Paying student loan with practice note

[1inDebt]

Hey everyone. First time poster here. Been following the WCI blog for a while and finally found the forum! I am a first year resident in a dental specialty. One of my co-residents says the above is his plan. He says he will buy a practice with a loan and request extra cash for "practice upgrades", but use the extra money to pay his student loans instead.

According to him, the interest on his practice loan will be tax deductible, while the interest on the student loan is mostly not.

Anyone heard of this? Tried it?

[The White Coat Investor]

Welcome to the forum.

Other than the honesty issue of lying to the lender, it's a reasonable thing to do. It's a bit like taking out a HELOC and using it to pay off student loans. Essentially you're swapping lower interest rate, deductible, forecloseable debt for higher interest rate non-deductible debt that doesn't go away in bankruptcy.

But the key thing to remember is that refinancing and playing tricks like this doesn't eliminate the debt, it just moves it around. If you want to get rid of debt, you need to throw a bunch of money at it.

[1inDebt]

Yes that is my plan! Thanks for your response!

[Donnie]

Check the loan documents. This is equivalent to taking the proceeds from a loan to pay yourself a dividend. Typically what you are allowed to do with proceeds from the loan or cash generated by the business will be explicitly stated in the loan contract. You may end up losing the practice and in a lawsuit if you breach the loan contract. Don’t take it lightly. Consult a lawyer.

[1inDebt]

Donnie wrote:

Check the loan documents. This is equivalent to taking the proceeds from a loan to pay yourself a dividend. Typically what you are allowed to do with proceeds from the loan or cash generated by the business will be explicitly stated in the loan contract. You may end up losing the practice and in a lawsuit if you breach the loan contract. Don’t take it lightly. Consult a lawyer.

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Right. I personally do not think I have the stomach for these kind of games, but I was curious as to whether it was possible

Hopefully I will be able to refinance my student debt at a better interest rate than the bank will give me for a business loan, anyway.

Thanks!

[Donnie]

1inDebt wrote:

Right. I personally do not think I have the stomach for these kind of games, but I was curious as to whether it was possible

Hopefully I will be able to refinance my student debt at a better interest rate than the bank will give me for a business loan, anyway.

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I want to make a distinction.  This likely doesn't fall into a gray / games area.  It is either (i) explicitly allowed in the loan docs, in which case, go ahead and do it if it makes financial sense or (ii) it is explicitly forbidden, in which case doing it would be a breach of loan covenants or borrower representations.  If (ii), don't even think about doing it and actively try to dissuade your friend from going down this road.

[1inDebt]

Interesting, thank you for clarifying!

[startupdoc]

just pay it off as quick as you can. you can also refinance the student loan to much more reasonable rates now.

[Zaphod]

I think it would be hard to find a business loan (though I've never seriously looked) with good enough rates to beat out a refinance, even tax adjusted.

[saildawg]

I think you will find it difficult to find a business loan with a lower interest rate than a privately refinanced student loan.  How much tax savings would you expect?  Not only can you find a more competitive rate by refinancing privately (recommend using the links on WCI), you will get a bonus to do so.  You can repeat that process of refinancing for a new loan to get another bonus as well.    If you did that once a year you would get on Average $300.  Seems like a better option than perhaps voiding the terms of your loan risking your practice etc.  Heck if you need more to compete with your "tax savings" refinance a few times for bonus.  It takes a little work, but not much.  The point is don't try to leverage your debt by playing outside the rules, use the rules that exist and take advantage.  Either way its best to get ride of any debt ASAP, its the surest path to increasing your net worth.  Chasing the tax deductible benefit seems like "fools gold", and distracts you from getting ride of your debt emergency ASAP.