This is the time of year when many students will be graduating from college and anxiously looking forward to beginning their chosen career. It is also the time that many face the reality of how to begin repaying their college loans. Recent articles indicate that the nation's total outstanding student debt has now surpassed a trillion dollars and exceeds the country's outstanding credit card debt.
Unfortunately, the increase in the total of school loans and the number of outstanding loans seems to also bring an increased number of people defaulting on the repayment of those loans. Some reports place the default rate to be approaching 9%. Congress has recently had hearings to consider whether they will step in with some type of program to assist with the repayment and/or provide expanded debt forgiveness programs.
The U.S. Department of Education has announced a new program called the Special Direct Consolidation Loan Program, which offers eligible borrowers a short-term special consolidation opportunity that will be available to eligible borrowers through June 30, 2012. This program is not the same as the traditional Direct Consolidation Loan Program, and only certain borrowers are eligible. To be eligible, the borrower must have at least one student loan held by the Department—a Direct Loan or a Federal Family Education Loan (FFEL), owned by the Department and serviced by one of the Department’s servicers—and have at least one commercially-held FFEL loan (an FFEL loan that is owned by an FFEL lender and serviced either by that lender or by a servicer contracted by that lender.) More information on this program is available at: http://studentaid.ed.gov/PORTALSWebApp/students/english/specialconsolidation.jsp
The fact seems to be that most students need some form of loan to pay for their college education. It is reported that as many as two-thirds of the undergraduate students graduating with a Bachelor's degree incurred some debt. Further, over 85% of the students who applied for student aid during their undergraduate years indicate they had to take out loans to pay for a portion of their education. Basically, education loans come in three major categories: 1) direct student loans such as the Stafford and Perkins loans, 2) loans made to the student's parents called PLUS loans, and 3) private student loans.
Although the typical term for repayment of student loans is up to 10 years, a variety of flexible repayment arrangements of up to 30 years may be available. After graduation, many students will receive offers to consolidate all their loans, giving them the convenience of a single payment. However, the student should be careful to understand the terms of this consolidation and whether this convenience will end up costing them more in the long run.
This option would afford the borrower to combine several loans into one loan and allow him/her to write one check per month (or to have only one bank draft per month). The basis considerations are: 1) will the borrower qualify for loan consolidation, 2) will the interest rate be higher and 3) will the borrower be giving up any favorable features of his/her existing loans.
Generally, all federal student loans have a fixed low interest rate with a grace period. Under most federal programs, a student does not start making payments for six to nine months after graduation. This gives them time to find a job and receive a paycheck before the first payment is due.
Further, many federal programs offer a deferral period. For example, the loans may qualify for a deferment if the student is back in graduate school at least half time, or faced with economic hardship. A deferment period may be granted if one or more of the following conditions are present: unemployed and actively seeking employment, suffering from serious health problems, or having significant personal problems. Generally, however, the interest is not subsidized during forbearance periods and continues to accumulate, leaving the student responsible for paying an even larger balance.
Students are often presented with an assortment of repayment options. The fundamental concept is to present a win/win proposition that would afford the student flexible repayment plans they can sustain, and the lender will have a profitable loan that is fully repaid.
The most fundamental repayment plan calls for the loan to be repaid over a ten-year period with a fixed payment and a fixed interest rate. However, the thing that often seems to be a nuisance is that a person is very likely to have several different types of loans from several different sources. When considering the repayment options, the first thing to do is to make sure you have a complete and clear understanding of all the terms of each loan, including the balance owed, the interest rate, the repayment terms, and any deferment options. It is critical to understand that in many cases, if the student consolidates her loans, she may be changing one or more of those fundamental elements.
Although the fundamental repayment may be offered as described above, the options available to a borrower for repayment may seem unlimited. A good starting place is to start with each lender and discuss the options that are available. Ask if the student qualifies for any reduced interest rates or variations of your repayment terms.
With a graduated repayment plan, you would start with a low payment in the early years, when you presumably would be making less money as you start your career, and then the loan payment would increase in later years. The caution here is the borrower should clearly come to an understanding of the interest rate (is it fixed or variable), and consider if the payments in the early years cover the interest charge but make only a small principal reduction.
The fundamental analysis from a planning perspective is to achieve a balance between the borrower’s cash flow requirements and the goal of reducing the total payments required to pay off the debt. For example, with a graduated repayment plan, the person may actually pay more over time, because the interest charged may be based on the unpaid balance each month. Therefore, the higher loan balance in the early years translates into higher total interest charges and the borrower will wind up paying more interest over the life of the loan.
Another popular option is an extended term for repayment of the loan. The extended period could be anywhere from 15 to 30 years. This is particularly appealing to a student who may have incurred loans well in excess of $60,000. Even if the interest rate is relatively low and fixed like a home mortgage, because of the length of the payback period, the overall cost in interest may be very high.
Borrowers may have federal student loans that were made under the government's William D. Ford Direct Loan program. Under this program, monthly payments would be based on the student's income, family size, and amount of loans. After 25 years of repayment (not counting time spent in deferment or forbearance), any remaining balance on the loans may qualify for discharge.
Further, borrowers should make sure they are aware of any loan forgiveness component that is available to them. This can be a critical thing to consider as they graduate and interview. For example, a teacher might qualify for loan forgiveness if he/she teaches in a Title One school.
This option would afford the borrower to combine several loans into one loan and allow him/her to write one check per month (or to have only one bank draft per month). The basis considerations are: 1) will the borrower qualify for loan consolidation, 2) will the interest rate be higher and 3) will the borrower be giving up any favorable features of his/her existing loans.
The first step in analysis of the repayment options is to determine the amount of discretionary income the borrower has available each month. After you determine the amount of available discretionary monthly income, the borrower needs to assess his/her individual circumstances to pick the best repayment option available to them.
Jerry Love, CPA, is the sole owner of Jerry Love CPA, LLC in Abilene, TX. Contact him at
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