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I have 3 separate student loans with varying interest rates:

  1. $2,380 at 4.66%

  2. $5,500 at 4.29%

  3. $7,000 at 4.29%

Interest compounds daily, and the loans are set to amortize over 10 years, with 12 payments per year. This comes out to roughly $156.24 per month for principal and interest.

If I can afford to pay $210 extra per month, what is the best way to allocate the extra funds to mitigate total accrued interest for all 3 loans?

Derek Andre
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  • How will the banks reward you for your extra payments? By shortening the payment period? – zoli Dec 30 '16 at 14:46

1 Answers1

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By paying an extra dollar in each of the loans, you will be saving in interest 4.66, 4.29 and 4.29 cents from each of the loans giving a total of 13.24 in savings, if instead you had payed all 3 dollars into the first loan the savings will be of 13.98 instead. Clearly, every extra dollar should be paid to the loan with higher interest rate, until it is paid in full. This result does not depend on the outstanding debt. The argument is on where the extra dollar implies a higher marginal saving in interests.

After the first loan is paid in full, the other two have the same interest, so it is irrelevant how you allocate the \$210 of extra payments.

Regio
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  • Although the $2,380 loan has the higher interest rate, it does not accrue interest as quickly. For instance, the $2,380 loan will charge $9.24 of interest after the first month. By contrast, even though the $7,000 has a lower interest rate, it will charge $27.18 in interest after the first month. – Derek Andre Dec 30 '16 at 18:30
  • My argument is still valid, when deciding where to allocate any extra dollar mount, the best is to payoff that for which the extra dollar will generate larger savings, not that which generates more interests in total. – Regio Jan 02 '17 at 21:56