4 Tips for Paying Down Student Debt

School-loan-job-debt cycle is the ‘catch-22 of the real world,’ CFP Board consumer advocate Eleanor Blayney says

Update: The Senate failed to accept either of the proposals put forth by House Republicans and Democrats, the Associated Press reported on Thursday. Blayney told AdvisorOne on Friday, “I still believe that a last-minute one-year extension of current rates is possible, if not likely, as a way for Congress to avoid the enormous hue-and-cry that would result if they let rates double without any action whatsoever.”

When a student takes out a loan to pay for college, she steps into the “catch-22 of the real world,” Certified Financial Planner Board of Standards consumer advocate Eleanor Blayney wrote on the Board's blog Wednesday.

Students need the loans to get the education to get the job to pay back the loans, she wrote.

College graduates owe more than $1 trillion and an average $35,000 for this year’s graduates, Blayney wrote. If Congress doesn’t act by July 1, the current interest rate on Stafford loans could double to 6.8%.

“Most likely scenario, in my opinion, will be for Congress to kick the can down the road with a one-year extension of the current 3.4% on Stafford loans,” Blayney, a 2013 IA 25 honoree, told AdvisorOne by email on Thursday.

Several legislators, including another well-known consumer advocate, Sen. Elizabeth Warren, D-Mass., introduced bills in mid-May that would help graduates tackle the extraordinary cost of their education. Warren’s bill, the Bank on Students Loan Fairness Act, would allow students who are eligible for subsidized Stafford loans to borrow at the same rate banks get through the Federal Reserve discount window.

Another bill, introduced by Rep. John Kline, R-Minn. and chairman of the House education committee, and Rep. Virginia Foxx, R-N.C., ties subsidized and unsubsidized Stafford loans to the 10-year Treasury rate plus 2.5% and caps interest rates at 8.5%. For graduate student loans, the rate would be tied to the 10-year Treasury rate plus 4.5% with a 10.5% cap.

A third bill, this one introduced by House and Senate Democrats, would tie federal loan rates to the 91-day Treasury bill rate, plus an additional percentage to be determined by the education secretary. The bill would cap subsidized Stafford rates at 6.8%, and unsubsidized Stafford and graduate student loans at 8.25%.

“The various Republican proposals basically have loans keyed to market rates. In one scenario, new loans would be locked in at current rates; in another, the rates would be reset each year according to the market, with an overall cap,” Blayney told AdvisorOne. “Democrats are not happy with the uncertainty this creates for student borrowers and have countered with plans that either set the rates at which banks get money from the Fed, at one low fixed rate, or indexed to 10-year Treasury rates with an overall cap based on borrower’s income. Another major dividing point is the extent to which student loan interest paid back to the government will reduce the national deficit.”

As the CFP Board’s consumer advocate, Blayney directed her blog post to students struggling with debt rather than financial professionals. She urged graduates who were in the six-month grace period between graduation and the time they have to start paying back their loans to find the best payment strategy for them. To do that, she offered four suggestions:

Identify all loans. Blayney suggested students with federal loans go to the National Student Loan Data System to identify what kind of loans they had—such as Direct, Stafford, Plus or Perkins—and the amount of each. Those with private loans should contact the loan servicer, as the type of loan, the issuer, the amount and whether the borrower is the student or his parents will determine repayment options.

Define overall financial planning goals. Blayney asked students to consider what kind of career they were likely to start and how well it would pay them over time. “Your career choice or desire to continue your education can make you eligible for deferment of your loan payments, and in some cases, even result in forgiveness of your indebtedness,” she wrote. “For example, the federal government’s Public Service Loan Forgiveness Program offers graduates working in public service – including for the government or nonprofit organizations such as schools or foundations – the opportunity to qualify for loan forgiveness after successfully making 120 monthly payments.”

Evaluate alternatives. “Generally speaking, you can base your loan repayment plan either on your income if you meet certain financial criteria, or the amount of your indebtedness,” Blayney wrote, suggesting students visit StudentLoans.gov to compare monthly payments over time, total interest and total amount paid for various payment plans.

Monitor your progress. Blayney encouraged students to track their loan payments and total indebtedness. She pointed out that repayment plans can sometimes be changed if they no longer fit borrowers’ financial needs or circumstances and suggested anyone who can’t keep up with their current schedule contact their loan servicers to discuss alternatives.

“Whatever you do, do not be delinquent in paying your loan, or go into default (usually defined as going 270 days without making required payments),” she urged. “The consequences can be serious: You may be unable to get other credit, rent an apartment, or even be considered for a job. If you do have a job, your wages could be garnished.”

With the magnitude debt that could be incurred from student loans, students and families should take advantage of alternatives, especially if legislators are unable to find a compromise.

“Given congressional gridlock, it may be up to students and families to manage their educational debt burden by doing some hard cost-benefit analyses of college education,” Blayney told AdvisorOne. She stressed that the analysis should be specific to individual students and should take into account their skills, aptitudes and likely career path, as well as the family’s circumstances.

“Will the cost of a given degree at a given university or college be worth incurring debt in the tens of thousands, particularly if this debt burden eclipses other major investments such as homes and retirement plans?” she asked. Some alternatives include vocational programs or community colleges for general education requirements before transferring to another school.

Then, of course, there are 529 college savings plans. According to FRC, 529 savings plan assets increased 7% in the first quarter of 2013 to more than $180 billion. Over the past 12 months, they’ve increased 14% and net inflows in the first quarter were over $3 billion.

“At the end of the day, finding ways to significantly lower the cost of a college education – either at the national level or at the level of household decision makers – is a far better strategy for dealing with the student loan problem going forward than wrangling about the level of interest rates,” Blayney told AdvisorOne. “Keeping education costs affordable trumps low-interest rate loans for high-priced education every time.”

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