.
Every June, Congress debates what to do about the interest rate on
federally subsidized student loans, to avert what this year will be the
imminent doubling from 3.4 percent to 6.8 percent. But interest rates
alone don’t tell the whole story.
,
the facts reveal that student loans aren’t loans, not in the
traditional sense. They exhibit none of the qualities of modern consumer
financial instruments, and are often sold under false pretenses, with
the promise of a lifelong benefit that never materializes. We need to
change how these loans work and have a broader conversation about what
we should be doing — including bankruptcy and refinancing — to help
future generations obtain a quality, affordable education, which is
critical to our economic future.
who take out loans to finance their college education can end up in a situation most resembling the historical concept of
.
In medieval times, peasants would sign deeds to work land, which would
then get cut in a jagged line (looking like teeth, or “dentures”). Each
party would get half, and rejoining them would prove the authenticity of
the contract. Colonial indentures would trade years of labor for the
opportunity of transportation to the New World. The indentured could not
alter the terms of the contract, no matter their circumstances. One way
or another, the debt would get paid.
This is basically how
student loans work. A college student might remember freshman
orientation, when an instructor told them to look to their left and
right, explaining, “One of you won’t graduate.” But student loans aren’t
extinguished for those who don’t finish college; instead, the debt
becomes a burdensome reminder of this early mistake in life. This is
also true for students snookered into matriculating at sketchy
for-profit colleges, which offer almost no marketable skills or career
preparedness to justify the cost. And it further describes recent
college graduates who, through an accident of timing, entered the real
world during the Great Recession and its aftermath, finding it difficult
to obtain work in their field of study.
Due
to these combined factors, delinquency rates for student loans – unlike
auto, credit card or even mortgage debt – have risen the past two
years, according to the
Federal Reserve Bank of New York. But student debt is something you carry for the rest of your life. It’s
nearly impossible to refinance
student loans, despite the current low-rate environment, primarily
because of the high credit risk and lack of collateral. And unlike most
other loans, you cannot get rid of student debt through bankruptcy.
This
happened almost by accident. Before 1976, student debt was treated the
same as any other in the bankruptcy process. Amid rising default rates –
yes, even back then – Congress got it in its head that people were
ripping off the government for a free education and then shedding the
loans (a couple well-placed stories about doctors declaring bankruptcy
after graduating from medical school added to the panic). In an effort
to stop this, Congress passed a law permitting students only to
discharge loans in bankruptcy five years after origination, unless they
demonstrated undue hardship.
In 1990 the five-year rule was
extended to seven years, and then in 1998 Congress dropped that
requirement altogether, making undue hardship the only way to discharge
student loans in bankruptcy. And undue hardship is a
very large chore to prove,
according to Bob Lawless, law professor at the University of Illinois.
“The courts require proof of an inability to get by without a
modification,” Lawless told Salon. “They’re reluctant to allow a
discharge if someone just has a lower-paying job and can’t afford the
payment.” So the bankruptcy law has become harsher at the same time that
college tuition has ballooned,
increasing demand for student loans. As then-law professor Elizabeth
Warren said in 2007, “Why should students who are trying to finance an
education be treated more harshly than someone… who racked up tens of
thousands of dollars gambling?”
In addition to having no escape
from their loans, students must deal with aggressive creditors that can
get to virtually any income source to secure payment – paychecks and tax
refunds included. The Department of Education uses an
“army of private debt collectors,”
some of the most notorious financial operators out there, to intimidate
and harass student borrowers. These collectors earned $1 billion in
commissions from taxpayers in 2011. They get paid bonuses for extracting
higher payments, and they can also
rack up additional fees virtually endlessly. That’s because student debt
has no statute of limitations on collectors, unlike most other forms of debt. The government can even collect student loan payments
from Social Security checks, thanks to a 1996 law (this is not theoretical, as growing numbers of seniors are
entering retirement with student debt).
So,
through a series of bad laws, student debt has become an inescapable
trap, a terrible burden on those whose higher education dreams don’t pan
out, and a significant burden even on successful graduates. Loan debt
now averages $26,000 per student, up 40 percent in seven years, with
significant chunks owing $50,000 or $100,000. Princeton professor Jesse
Rothstein
argued in a recent working paper
that graduates burdened by debt will choose higher-paying jobs to pay
off the loans, draining the talent pool for lower-paid, but critical,
“public interest” job sectors like education, government or non-profits.
This further erodes the nation’s seed corn and funnels the best and
brightest into the financial industry or other higher-paying power
centers, reducing entrepreneurship in the bargain. Student debtors also
put off major purchases like houses or cars, and
the Federal Reserve believes this is having a serious negative effect on our economy.
How
do we quit loading up 18 year-olds with a risky gamble that could
impact the rest of their lives? It will take more than just a low
interest rate, though a variable rate that changes over time (the House
Republican plan) or one that isn’t capped (the Obama Administration
plan) will
just make things worse.
Obviously a lower rate translates into lower payments, but it’s time to
dismantle the treatment afforded student loans, and to eliminate the
extreme dependence on them.
The
National Consumer Law Center
believes debt collection takes too much precedence over counseling,
deferment, and debt consolidation plans. Student debt collections need a
reasonable statute of limitations, with a safety net prioritized over
endless harassment.
Help may come in the form of new Administration programs for
income-based repayment (IBR). Under this program, low-income borrowers can
cap payments
at no more than 10 percent of their income over a 20-year period; any
remaining debt is subsequently forgiven. Depending on changing
circumstances, however, locking into IBR for 20 years could lead to
paying more than the loan is worth. Rep. Karen Bass has a bill
reducing the IBR time to 10 years. That bill also extends deferment to unemployed borrowers interest-free.
Income-based repayment is
mostly forward-looking,
however, and students already saddled with debt need help. Students
currently paying high interest rates should be able to refinance, and
reap the rewards of the Federal Reserve’s quantitative easing that
asset-holders have enjoyed for so long. Sen. Kirsten Gillibrand’s bill
would
mandate refinancing
on all federal student loans into fixed 4 percent loans, which would
benefit 90 percent of all current loans, and save 37 million borrowers
around $14.5 billion in the first year alone. The Consumer Financial
Protection Bureau has proposed a similar
refinancing scheme
for private student loans, which the government backstops anyway. The
President constantly talks up the glories of refinancing for homeowners
to reduce payments; students deserve the same lifeline.
The
government must crack down on for-profit colleges, the place from which
over half of student loan defaults emerge. The Obama Administration
tried to cut off these colleges from eligibility for federal student aid
if they didn’t meet certain criteria for getting their graduates
gainfully employed and out of default. Unfortunately, the DC Circuit
Court of Appeals
struck down the rules.
Congress could codify them into law, and it would definitely benefit
students if they did. Otherwise, helping students pay for loans
represents a huge subsidy to these unworthy for-profit college
administrators.
The principle that bankrupt individuals should get
a second chance at a fresh start has been established for hundreds of
years; there’s no reason for student loans to be exempt. Law professor
Bob Lawless believes that returning to the 1976-era treatment of student
debt in bankruptcy, or even with a 5-year waiting period to deal with
the moral hazard issue, could put downward pressure on the cost of
college. “Lenders and schools aren’t bearing the financial costs of the
bankruptcy laws, students are,” Lawless told Salon. If lenders had skin
in the game on student debt, they might force schools to deliver a
better product and ensure their income streams.
Ultimately,
keeping college affordable is the answer. Costs are far outpacing
inflation, and even fallbacks for lower-income students like community
colleges have seen a
dramatic loss of government funding support. Reducing student debt goes hand-in-hand with reducing the
need
for student loans. At $50,000 a year, the wage premium that college
graduates get over their peers is almost not worth the pain and stress
of overwhelming debt. And that exacerbates inequality, as economist
Joseph Stiglitz points out.
The wealthiest opt out of the student debt cycle, while the rest have
to gamble with huge financial burdens in the hopes that they graduate
and succeed.
You can make the argument that rising borrowing has
exacerbated college cost escalation, with no improvement in the finished
product. This entire system must be overhauled. Otherwise, it will
continue to damage our economy by indenturing talented students, our
greatest renewable resource.
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