Posts Tagged ‘educational debt’

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Student Debt the Next Wave?

Friday, August 14th, 2009

Sandra Block at USA Today covers the next wave of financial problems: college graduates and their debt obligations. As she writes, “The latest Education Department figures estimate that student loan default rates rose to 6.9% for fiscal 2007, from 5.2% a year earlier. The consequences of default are severe: The loan balance becomes due, and the government can garnish the borrower’s wages and withhold tax refunds.”

The default rate is almost as high as that associated with consumers and their credit cards. So what should a college graduate with educational debt do?

Our core advice remains the same: understand your total balance amounts and terms of repayment. Set up and live by a budget. Prioritize your outstanding debt amounts for aggressive pay down in a way that will work for you. Ideally, they are mathematically prioritized, but using the other methods of repayment, like the snowball approach, can work. Finally, it is critical to track and measure the success of your chosen strategy for debt elimination. Consider a debt tracking form and choose easy dates for revisiting your financial status, such as the first day of each month.

Raj Patel writes for DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs.  DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.

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What a Near-Zero Interest Rate Means for Someone in Debt

Wednesday, December 17th, 2008

The Federal Reserve has dropped the federal funds rate to a record low – almost zero percent. But what does this mean for someone in debt?

Federal Rate to Prime Rate

The prime rate is affected by the change in the federal funds rate, and the prime rate is used by banks to set their rates for home equity loans, small business loans, and other consumer loans. But in the current environment, banks see risk in the economy that prevents them from lowering their rates to consumers accordingly. Unfortunately the result for many is not attractive bank loans for homes, small businesses, and consumer needs.

“Variable Rate” Credit Cards

But those with “variable rate” credit cards will see their interest rates drop significantly. The interest rates on these cards are tied to the prime rate, and so rates should respond accordingly. In a plan to get out of debt, paying off other outstanding credit card balances should take priority in most cases.

Housing

HELOCs and home equity loans will both benefit from today’s rate cut. This makes paying off outstanding credit card debt more pressing than clearing what is owed on the house. But for the large number of households with 30-year fixed-rate mortgages, the federal rate cuts will not change repayment terms.

Educational Debt

For those with private educational loans, these typically have variable rates, so they are impacted by the change in the prime rate. Although most variable rate educational debt at this point in time has comparable or better interest rates to student debt held at fixed rates, one should carefully evaluate both and set priorities since variable rates can change in the future.

Savings and deposits

Any savings or deposits at banks or investment brokerages that pay out periodic interest to you based on the prime rate will be adversely affected by the new rate cut. Depending on how heavily staked you are in these types of accounts, you should evaluate the situation and take into account any anticipated decreases in income from these sources when setting up a plan to eliminate debt.

Raj Patel writes for DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs.  DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.

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5 Important Tips on Educational Debt Repayment

Tuesday, December 16th, 2008

It’s tough to get a comprehensive view of all of one’s outstanding educational debt. This is frustrating especially if you have a suite of different loan types and sources to fund your undergraduate and/or graduate years. But putting forth the effort to see the total picture will pay dividends in averted late fees, lost interest rate breaks, and other factors that can delay your arrival to “debt-free” status.

1. CREATE A PLAN AND GET ORGANIZED

Set aside a specific time during normal business hours to give your undivided attention to sorting out your outstanding debt sources, amounts, and repayment terms. To get clarity you may need to call the Federal Student Aid Information Center and/or private loan lenders, which are all more easily reached during the day.

2.  FEDERAL VERSUS PRIVATE LOANS

Know the differences between your private and federal student loans. Your educational debt may be comprised of only federal loans, only private loans, or a combination of the two.

FEDERAL LOANS

Most students in educational debt have federal loans, which are typically one of four types: Perkins, PLUS, Stafford Subsidized, and Stafford Unsubsidized. All of these can be consolidated into one federal loan at a fixed interest rate. There are several repayment term options, some of which depend on your total outstanding amount of educational debt. You can consolidate your federal loans from different lenders all into one lump loan. This is even true for federal loans that are issued by the same lenders as your private loans.

PRIVATE LOANS

Private loans are educational loans provided by nongovernmental lenders such as banks. There’s been a large jump in the percentage of students relying on private loans instead of federal loans to fund their studies, and this is problematic because they are harder to pay off. They cannot be consolidated with federal student loans. They typically have variable interest rates and in the current economic downturn, many lenders are not even allowing them to be consolidated with other private loans. For most, the best debt elimination strategy entails paying off private loans before the federal ones.

3. GRACE PERIOD

If you’ve finished school and cannot generate income to start payment on your educational debt, there are alternatives to incurring penalties and fees for missing payments. One is the grace period: a period between the completion of a degree or falling below half-time enrollment and the need to start normal repayment. The grace period varies by loan type, but falls in the range of several months. Grace periods vary by loan, so if you choose to go into a grace period for a particular loan, make sure to find out how long it will last. Choose this option instead of defaulting, because just one missed scheduled payment can permanently disqualify you for bonus interest rate reductions. 

4. LOAN DEFERMENT, LOAN FORGIVENESS

You make be able to qualify for either a deferment or loan forgiveness. Loan deferment involves delaying payment on outstanding educational debt. You can almost always defer repayment on outstanding educational loans if you are enrolled at least half-time in a school. The deferment programs are numerous and a solid list is on the Federal Student Aid website. For the unemployed, popular deferment programs include the Economic Hardship Deferment and the temporary forbearance option.

Partial loan forgiveness is available from a number of federal, state, and educational institutions. They range from Peace Corps volunteering to teaching to the military and public sector positions as trained doctors and lawyers. A good list of the options is available at FinAid’s website.

5. AVOID DEFAULT

Most critically, avoid defaulting on the debt. The Project on Student Debt contains other valuable tips, but the single most important factor in effectively eliminating debt is to get organized and make a plan, no matter how far or near deadlines loom.

Stay tuned for more quick tips on debt.

Raj Patel writes for DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs.  DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.

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The “Good Debt” Fallacy: Part 3 (Auto Loans)

Saturday, December 13th, 2008

Over the last couple of days, we’ve looked at debt that we’ve been told since we’re little is OK or even desirable. Incurring student debt or a mortgage is a great thing, right?  It means we’re achieving the American dream and moving on up.

Well, not really.  It’s definitely possible to be house-poor or end up with unmanageable levels of student debt, with the unfortunate result that these debts hold us back from achieving other important life goals.

Today we look at our final entry in the “good debt” fallacy highlight list:  the auto loan.  Although not as big as student loans or a mortgage, auto loans really aren’t your friend.

Autos:

Most people today finance cars rather than paying cash.  Our autos are an asset and enable us to get to work so aren’t these an investment?  These are true, but autos are a depreciating asset.  When you buy a new car, it immediately starts to depreciate and can lose as much as 40% of its value in the first 3 years.  So a new car buyer is paying interest on an asset that will lose value over time.

You can mitigate this buy saving up and paying cash for a car.  One technique for people who find it difficult to purchase their ideal car with cash is to work up to this over time: save what you can and purchase an inexpensive used car with what you can save in a year or so.  Purchase this car and continue saving.  If you would have paid $400 per month in a car payment, in just a year you can save close to $5000, enough to buy a passable used car.  Continue saving and when you have enough accumulated, sell the car you’ve been driving and trade up to a better used car that meets your needs.  Yes, you’ll have driven a beater for a year, but you’ll eventually own a good car, paid for in cash, that will not depreciate as quickly as a new car.  You’ll save in both interest and depreciation.

Labeling certain types of debt as “good” can give us a rationale to take out much more debt than we can handle.  Make sure that you plan and evaluate these debts carefully to ensure that they don’t become a future burden.

Scott Crawford is CEO of DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs.  DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.

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The “Good Debt” Fallacy: Part 1 (Mortgage)

Saturday, December 13th, 2008

Most of us have heard personal financial advisors divide debt into two broad categories:  “good debt” and “bad debt”.  In this framework, “bad debt” represents that debt which is incurred to finance short-term consumption while “good debt” is used to purchase assets or increase earning capacity.  In reality, this division is overly simplistic and may even be harmful.

Consumer debt, incurred to finance consumption, clearly has long-term negative impacts.  Making purchases today with the hopes of being able to pay it off tomorrow encourages poor purchases and decreases future earnings by replacing investment returns with an interest burden.

But what about “good debt”?  Doesn’t it make sense to incur debt for housing, education, and autos?  Maybe.  But the answer isn’t unambiguously affirmative, and by convincing ourselves that debt we incur in these areas we may unintentionally damage our financial futures.

In this special 3-part series, we’ll look at each in turn.

Housing:

Let me lay out a few arguments we often use to support mortgage debt:

  • Buying a house is a great investment.  Prices are bound to go up, maybe as much as 10% per year.
  • Mortgage debt is a great tax shelter.
  • You should buy as much house as you can afford.  This will enable you to earn more when you sell it.

The current housing crisis clearly points out the fallacy of this line of thinking.  Housing prices have traditionally increased at roughly the rate of inflation, or about 3.5% per year.  While this can add up over time, especially with leverage, it doesn’t make housing a slam-dunk investment.  Many people buying into this line of thinking bought much more house than they could afford.  Recent studies by the US Census show that 38% of mortgage holders pay more than 30% of their income in mortgage payments, the level at which the US Government considers housing expenses an unreasonable burden.  And 15% of mortgage holders pay more than 50% of income to mortgage payments.  Even without declines in housing prices, these borrowers would be in trouble.

To avoid falling into this trap, think of housing as you would any other expense: buy what you can afford, using standard banking ratios of 28% of income as a good guideline for the maximum monthly payment.  You will have adequate housing, while still being able to afford other financial goals such as saving for retirement, education expenses, etc.

Check out our other posts in this series to learn why student debt or auto loans may do you more harm than good.

Scott Crawford is CEO of DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs.  DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.

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