The student loan crisis
The student loan crisis, we’ve all heard of it, and if you’re one of the nearly 45 million students living it, you know how serious it is. It seems we have all been constantly reading and hearing about how this will bump our economy into the next recession, but how is the crisis measured?
Not only do many students graduate with a student loan debt that can’t be paid back based on their earnings for at least a decade after graduating, but the COVID-19 pandemic has further contributed to the lack of jobs available, making it even more difficult for students to repay their loans.
In his article published on the Wall Street Journal, Josh Mitchell states, “The U.S. student loan system is broken. How broken? The numbers tell the story. Borrowers currently owe more than $1.5 trillion in student loans, an average of $34,000 per person. Over two million of them have defaulted on their loans in just the past six years, and the number grows by 1,400 a day. After years of projecting big profits from student lending, the federal government now acknowledges that taxpayers stand to lose $31.5 billion on the program over the next decade, and the losses are growing rapidly.”
Let those numbers sink in for a moment. Currently, nearly $2 trillion dollars in student loans are owed, with a potential loss of $31.5 billion to taxpayers in the next ten years. How did we get to this point and where do we go from here? What role do credit unions play?
Government student loan history
First, I believe a little look back at student loan financing — designed to help both the student and the university pay for the education — would be helpful. At what point did the Federal Government get involved to structure agencies and loan terms to help this funding? How were these loan packages amended as time moved on?
In 1965, the Higher Education Act (HEA) was passed, covering the administration and funding of the US federal student financial aid programs. From this act came the student loan programs that provided either subsidized or unsubsidized loans. The difference between the two being that with subsidized loans, interest incurred on the loan is covered by the government while the student is still enrolled and during grace and deferment periods. Unsubsidized loans on the other hand, do not cover that interest.
Under the HEA, the Federal Family Education Loans (FFEL) program provided four components for student loans: Subsidized Stafford, Unsubsidized Stafford, PLUS loans, and Consolidation Loans. FFEL was ended in 2010 and similar loans are now provided by the Federal Direct Student Loan Program (FDLP), which are federal loans issued directly by the United States Department of Education. The FDLP also provides Perkins student loans which provide funding for post-graduate students and have loan terms and conditions different from the other types of loan products.
The student loan marketplace changes
While the HEA was passed with the intention of making higher education available to students who may not have been able to afford college otherwise, it has also cultivated a mindset where colleges and universities raise tuition costs limitlessly (knowing students will find loans to cover it) and loans are now essentially a requirement to be able to finance an education. Students who graduate with $20,000 or less in loans are considered lucky by their peers.
The higher the debt, the harder it is for the student to fully pay off their loans. In a society where a degree no longer guarantees a job, due to an increase in required job experience and greater competition for said jobs, students are facing an uphill battle in tackling their loans.
Is education the solution?
It seems like one solution to this would be to educate students before they sign onto a loan and help them understand the burden they are taking on. Nick Ducoff, a former university president notes, there should be a plan to “allocate billions of dollars to educate young people about risk and reward, and provide them with education and tools to make informed decisions about their education and future employment. We could have, and should have, done more to educate these borrowers who are now burdened by student debt.”
However, this solution is complicated for a number of reasons. First, financial aid documents coming from colleges and universities often use different jargon to cause confusion and many don’t even use the word “loan” when referring to a student loan, meaning it’s easy for the details of a loan to slip by students.
Furthermore, the financial aid is often insufficient to cover the costs of attending, and many schools don’t segregate grants, scholarships, and work-study programs that don’t have to be paid back from student loans, which do. Some letters reference a PLUS loan as an “award,” making the financial aid package appear far more generous than it really is and sometimes fooling students into thinking they’ve won a scholarship. Needless to say, lenders are purposefully vague and confusing as to make students more confident in taking on a loan.
Second, due to the ever-rising costs of tuition and subsequent fees, many students have no option but to borrow to attend a university or college, meaning they may sign on to a loan with bad terms and rates, simply because they feel they have no other avenues.
When students have exhausted their borrowing options from the government, or simply don’t want to saddle themselves with higher interest rates, they can turn to private loans.
The result: private student loans fill the gap
These loans are not guaranteed by a government agency and are made to students by financial institutions directly. Private loans can have a higher interest rate and may have much less favorable terms than federal student loans. They are not eligible for income-based repayment plans, and frequently have less flexible payment terms, higher fees, and more penalties. Generally, these loans are only used when students have exhausted the borrowing limit under the federal student loan programs.
As private lenders, credit unions can provide private student loans using Student Loan CUSOs (Credit Union Service Organizations) that are more closely related in terms, rate, and payment plans to the government-based student loan programs. In many cases, the CUSOs obtain insurance for default that further protects the credit union, which does allow for a lower interest rate. They can offer a grace period of six months to a year after graduation with no payment due. While the interest still accrues when the student is in school and is added to the principal on a periodic basis, these loans are a much better option for students than other private loan companies.
Credit unions also used federally guaranteed student lending programs to complement their loan portfolio and were able to provide their student members with these types of loans where the interest was guaranteed for the time the student was in school. Delinquency was covered if they followed the collection efforts provided by the government lending agency.
Still, the risk is higher
Student loans are audited separately from the rest of the credit union’s loan portfolio due to a higher level of risk. Thanks to a number of reasons, many of which we have covered so far in this article (e.g. lack of employment, vague and confusing phrasing, poor understanding of the loan), there is an increasing number of students defaulting on their loans, which may or may not be covered for the credit union.
This means that the credit unions face a larger risk when signing on student loans, especially when dealing with those not covered by insurance. In addition, credit unions find the work involved to comply with the government regulations too high given the interest income they receive. This complex system requires employees to understand all of these programs in full and to manage this portion of the portfolio.
Despite the increased risk, many credit unions are still working to be able to provide loans with lower rates and better terms to their members. Even for those students that have not joined a credit union, there are many services that help them figure out which credit union loan will offer them the best terms for their situation, and help them join that credit union.
Student Choice, for example, allows users to browse through hundreds of credit unions and find the right loan and credit union. Students can search by location of the credit union or their school.
How will your credit union approach student loans?
Evaluate the effect of higher-risk student loan interest income on your Return on Assets and overall – how this helps your membership families provide for a better education for their children. Could your credit union provide financial counseling to the students and their families before borrowing to pay for college?
After all, helping members is what credit unions are all about.
Will loans always be like this? How do we solve the crisis?
Maybe better than asking what are the best loans for students, we should be asking how students can better negotiate the cost of attending college. This topic has been at the center of debates for a while now, and while there are a number of solutions on the table, it’s probably too early to expect any real change in the system.
But what are these solutions? As mentioned before, many believe students simply need to be educated on the topic while others think students should look at attending more affordable schools. Others suggest that the government step in to help pay for the cost of college or that student loans be forgiven, though differences in political opinion may stop that from ever being a real possibility.
However, some argue that an alternative option might just be for universities to lower their costs and make higher education more affordable, not through loans, grants, scholarships, work study programs, and numerous other outlets students have to tackle when trying to go to college, but by merely lowering their price.
Take UCLA for example. In the 2015-2016 fiscal year, the university made a whopping $6.8 billion dollars, only $747 million of which came from tuition and fees. Even if they offered completely free education, their income would still be above $6 billion dollars per year. Maybe completely free is a bit drastic at this point, but the conclusion remains the same, many large universities can afford to lower their prices.
While no one can quite agree on the proper solution moving forward, most understand that some form of action needs to be taken.
Where does COVID-19 fit into the crisis?
On March 27, the government stepped in to help those struggling to pay back student loans during the COVID-19 pandemic with the passing of the CARES Act, which has provided some relief for government-funded student loan borrowers. The bill provides for a 0.00% interest rate and all payments suspended until September for government student loans. In addition, the government has stopped seizing money from borrowers in default as well as returning seized funds since March 13th. While this aid is critical during the pandemic, it is not a long-term solution for those struggling to pay back their debt.
The bottom line
The student loan crisis cannot be dealt with overnight, nor is there only one solution or path to solving it. Whether we lean toward educating students on the loans they take on, ask universities to lower their cost of attendance, or look to the government for assistance, it’s clear something needs to change.
As community focused businesses, credit unions can offer better loans and assistance to their student members, though it would be wise to understand the risks that come along with that help, should the student fail to pay back their loans. If your credit union already offers student aid, what measures have you taken to protect your members? If your credit union is not currently offering student loans, what’s stopping you? What hesitations do you have? Ultimately, you need to make the best choice for you and your members, whatever that may be.
Just remember at the end of the day, helping people is what credit unions are all about.