The Student Loan Problem

As of the publication of this post, I have $81,411.15 in student loan debt, courtesy of the Art Institute of Colorado (whose parent organization, Education Management Corporation, has settled at least one large lawsuit alleging student loan fraud.) The debt paid for two years of tuition, supplies, room and board at a private, for-profit art school and was supplemented a bit by grants and scholarships. My back-of-an-envelope calculations suggest that a four-year degree at a state University would cost a similar amount. A student attending an in-state public University and living with their parents would spend about $36,000. A student living in a dorm at an out-of-state public University could spend upward of $135,000¹. So $80,000 does not represent an atypical debt for a student graduating within the last five years. I therefore consider myself well situated to talk about this topic.

It might be expected that I would be all for any plan to forgive student debt. Who wouldn’t want $80,000 added to their net worth in one swell foop? The trouble is that such a move is just moving beans from one bowl to another. It relieves borrowers of their responsibility for their choices (bad, in my opinion) and potentially serves to increase the federal budget deficit (bad, in almost everyone’s opinion). It would also spur an even bigger money grab by certain Universities. It’s a bad idea, and not one that I see ever making it through the legislature, even if the Democrats had locked away the election.

update 2024: The Biden administration did forgive a number of student loan debts by executive order on the grounds that the schools and lenders had engaged in fraudulent practices. I am of two minds about this action. My objections to forgiveness are still valid, but at the same time, I definitely do think the schools outright lied about job placement statistics, and once we graduated, AI pretty well washed its hands of us. I got zero career placement assistance from them. I have a bit more to say on that later in the article.

I think, however, that there are some very fair ways of helping to reduce the burden on students.

The Student Loan Interest Tax Deduction

When I was in school, a federal loan generally had an APR of 6.5% (it’s gone down since then), so many students would pay at least $5200 in student loan interest in their first year out of school (assuming they took loans for that entire hypothetical 80 grand and did not have to rely on any private loan at a higher rate, like I did). The average first-year salary for a student with a bachelor degree is about $50,000 (Engineering’s at the top at about $64k and Education’s at the bottom at $35k. My own starting salary was about $40,000, beginning almost a year after graduation.) Thus, our typical graduate with a typical job is forking over 10% of their gross income in student loan interest, plus the $8000 in principle if they’re on a 10-year repayment plan. That nice, $50k job just became a $36,800 job. In 2015, I personally paid over $10,000 in interest alone. A full quarter of my first working year’s income was taken by interest payments.

This is offset somewhat by a federal tax credit for interest paid on student loans, which serves to reduce the Adjusted Gross Income of the graduate, and therefore reduce their taxes. Now, if you could claim all of the interest as a deduction, the tax on $50k would be reduced from $7258 to $5958, a reduction of $1294. However, there is a cap of $2500 on the deduction. With that cap in place, the tax is $6,633, for a savings of only $625. (This is all based on an idealized situation in which the graduate gets no other tax deductions or credits.)

Now, $669 isn’t a huge amount of money to someone bringing home $50,000 a year. But as we’ve seen, paying back that student loan brings the actual effective salary down significantly, and $669 is a significant quantity to someone making only $37,000. So immediately, removing the cap on the student loan interest deduction serves to put over $600 back in the pocket of our graduate and it simplifies the tax code at the same time.

Personal Finance Education

Half of my problem was that I spent most of my working years, before and after college, ignorant of financial matters. I mentioned in an earlier article that my father had advised me to save 10% of my income, but since he never specified what to do with it, it languished in a savings account, and when I returned to school, that money was very quickly soaked up by those expenses. Up until a little more than a year ago, I was keeping up that same pattern. I had several months’ expenses saved up, but I was still only one or two small disasters away from being completely broke once again.

So much pain could be saved if there were mandatory financial education classes at the high school level. Shockingly, every high school I am aware of offers a class that would be perfect, but for some reason Home Economics seems to emphasize the Home far more than the Economics. I had no interest in learning how to bake or make my own shirts, and while there was apparently a little bit of financial management taught in our Home Ec classes, it seemed to be limited to teaching the students how to balance their checkbook—a skill with increasingly less relevance in this day of electronic banking. Further, at the risk of sounding sexist, Home Economics was a class “for girls.”

My second recommendation for fixing the student loan problem is to make Home Economics a required course in high school and to retool the curriculum to focus on real-world survival skills: Budgeting, saving, and investing. Yes, basic cookery still has a place there, but so does home and auto maintenance. Wouldn’t it be great if everyone knew how to fix a running toilet or a dripping faucet? Shouldn’t everyone know how to change their own oil?

Interest Rate Limits

I personally had a loan with an interest rate of 13% prior to consolidation. I have acquaintances with rates as high as 18%. Yes, it’s an unsecured loan, but it is being offered to someone who has not yet established a means of earning a living. Those high rates indicate that the banks making the loans are well aware of the elevated default risk. They’re only looking at their own pocketbooks, though—how can they protect themselves from the large number of students who can’t pay these loans back? If they were human beings making ethical decisions, they might stop to think about the consequences to the other party of the agreement: This student has a relatively high chance of screwing up their life if they take this loan. Maybe I shouldn’t offer it to them.

This is made worse by the fact that, even if the student does default, even if they lose absolutely everything, they’re likely still on the hook for that debt because student loan debt, even private loans, are often not eligible to be discharged by bankruptcy. Important note: Though it is “common knowledge” that student loans cannot be discharged by bankruptcy, that isn’t 100% the case. It is possible to get a court to discharge them, but the bar is set pretty high. Here’s a study on the subject: An Empirical Assessment of Student Loan Discharges and the Undue Hardship Standard. (EASL&DUHS, for short.)

The solution I proffer: There should be a reasonable interest rate limit applied to private student loans. Personally, I feel that 4.5% + the current unsubsidized Stafford interest rate would be reasonable. That would be 8.26% this year.

The natural objection, of course, is that fewer banks would be willing to make these loans because their risk is inadequately covered. That’s my point exactly! Fewer predatory loans, fewer defaulting graduates, fewer greedy for-profit schools drinking from the free money firehose.

Education Cost Reductions

Since the 1971-1972 school year, the average cost of a year at a public university has risen from $428 to $9648, a 2,254% increase. Over that time, total inflation was 493%. The cost of an education has risen four times faster than most everything else! Assuming that trend continues, by 2027, just ten years away, a university degree will cost over $80,000 in tuition alone. Tack on an additional $51k in room and board, and the average cost of sending a student for a Bachelor’s degree will be $131,000. And that’s assuming the Consumer Price Index holds at a low 2% yearly increase over that entire period.

Public universities are the property of and are operated by state governments. As such, it is the state’s responsibility to ensure that they remain accessible to students. I believe it is not only reasonable, but expected that the states should limit tuition increases to no more than the rate of inflation in a given year. Administrative staff salaries should be limited to a certain percentage of average faculty salaries. They say that nobody goes into education for the money, but college presidents are evidently exempt from that axiom.

Limiting the cost increases at public schools will create a natural limit on private tuitions, as the for-profit colleges will need to remain competitive.

I’d love to propose that measures be taken to reduce tuition below the inflation rate, bringing a university education back within the reach of lower-income families without the need for ridiculous loans. Unfortunately, large changes are less likely than small ones. Perhaps eventually alternative education avenues like Udemy and Khan Academy will create enough downward pressure to accomplish that goal without legislation.

What About My Loans, Right Now?

Most of what I have suggested would serve to help future students, but what about those of us suffering the burden of student loan payments right now? What steps can we take to get out from under them? My minimum monthly payments are currently over 10% of my take home pay, and I’m making quite a respectable salary. A little more than a year ago, they were much, much worse.

The first thing you must do is organize your finances and make some hard life choices to help get you out of that hole. If you have $50,000 in student loan debt, there’s no way you should be driving a $20,000 car. I know, you love your car, but if you’re making payments on it, you have to stop. Right now. I’m going to lay myself bare here: I make $74,000 / year. I drive a 1999 Honda Civic worth less than $1500. That’s a little more than 4 months of your car payment (based on a $20,000 loan at 3.11% interest for 60 months). Over the course of that five year loan, my little beater has saved me $15,000. Imagine what your debt would look like if you subtracted $15,000 from it. I’ll be generous and value your 2011 Civic in good condition at $6,000. I’m still $9,000 ahead.

What are you paying for your housing? Do you really need that space? I was trepidatious about reducing my accommodations, but I find I am fairly happy now living in only 300 square feet. Yeah, my situation is a little extreme since I live in Hollywood, but I dare say you could probably find a slightly cheaper living situation. And if it happens to be within walking distance of your job, you can save even more. I walk to work every day—it’s made me healthier, saved me tons of time and stress, and I have purchased only two tanks of gas in the last 9 months (I’d measure the past 12, but I took a long road trip last spring, which doesn’t represent my typical driving habits).

There are likely plenty of places you can reduce your spending—clothing, electricity, coffee, food. Finding out what you’re actually spending is key to identifying them, though. I use Mint by Intuit (makers of TurboTax—if they can be trusted with my tax docs, I suppose I can trust them with my banking details) to track my spending. I put everything on a credit card (which I pay off completely every month), and Mint automatically categorizes every transaction and shows me exactly how much I spend and where. Another option is You Need a Budget. The first step to controlling your spending is quantifying it. (update, 2024: Intuit started making some dubious decisions with regard to security, so I dumped it. I now track my expenses manually by downloading my credit card transactions from the bank website and pasting them into a spreadsheet that automatically tabulates my spending by category. I do continue to hear good things about YNAB, though.)

As an aside, I also sought out the best credit card rewards program I could find that didn’t require a lot of extra work: TD Ameritrade offered one that gives me unlimited 1.5% cash back, and if I redeem the points to my Ameritrade IRA, it increases to 1.65%. I also have a Chase Freedom Rewards card that offers 5% cash back in certain categories that change quarterly. I use that for anything within the bonus categories and usually devote those points to Amazon Gift Cards. If you want to get really serious about rewards programs, look up some travel hacking blogs.

So step one is to reduce the outflow. Step two is to increase the inflow. When was the last time you asked your boss for a raise? I’m guessing never. Most of us just wait for the annual review to come, and we take whatever we get and count ourselves lucky that we have a job to start with. I’m going to share a secret with you: It’s cheaper for your employer to hang onto you than it is for them to find, hire and train your replacement. As long as you have shown that you’re worth keeping (have you?), a request for a raise will very frequently be honored. The worst your boss can say is no, after all.

When all that new money starts rolling in, don’t spend it! Evaluate your financial situation, and either pay down your debts or invest in your net worth. And I do mean invest. Don’t just let that money stack up in a savings account (0.01%? Please). Once you have three to six months’ living expenses saved, you should put any excess to work for you. If you have the opportunity to invest in something that returns at a rate higher than your loan’s interest rate, then invest it. The stock market historically returns 7% (over a long enough time window), so I’d count that as my threshold for the decision: If my loan’s rate is less than 7%, I am better off putting the money in an index fund (Vanguard’s Total Stock Market VTSMX is the fund I buy, based on advice from several finance bloggers. I hold shares in two IRAs: one at Vanguard and one at Ameritrade, and in a brokerage account at Vanguard).

If you have a loan with a rate higher than your best investment opportunity, all of your excess money should go to paying that down. Furthermore, you should look into refinancing. I used a service called Credible, which automatically submits your information to several different banks and returns multiple options for a refinance. I reduced my average interest rate from about 8% to 2.96% variable (now at 3.26%) by accepting an offer from Citizens Bank. My interest payments dropped from over $10,000 in 2015 to $2566 in 2016. My monthly payment dropped by over $100. And my repayment horizon went from over 30 years to only 10. Compound interest truly is the most powerful force in the universe.

There is a slight risk to a move like this. You lose most of the protections the federal government offers on their loans (although you don’t have to refinance those if you don’t want to), like the option to defer payments if you lose your job and income based repayment plans. And that variable APR means that my rate could theoretically rise higher than it would have been before, although my worst loan was also variable, so even if that happens, I would probably still be better off.

update 2024: As I mentioned above, the Biden administration forgave federal student loans for students at the Art Institutes. Because I had refinanced, my loans were not eligible for forgiveness. However, a mere two weeks before the forgiveness was announced, I had completely paid them off, anyway. One might think I’d be salty about it, but I’m just really happy that my classmates are getting relief!

Aside from the lenders available through Credible, I understand that Sofi offers very good rates for refinancing, but it’s more difficult to qualify with them—they specialize in a particular segment of high-income borrowers.

Finally, there’s the chance you could hit a jackpot with a crowdfunding approach. Givling is a company that operates a little trivia game. Ad revenue and microtransactions are applied to paying off student loans 10 at a time, awarding cash prizes to players, and paying for the costs of the company (75/15/10%, respectively). 40% of the loans are selected by lottery. They require an invite code to join; I’d be pleased if you would use mine: B824101. (By the way, that’s the only affiliate offer in this article at this time. I get nothing from any of those other recommendations.) For those lucky people who are selected for a payment queue, up to $50,000 of a student loan can be paid off. Even people without student loans can play, though. If they’re selected for the queue, they can auction off, sell, or give away their place.

At the end of all of this, I’d be remiss if I didn’t also remind you that a university education is not necessarily required to get ahead in this world. Trade schools and apprenticeships offer a multitude of opportunities without the hefty price tag of a four-year degree. Furthermore, there are other ways of reducing the cost. I only went to my expensive private art college for two years because my wife and I already had lower-cost associate’s degrees from public schools. And I spent ten years getting that two-year degree! I paid for most of it slowly out-of-pocket.

That said, we live in an increasingly technological world, and if this nation is to retain its leadership position in science and industry, we need to ensure that our population has access to the best possible education resources.