider either getting a 0% interest for 12 months credit card and do a balance transfer. (Make sure to read the fine print!) Or get a personal loan for Proper or Lending Club, if they offer you a much better rate than your credit card.

But I definitely wouldn't use the student loan.
posted by ethidda at 11:49 AM on March 28, 2013

It depends on your overall financial situation and confidence in your ability to pay it back later (it sounds like you're pretty stable if you can pay for classes out of pocket, and $7400 is not a huge amount compared to the average debt load.) There shouldn't be any consequences to you taking the loan and using it in the way you describe, if you're confident in your ability to pay it off quickly later, for the reasons Happydaz describes. There's a bit of risk involved, but if I were in your situation, I'd probably do it. A 5-point reduction is no small thing.

Also, be advised that you do not have to take the entire loan amount offered to you. If you decide to do this, and your credit card debt is less than $7400, just take what you need and return the rest.

On the bureaucratic/is-this-kosher side, what happens after the loan is disbursed to you is not tracked. I had a 99%-funded teaching fellowship to do my master's degree--so there wasn't even any tuition to pay, just a small amount in quarterly fees--and I took out a Stafford loan at one point to help pay for other living expenses that my stipend wouldn't cover (coinsurance on a couple of surgeries, car repairs, etc.). There were no consequences.
posted by Kosh at 11:51 AM on March 28, 2013 [1 favorite]

Federal student loans can only be used to pay for education expenses.

http://www.direct.ed.gov/inschool.html: "You may use the loan money you receive only to pay for your education expenses at the school that is giving you the loan. Education expenses include school charges such as tuition, room and board, fees and indirect expenses such as books, supplies, equipment, dependent child care expenses, transportation and rental or purchase of a personal computer."

Like others said, I'm not sure how they'd know...but it would definitely be illegal and something the IRS might take an interest in.
posted by epanalepsis at 11:52 AM on March 28, 2013

I think this is done. Often. Very often. Lots. Lots and lots.

I'd be aware of the abovementioned stipulation that you're taking on a debt that's (much, much) harder to drop later and that you shouldn't outright brag about what you did with the money to the school's bursar or the IRS because, honestly, who is to say that you didn't use the money to pay for your "transportation and rental" needs, all the while using the money you'd usually pay for your car/rent/mortgage to zap your credit card debt.

Did I mention you're not the first person to do this? You're not.
posted by RolandOfEld at 12:00 PM on March 28, 2013 [2 favorites]

In practice, I would only worry about the legality if your work income paying your education expenses is less than 7400 dollars.

Otherwise you're just reimbursing yourself for covering education expenses with your work income, and choosing to use that work income to pay down your debt.
posted by politikitty at 12:10 PM on March 28, 2013

You can use the loan to pay for school and use the money you are not paying for school right now to pay off your credit card debt.
posted by empath at 1:26 PM on March 28, 2013 [1 favorite]

As some have said above, this could be a wise financial move, but only if the two following things are true:

1. It is extremely unlikely that you would have to file bankruptcy within the time period it will take for you to pay off the Stafford loan; and

2. You absolutely, no-kidding, really really will definitely NOT build those credit card balances back up after you pay them off with the loan.

For the typical college kid (<25 years old), I'd almost never recommend this since #2 is probably not true. Since you are "mature" and both working and studying, hopefully you have good self-awareness and can assess if your own self-discipline is up to the task of keeping #2 true.
posted by stoffer at 2:23 PM on March 28, 2013

I'm somewhat confused by people getting hung up on the 'can only be used for education expenses' thing. As far as I know, 'can only be used for education expenses' means 'the amount of the loan cannot exceed one's education expenses' because there's no mechanism to label money in your bank account. Stafford loans are paid directly to the school and the money left after paying tuition is then disbursed to the student. Even if loan money were purple and thus distinguishable from other money, if the OP's tuition and fees are more than $7400, the OP would never actually see any of that purple money.

However, I have no idea what is considered an 'education expense' for a part-time student, aside from the obvious (tuition, books, etc.), so unless the OP can ascertain that, the safe thing to do certainly would be to only accept as much loan money as the OP pays in tuition, which is what empath's suggestion amounts to.
posted by hoyland at 3:53 PM on March 28, 2013

Educational expenses are defined here, not sure if this definition applies for these purposes though: http://www.irs.gov/publications/p970/ch06.html#en_US_2012_publink1000295037 I doubt that part-time status has any bearing on the type of expenses. And because interest paid on student loans is tax-deductible, I'd think that paying off credit card debt with them is almost certainly gaming the system. I'm not sure that using just the balance makes it more legal?

But nevermind kosher, it could be wise in your situation and certainly a lot of people do it without repercussion.
posted by epanalepsis at 4:50 PM on March 28, 2013

Why not move your debt to 0% credit cards. It really makes paying them off much easier. The thing is, it only works if you stop carrying a balance.

I know a number of more mature students who have taken the Stafford Loan route and it is not pretty. If something goes wrong in your financial life you are stuck with no way out of the situation.
posted by cairnoflore at 5:35 PM on March 28, 2013 [1 favorite]

While it's true that you can't discharge student loans in bankruptcy, it's worth noting that the student loan repayment plans are generally much more flexible than credit card companies. In times of hardship, you can get a forbearance; while you're in school, you don't need to pay them down; and even if you default, you will have options to rehabilitate the loan, and work out income-based repayment.

Beware though that federal student loan collections have more direct power to get ahold of your assets (bank account lien, etc.) than credit card companies do.
posted by nacho fries at 7:08 PM on March 28, 2013