Planning Ahead for Paying Student Loans
Loans can help you pay for college, but you have to know how much you can afford to borrow.
By Tara Haelle, graduate student, University of Texas
Jane Park graduated debt-free when she was an undergraduate, but then she went to grad school. Just five quarters at Northwestern University’s Medill School in Evanston, Illinois, for her master’s in broadcast journalism—just over a year—set her back $49,000 in school loans.
“I wish I hadn’t taken all of the loans that were offered,” she says. “I probably would have worked on the side and then taken out less money.”
Her first job out of college, at a small news station in upstate New York, paid a salary of $18,000 her first year and $22,000 the second year. Fortunately, all but $5,000 of her student loans were federal, so she chose an income-based repayment plan, which is designed to help graduates make loan payments that fit within their budgets.
Learning how to handle student loans is an essential lesson for many college students. Last year, for the first time ever, educational debt exceeded credit card debt, and many students are struggling to come to terms with this personal debt and how they’ll pay it back. With the right planning, however, loan payments are manageable.
Have the Right Mind-set
“Student loans are technically good debt because no one can take away your education later, and there are lots of people who want this to be manageable for you after you graduate,” says Cindy Marrs, a default aversion consultant at TG, a public, nonprofit corporation that helps college students with financial management. “Education is something you can build on forever. After you’ve looked at your income, savings, and all your assets, borrow cautiously.”
Mitchell Weiss, a finance professor at the University of Hartford in Connecticut and author of Life Happens: A Practical Guide to Personal Finance from College to Career, warns that too much borrowing can cause stress and even lead to depression and anxiety for some students. “When you’re in over your head, the money you owe doesn’t only keep you from doing the things you’d like to do, buy, or be; it also keeps you from healthy, productive, and creative thinking,” he says.
“Staying in control of your money is the number-one key to not getting depressed about it,” says Sharon Cabeen, director of financial literacy operations at the Association for Financial Counseling and Planning Education.
Brenda Martinez, a senior biology major at the University of Texas at Arlington, took control of her spending by transferring from Texas A&M Corpus Christi. By attending a more affordable college, she has borrowed just $6,000, and she lives with her parents to keep expenses down.
The lesson from Maritnez is to borrow only what you need.
“Student loans are for financing your education, not financing your lifestyle,” says Mark Brody, an assistant team manager at TG.
That’s advice Park wishes she had heard before accepting all the loans she was offered for grad school. “I learned in my first job that I don’t need a lot to live on,” she says.
Look to the Future
In determining how much to borrow, be realistic about your career aspirations and future earning power and put pen to paper.
“You should investigate the income for your chosen career path,” suggests Joe Oroslini, president of College Aid Planners, Inc. in Glen Ellyn, Illinois. “Once you have an idea of your projected income, you should develop an ‘after-college’ budget.” Project what your future costs will be for an apartment, car, cell phone, food, etc. Then estimate how much of your projected income can go toward monthly loan payments.
If you’re struggling to do all that math, go with a simple rule of thumb from Weiss: Don’t borrow more than you can reasonably expect your first year’s salary to be post-graduation. If your starting salary is likely to be $25,000, consider that your borrowing cap.
Students in some fields can pursue career opportunities that offer loan forgiveness programs. For example, teachers who teach in a school designated low-income by the federal government can get their federal loans almost entirely forgiven in five years. To learn more about loan forgiveness programs, CLICK HERE.
Use Caution With Repayment Plans
You may be tempted to sign up for a loan payment plan that allows you to make the lowest monthly payments possible. But these plans stretch out the payments the longest and end up accruing the most interest. That means you end up paying much more than you would if you paid it off in 10 or 15 years.
That’s because the interest builds on interest. Compounding interest means that whatever amount of interest was added to your loan last year is part of what the next year’s interest is based on.
If you stretch your loan repayment out for long enough, you can wind up paying back more in interest than you borrowed.
Try to pay your loan off as quickly as possible. Use online loan calculators to determine how to do this. Making extra payments is a great idea.
Try starting to make payments while in school—even if they’re as low as $20 a month. By chipping away at your debt now, repayments will be easier when you graduate, you will be building a positive credit history, and you will be in the mind-set of paying back your loans, creating a habit that will feel like second nature when you graduate. Sure, the payments will go up, but the experience of making a payment each month won’t feel new or scary if you’ve already been doing it for several years.
Also, remind yourself each year how much you’ve borrowed. Students can see their total amount borrowed on the National Student Loan Data System.
“If you think about your loans and your income on a yearly basis, you can think about the payment being manageable on a regular basis,” Marrs says.
Once graduation does roll around, set aside a day to get your financial matters organized.
“College comes with a high price tag, but it is priceless,” says Michael Davila, a partner at College InRoads, an educational consulting company in Austin, Texas. “The experiences you have and the life skills you are given are invaluable.”
TARA HAELLE IS A GRADUATE JOURNALISM STUDENT AT THE UNIVERSITY OF TEXAS AT AUSTIN.
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In deciding what to borrow, first look at what kinds of loans you’re offered. Students should do everything possible to limit themselves to the Federal Direct loan program because of the low interest rates and flexibility in repayment. For undergraduates, the federal program allows students to borrow $5,500 their first year, $6,500 their second year, and $7,500 their third and fourth years.
If students can limit their borrowing to this total of $27,000, it translates into $311 a month for 10 years—a pretty manageable sum in a reasonable amount of time.
“Beyond that amount are private loans and that is where students get into trouble,” Joe Orsolini, president of College Aid Planners, Inc says. He’s heard stories of students who take on $35,000 a year in debt when their future intended career has a starting salary of just $43,000.
“What someone can take out as a doctor is different from what a social worker can take out,” Orsolini says.
That’s the situation Jane Park, a graduate of Northwestern University’s Medill School in Evanston, found herself in. “I didn’t know I’d be making so little in my first job, but when I found that out, I was already in the grad program,” she says. She doesn’t regret school, just the amount she borrowed. “I wouldn’t be in this business if it wasn’t for that one year at Northwestern, but I’m going to be paying this off my whole life.”
If students do need to take out private loans, they should shop around. It could save them thousands in the long run. According to Cox, many lenders are currently offering very competitive rates. Most have variable interest rates, which means the interest rate will fluctuate over the years. Cox suggest applying to multiple companies and looking at what they offer because all packages definitely aren’t created equal.
“Lenders will advertise “rates as low as” but all lenders have a tiered lending system based on a person’s credit score,” he says. “Some students and parents get pulled in to the advertising techniques of these programs, but after they apply and get an offer, they should stop and say is that the best rate I can get?”
Take into account both the interest rate and the possible fees, often set at about 3 percent of the loan. In plain language, interest rates are a fee to borrow money. For example, $3,725 borrowed at 6.26% interest over 4 years means you’ll pay back $512 in interest in addition to the $3,725.
Federal: Best Bang for Your BuckFederal loans have other benefits besides their low interest rates and the option of getting them subsidized—interest free—while in school. They have also have very flexible repayment options and programs that allow for deferment, forbearance or even loan forgiveness in certain circumstances.
Deferment occurs when your loan is postponed for specific reasons, which can include economic hardship, military service, unemployment and possibly even having a child. During deferment, subsidized loans do not accrue interest, but unsubsidized loans do.
Forbearance is similar to deferment but is at the discretion of the lender. It’s basically a bandaid option, says Marrs.
Repayment options for federal loans range from paying off all loans in 10 years—the standard default plan—to paying them off according to what your salary allows after graduation to choosing a longer payment plan in general.
Get Your Loans Organized“The first thing I would do is take every statement that they’ve gotten or that they’re going to get over the course of the next couple of months, and they need to start categorizing all that stuff,” says Brian Cox, chief business development officer at Cology, a student loan core processor. “If you had 10 loans that you took out, now is the time to get serious.”
Put federal loans in one pile, private in another. Make sure you know who your loans are with and what the balance and interest rate is on each one. For the private ones, ask yourself if there’s an opportunity to consolidate and/or refinance them. Even if you can’t get a lower interest rate, consolidating your loans can reduce your stress by reducing the number of checks you’re sending out each month. Otherwise, it feels like having ten mortgages for one house.
“At the very least, they can get everything down to one payment, and it will be less stress than paying five or six different bills coming in.”
If You Can�t Pay Loans BackWhatever you do, don’t default. Default means you don’t make any payment for 270 days—and the implications are huge.
“The government always gets their money in the long run,” Joe Orsolini, president of College Aid Planners, Inc., says. “They can garnish wages, take your tax refund or even take your Social Security payments.”
Mark Brody, an assistant team manager at TG, adds that you may not be able to renew certain professional licenses and your employer will likely be notified. Even winning the lottery won’t help—people who default on their loans cannot claim their winnings, Brody says.
A default on student loans can also affect every other financial decision you need to make in life.
“The student will trash their credit score, making it difficult to buy a home, get a car loan, rent an apartment and all the bad things that go along with a poor credit score,” Orsolini says.
Private lenders aren’t any friendlier than the feds about being stiffed. In fact, a law passed in 2005 gives private lenders the same status as the government in terms of student loans in bankruptcy law: if you declare bankruptcy, you cannot discharge your loans in exchange for a bad credit report.
“That means that even if you’re able to eliminate all of your other obligations by filing bankruptcy, your student loan debt will follow you to the grave,” Weiss says.
So if you get to a place where you don’t think you can make a payment, face the problem head on. Start by communicating with your lender.
“If you know that you’re going to have trouble making the payment, call for help and be willing to pay something,” Cox says. “People will work with you.” There are modified plans, forbearance and deferral options. “A lot of people just avoid making the call. Then they start getting the collection calls and it just starts to spiral as the interest starts to accrue and the late payments stack up.
Weiss agrees it’s essential to get in touch with the lender before missing your first payment.
“When they start pursuing you, your life becomes hell,” he says. “A lender will give you points for being proactive.”
When you call, Weiss suggests you be prepared to tell them that you have done everything you can to improve your ability to pay.
“I’d want to know that they’ve done all that they could to help themselves beforehand: that they’ve skinned down their budgets by eliminating all non-essential spending and reduced their obligations to their lowest possible level,” he says. Then, be prepared to explain how you’ve increased your income in every way possible, perhaps by having taken a second job if feasible or even just selling off unnecessary possessions on Craigslist.
Weiss also suggests sharing your situation with those in your personal support network. Don’t hide it from a significant other or family members.
“If you’re feeling embarrassed over money, you don’t want to talk about it, then that’s an indication of a problem,” he says. “If you’re hiding it, that’s a problem; go to the people who love you.”
