Making Student Finance Repayment Tax Deductible in the UK: A Case Study of a Plan 2 Graduate

Introduction

As the cost of higher education continues to rise in the UK, the burden of student loans has become a hot topic of discussion. One proposal that has gained traction is making student finance repayment tax deductible, which could significantly alleviate the financial burden on graduates. In this blog post, we will explore the potential impact of this change by examining the case of a recent graduate named Jane, who starts on a £30k salary with a Plan 2 loan, receives a 3% pay rise each year, and has a £50,000 student loan balance.

Background on UK Student Loans

In the UK, student loans are divided into two plans: Plan 1 and Plan 2. Plan 2 loans are applicable to those who started their studies in England and Wales after September 2012. These loans currently accrue interest at a rate of RPI (Retail Price Index) plus up to 3% while studying, and between RPI and RPI + 3% after graduation, depending on the graduate’s income. Repayments start once the graduate earns over the £27,295 threshold (as of 2021) and are calculated as 9% of the income above this threshold.

The Case Study: A Plan 2 Graduate Named Jane

Let’s consider a recent graduate named Jane, who has a starting salary of £30,000 per year and receives a 3% pay rise each year. As a Plan 2 borrower, Jane begins repaying her student loan once her income surpasses the £27,295 threshold.

In her first year, Jane repays £243.45 (9% of £2,705), which is deducted from her salary. Assuming the current tax rates, she pays £4,098.20 in income tax and £2,340.00 in National Insurance contributions, leaving her with a net income of £23,318.35.

With a 3% pay rise each year, Jane’s salary increases and so do her loan repayments. However, as it stands, these repayments are not tax deductible, which means she pays tax on the full amount of her income, despite the student loan deductions.

The Impact of Making Student Loan Repayments Tax Deductible

If student loan repayments were made tax deductible, Jane’s income tax liability would decrease. In the first year, her taxable income would drop to £29,756.55 (£30,000 — £243.45). This would reduce her income tax to £4,044.61, saving her £53.59. As her salary and loan repayments increase each year, this tax saving would grow, helping her manage her student loan repayments more effectively.

Over a 10-year period, Jane would save an estimated £1,509.70 in income tax if student loan repayments were made tax deductible, assuming constant tax rates, repayment thresholds, and interest rates, as well as a consistent 3% increase in both salary and loan repayments. This example illustrates that making student loan repayments tax deductible could result in substantial tax savings for graduates over time.

Conclusion

Making student finance repayment tax deductible in the UK could have a significant impact on the financial stability of recent graduates like Jane. By reducing their tax liability and easing the burden of student loan repayments, graduates would be better positioned to thrive in their careers and contribute positively to the economy. While there are many factors to consider when implementing such a change, this case study illustrates the potential benefits for graduates working hard to build a future while repaying their student loans.