Grads who over-repay debt face £73k hole in pension

Graduates should boost their pension rather than pay off student loans, writes Laura Miller

Heavily indebted students graduating this summer may feel pressure to sacrifice more of their wage than is necessary to get back into the black, but experts warn that this money would do more if put in a pension.

High tuition fees and hefty maintenance loans saddle English graduates with the highest student debts in the developed world, according to the independent Institute for Fiscal Studies (IFS).

Since a change of policy swapped maintenance grants for loans in 2015, undergraduates have faced average debts of £50,000 from a three-year degree, rising to £57,000 for the poorest students.

Interest starts racking up from the very beginning. The current rate is RPI inflation plus 3 percentage points, totalling 6.1pc for new graduates. Traditional wisdom about debt is to pay back such a heavy financial burden as soon as possible by increasing repayments above the required minimum.

This year’s graduates must already make repayments of 9pc of pay on earnings above £25,000. But experts warn that a decision to overpay could end up costing graduates tens of thousands of pounds later in life.

Pension company Royal London found that graduates on an average salary of £18,222 who opted out of their workplace pension to pay off student debt more quickly risked a £73,000 retirement shortfall in today’s prices.

Staying in a workplace pension but not increasing contributions beyond the minimum so as to pay off student debt would also be highly damaging to graduates’ wealth. Tax relief, investment returns, compound interest and employer contributions are all diminished as less money is saved into a workplace pension.

Claire Walsh, an independent financial adviser at Aspect8, said: “With interest rates on student debt over 6pc, it is understandable that young people would want to clear these off as quickly as possible. But look carefully at your workplace pension scheme.”

Under automatic enrolment, employees must contribute 3pc of salary and employers 2pc. Ms Walsh said a graduate earning £18,222 would lose £25 from their take-home pay, but the amount put into their pension pot would total £56.

“Many employers offer more generous schemes – some match contributions up to 10pc,” she added. “I would encourage most people to stay in their employer pension and, if they can afford it, make contributions to get the maximum employermatched funding.”

An average graduate can expect to save a pension pot of around £148,000 in today’s money if they contribute at the minimum rate under automatic enrolment, Royal London calculated.

They will not pay off their student debt, but it will be written off 30 years after they graduate. According to the IFS, 83pc of graduates will never fully repay their loans.

Graduates who opt out of a workplace pension to clear their student debt will do so after 21 years, but restarting pension saving after that period will mean a lower nest egg of around £73,000, nearly halving their pension income.

A graduate who earns double the average will clear their debt four years earlier if they opt out of their pension scheme, and their pot will be around £50,000 smaller.

Helen Morrissey of Royal London said: “With graduate pension pots already facing a squeeze due to student loan repayments, any further reduction could pose a devastating blow to a graduate’s retirement fund. It is essential that employers and the Government communicate the benefits of pension saving clearly to Britain’s new graduates.”

This comes after it emerged that in 2016-17, the most recent year with available data, 85,720 graduates made overpayments totalling £49.8m, despite having already paid off their entire debt. This is because HMRC passes on repayment information to the Student Loans Company just once a year.

‘Employers must communicate the benefits of pension saving to graduates’

Paying off student debts early could hit graduates in later life, a study has warned