Tuesday’s need-to-know money news

Financial-PlanningToday’s top story: How life insurance companies learn all of your secrets. Also in the news: How to avoid overwhelming student loan debt, questions parents should answer before paying for a wedding, and financial tips to ease the transition from military to civilian life.

How Life Insurance Companies Learn Your Best-Kept Secrets
It’s all in the data.

8 College Planning Tips to Avoid Overwhelming Student Loan Debt
Starting off on the right foot.

Paying for a Wedding: 5 Questions Parents Should Answer Now
Forget about any fancy purchases for a while.

8 Financial Tips To Ease The Transition From Military To Civilian Life
Coping with big changes.

How not to drown in student loan debt

DrowningI recently talked to yet another recent grad who owes six figures for an undergraduate degree. The ease with which young people can drown themselves in debt makes me furious.

And a lot of young people are having trouble paying this debt. The exact number of struggling borrowers is a bit of a mystery, as I wrote in this week’s Reuters’ column, “Confusing data flummoxes fixing of student loan defaults.” But it’s safe to say a sizable portion of borrowers is having trouble paying down their education debt.

A college education, or at least some post-graduate education, will be a virtual necessity if you want to remain in the middle class in the 21st century. But believing that any investment in any education will pay off is naïve. The thing is, the colleges know better, or at least their financial aid staffs should. But their vested interest in selling educations typically means they don’t step in or even offer warnings as their teenage and twenty-something students pile on ridiculous amounts of debt.

Here’s what I wish every college student and every parent knew:

1. You should stick to federal student loans. These loans have fixed rates, tons of consumer protections and most importantly, limits on how much you can borrow. You typically can only borrow $5,500 for your freshmen year. You typically can’t borrow more than $31,000 for an undergraduate education. That makes it virtually impossible to take on too much debt as long as you get the degree. Can’t afford the education you want with just federal loans? Then you need to look for cheaper schools.

2. Steer clear of private student loans. Honestly, these loans should have warning stickers plastered all over them, like cigarette packs. The rates are typically variable, there are few options if you can’t afford the payments and you can borrow far more than you could ever repay. They should only be considered if the total amount you’ll borrow in both federal and private loans is no more than you expect to make your first year out of school.

3. Mom and Dad should not risk their retirement. Federal parent PLUS loans have some of the advantages of federal student loans. The rates are fixed and there are some repayment options (parents can choose extended, graduated or income-contingent payments, but not income-based or “Pay as You Earn,” the most helpful payment plans for overburdened debtors). But unlike federal student loans, there aren’t reasonable limits on what you can borrow. Parents’ ability to repay isn’t taken into account, and they can borrow up to the full amount of their child’s education. That’s a recipe for disaster. Parents should consider borrowing for college only if they’re able to comfortably repay the debt AND continue saving adequately for their own retirements.

4. You should get through school as fast as possible. If Mom and Dad are paying the bill in cash, then you can afford to party, pack your schedule with electives and switch majors 10 times. If your future self is paying the bill via loans, then you need to get your act together. Get help—find a mentor or advisor who cares about you enough to set you on the right path. The place to look is among your school’s best teachers. Ask around, because these teachers get talked about; take their classes; ask for their help.

 

How many borrowers struggle to pay student loan debt?

Zemanta Related Posts ThumbnailWe know about how much outstanding student loan debt there is ($1.2 trillion, per the Consumer Financial Protection Bureau). We have numbers about how many borrowers default on their federal student loans (the two-year default rate is 10%, which means one out of 10 of borrowers who entered repayment in 2010-11 let 270 days pass without a payment, while the three-year default rate is 14.7%).

What we don’t know is how many borrowers struggle to repay their loans, falling behind and potentially trashing their credit, without actually defaulting. The U.S. Department of Education, which provides the default numbers, doesn’t provide statistics on delinquency. A recent study by the Federal Reserve Bank of New York used credit bureau records to put the “effective” delinquency rate at 31% at the end of 2012. The Fed researchers tried to figure out and subtract from the equation the loans that don’t have to be paid because the borrowers are in school, in grace periods or in approved suspension with forbearance or deferrals. They determined that of the rest–those borrowers who were supposed to be in repayment–nearly one in three was 90 days or more late with their payments.

Which is shocking, but it doesn’t quite match up with other studies and published statistics, student loan expert Mark Kantrowitz pointed out in my Reuters column, “Confusing data flummoxes fixing of student loan defaults.”  A sampling of those other statistics:

  • The Federal Reserve Bank of Kansas in 2013 determined that 9.7% of student loan accounts at the end of 2012 were past due, but the delinquency rate was 23% once loans that appeared to be in forbearance, deferment or for students still in school were eliminated. Notice that this study looked at accounts (individual loans), of which the typical borrower has more than one. If one out of four loans (roughly) were delinquent, the proportion of delinquent borrowers would be expected to be smaller (perhaps much smaller).
  • Over a five-year period, the Institution for Education Policy (IHEP) concluded that 26% of borrowers were delinquent at some point and that another 15% had delinquencies that led to default. IHEP analyzed repayment data for nearly 1.8 million borrowers provided by five student loan guarantee agencies in 2011. Note, again, that what’s being measured is different from the New York Fed study. If one out of four borrowers had trouble paying their debt in a five year period, you’d expect the percentage in any single year to be substantially smaller.
  • A previous report by the New York Fed researchers found the total volume of delinquent student loan debt in the third quarter of 2011 was 21%, yet figures published by the leading student loan company Sallie Mae suggest a much smaller pool of troubled loans. The company’s most recent quarterly filing with the Securities and Exchange Commission showed that 85.9% of its federal student loans in repayment were current, with just 7.5% 90 days or more late. The delinquency rate for the company’s traditional private loans was 2.9%. Private loans overall comprise about 15% of outstanding student loan volume.

So, the statistics so far measure different things–borrowers vs. accounts vs. volumes of student loan debt–using different sources (data from credit bureaus vs. data from lenders vs. data from one albeit very large lender) and coming to different conclusions.

Why does it matter? Well, if most borrowers are figuring out ways to pay their debt down over time, then the available solutions for dealing with student loan debt are probably adequate for most. If a huge proportion are struggling, on the other hand, then it may be time to roll out additional help.

Because student loan debt isn’t just a problem for those unwise enough to pile on too much of it. Struggling borrowers with lousy credit are hampered in every area of their economic life and could even have trouble getting the jobs that might help them pay their debt (because many employers check credit as a condition of employment). A big chunk of borrowers who can’t buy homes or cars or get decent jobs could be a real drag on the economy.

Erasing student loans in bankruptcy court

Help at financial crisisEducation debt typically isn’t erased in bankruptcy court. That doesn’t mean it can’t be.

Ask Michael Hedlund, an Oregon law school graduate who repeatedly failed the bar and then went to work as a juvenile counselor. A federal appeals court decided he didn’t have to pay $53,000 of the $85,000 in student loans he still owed.

Or Janet Rose Roth of Nevada, who was freed from over $95,000 in federal student loans even though she was employed for most of the time she owed the money and never made voluntary payments on the debt.

Or Carol Todd, who dropped out of the University of Baltimore School of Law and was allowed to erase nearly $340,000 in education debt. A bankruptcy judge ruled her Asperger’s syndrome made it impossible for her to hold a job that would allow her to repay the loans.

These three court decisions, all made within the past two years, challenge many misconceptions about who can and can’t get relief in bankruptcy court.

The cases have something else in common: the debtors didn’t, or couldn’t, pay for help. Roth represented herself in court while law firms represented Hedlund and Todd in their appeals pro bono, or without a fee.

My Reuters column this week (“Bankrupt? How to get student loans erased“) discusses how few borrowers actually try to get their loans discharged in bankruptcy, and whether cost is a factor. You can read it here, and get all my Reuters columns here.

Wednesday’s need-to-know money news

Today’s top story: Preparing to deal with debt collectors. Also in the news: Getting financial help while caring for elderly parents, why parents’ personal finance decisions are changing, and how to avoid being scammed by the wolves of Wall Street. Hope

What to Do Before Debt Collectors Call
Have your numbers in order.

Retirement: Get financial help for caring for parents
Getting help for the help you’re giving.

Is a Joint Bank Account the Secret to a Happy Marriage?
It’s all about transparency.

Personal Finance Decisions Parents Are Changing in 2014
Saving money to avoid student loan debt.

5 Tips to Avoid a Real “Wolf of Wall Street”
Never give your savings to a guy named “Wolfie”.

Putting off retirement savings is an expensive mistake

Dear Liz: I have about $16,000 in student loans at 6.8% interest. At the current monthly payment it would take me about 7.5 years to pay them off. I contribute 10% of my income to my company’s Roth 401(k) plan (my employer matches the first 6% contributed). I also contribute 3% to the stock purchasing plan. I am thinking of cutting back my 401(k) contribution to 6% and not contributing to the stock purchasing plan. Applying the extra money to my loans would reduce the payback period to about 2.5 years. After that, I would increase the contribution amount and diversify with a Roth IRA as well and maybe even begin the stock purchase program again. What do you think?

Answer: Not contributing to retirement accounts is usually an expensive mistake. The younger you are, the more expensive it can be.

Every $1,000 not contributed to a retirement plan in your 30s means about $10,000 less in retirement income. That assumes an average annual growth rate of 8%, which is the historical average for a stock-heavy portfolio.

In your 20s, the cost of not contributing that $1,000 is $20,000 of lost future retirement income. The extra decade of not getting those compounded returns makes a big difference.

People have the erroneous idea that they can put off retirement savings and somehow catch up later. Catching up, though, becomes increasingly difficult the longer you wait. A better approach is to save as much as possible starting in your 20s when the money has the longest time to grow. Then you’ll be in a better position to withstand job losses or other interruptions of your ability to save. If those setbacks don’t happen, you’d have the option of retiring early.

Granted, your plan would require reducing retirement contributions for just a few years. But the federal student loans you have are fixed-rate, tax-deductible debt that you don’t need to be in a hurry to pay off. In the long run, you’d be much better off boosting your retirement contributions.

If you’re determined to pay down your loans, however, use the money you’ve been contributing to the stock purchase plan. Continue making at least a 10% contribution to your retirement plan and increase that as soon as you can.

Wednesday’s need-to-know money news

creditWhich debts you should settle before applying for a mortgage, what to glean from your free credit report, and why crowdfunding is no longer just for opening a new coffee shop.

The Right Way to Pay Off Debt to Get a Mortgage
Which debts you should pay off before trying to get a mortgage.

The Ten Commandments of Personal Finance
Ways to avoid financial confession.

4 things you don’t know about 529 plans
What you should know before withdrawing funds from the popular college savings program.

5 lessons from free credit score notices
Things to keep in mind while reviewing your free credit reports.

Crowdfunding for Student Loan Debt?
Could the Kickstarter method be used to paid down student loans?

In case you missed it: the youth edition

Cut up cardsSpurning credit cards means younger people have less toxic debt but they may be doing inadvertent damage to their credit scores and costing themselves money. Learn more in “Why young people hate credit cards.

Read some smart answers to the awkward questions your kids may ask about family finances in “One way money is a lot like sex.

You’ve probably read that student loan rates doubled on Monday, but that’s not quite true. Read “Student loan rates: Facts amid the fictions” for the straight scoop.

Have a great weekend!

Student loan rates: facts amid the fictions

Paid education. Graduate cap on bank notesStudent loan rates aren’t about to double, despite the headlines.

Only rates for newly-issued, subsidized federal student loans are set to rise July 1 from 3.4% to 6.8% because Congress couldn’t get its act together to prevent the increase.

Loans that have already been made won’t be affected. Neither will there be an impact on unsubsidized federal student loans, since those already carried a 6.8% rate, or on PLUS loans for graduate students and parents, which have a 7.9% rate.

Subsidized loans traditionally got lower rates because the borrowers have demonstrated financial need. But subsidized loans also charge no interest:

  • while the student is still in school at least half time
  • for the first six months after the student leaves school and
  • during an approved postponement of loan payments.

Those are powerful advantages not available on unsubsidized loans, which is what you get when you can’t demonstrate financial need.

College expert Lynn O’Shaughnessy points out in her MoneyWatch column that the doubling of subsidized loan rates actually won’t have an outsized impact:

The hike will mean that a borrower will spend less than $7 a month repaying that extra interest, according to Mark Kantrowitz, the publisher of Edvisors Network and a national financial-aid expert. Keeping the subsidized rate at 3.4 percent would cost the government $41 billion over 10 years, which is a high price to pay to save borrowers a few dollars a month.

Kantrowitz has said it’s unlikely that higher interest rates would dissuade many from attending college, and he would rather see the money go toward increasing Pell grants for the neediest students, which would do a lot more to encourage them to get a degree. Here’s what he had to say in a New York Times op-ed piece co-authored with O’Shaughnessy:

But the partisan posturing is a distraction from far more pressing issues that face students and parents who must borrow to cover their college costs. What’s lost is how Congress, in numerous ways, has been hurting the most vulnerable college students and dithering on the crisis of college affordability….Congress has starved the Pell grant program, an educational lifeline for low-income families.

He goes on to question why most student loan rates are so much higher than the government’s cost, something that’s turned education debt into a profit center for Uncle Sam. Congress also hasn’t done anything about the suffocating student loan debt many graduates have already taken on or the continuing (if somewhat moderated) increase in education costs. Private student loans remain especially problematic, since they lack the consumer protections of federal student loans and many lenders have been unwilling to work with borrowers to create affordable repayment plans. I’ve argued that we should give bankruptcy judges the power to modify private student loan terms as a way of forcing lenders to play ball.

Nobody wants to pay more interest, but there are bigger problems with the way we pay for higher education than a hike in the subsidized student loan rate.