Using SIPs to repay education loans more efficiently

Education inflation was estimated to be around 11 – 12 percent in India during the last decade.

Education loans have become one of the most popular modes of funding for students. In the past 10 years, over 4.60 lakh students have availed of an education loan to study abroad. Though the availability of loans has become plentiful over the years, their repayment can be a challenge many do not anticipate. The ability to repay an education loan can impact how much financial freedom one will have until they are done repaying a loan.

The Non-Performing Assets in education advances stood at 7.82 percent of a total outstanding portfolio of Rs. 80,000 crores at the end of the first quarter of FY23. This data is an indication of how difficult repaying an education loan is for many students. In this column, we will discuss how repaying an education loan doesn’t need to be a herculean task with a smart option.

Why do students avail of education loans?

Education costs are rising at a staggering pace. Education inflation was estimated to be around 11 – 12 percent in India during the last decade, approximately double the general price level measured by CPI.

Due to the rising education costs, the number of people ending up with insufficient savings is also increasing. Most people would do everything before sacrificing their dreams. Due to this, getting an education loan is becoming popular by the day. This is evident from the data released by the RBI. The outstanding amount of education loans lent by Indian banks is increasing daily. The amount of outstanding education loans has increased by 43 percent from Rs.76,376 crore in March 2019 to Rs.1,09,743 crore in September 2023 in just 4.5 years. This shows that people are opting to choose education loans more and more.

So, how do you repay your education loans?

The answer lies in systematic investment plans (SIP). SIPs can be used to repay the education loans. By investing in mutual funds through SIP mode, you can create a corpus that can be used to repay the education loan early. Let us understand this through an example.

Let's say, Vijay, who is a student, takes an education loan of Rs. 25 lakh for 10 years at an interest rate of 10 percent per annum (pa). He will be required to pay an EMI of Rs.33,038 monthly. If he decides to repay the education loan over the pre-decided tenure, here is how the math would turn up for him:

Looking at these numbers, Vijay decides to pre-pay the loan to save the interest. However, he thinks he lacks enough funds for a meaningful prepayment. To overcome this issue, Vijay decides to invest some amount regularly in mutual funds through an SIP. He expects to earn a higher return than the interest he pays so that he can generate some corpus.

To start with, Vijay will invest Rs. 3,304 p.m., 10 percent of his EMI, in mutual funds through an SIP with an expected return of 12 percent. By doing this, he can repay his education loan in the 102nd month when the investment amount exceeds his loan balance. This will save 18 EMIs valued at Rs. 5,94,678 and interest of Rs. 44,574.

The following will be the scenarios at different levels of SIP amounts.

As the amount of SIP increases to 25 percent, the number of EMIs saved doubles. Vijay can repay the loan early and save more in terms of EMIs and interest as he increases the SIP amount (see table below for example where SIP increases to 100 percent).

SIPs can be a great way to save and invest. And even if you have not saved and have taken an education loan, you should still start investing to become free from the burden of an education loan.