Why Co-signing a Loan is the Best Way to Help Your Kids Borrow for College

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I know, you love your child and want the best college for them.  They worked so hard but are a little – or a lot – short of affording their dream school.  Don’t fall into the parent trap of borrowing heavily for college at the expense of your retirement.  You can help them without hurting yourself.  Here’s how to find the middle ground.

Start by framing the discussion like this: college loans should be the last resort, not the first option.  First, look to savings to reduce future debt.  Even if you start late in high school, it’s ok because bills will continue to arrive four or more years down the road. Saving a dollar today beats borrowing one tomorrow. Here’s an article on college affordability and a podcast.

Next, look for free money: gifts from relatives, grants and scholarships that do not have to be repaid.  Here’s an overview of need vs. merit based aid, and a drill-down on grants.

Finally, determine if you or the student can contribute earnings while the student is in-school racking up those bills.   When savings plus free money plus current income exceeds the cost, no loans are necessary.   Be sure to account for all four (or more) years the student will be a college student, if there is a gap between expected cost and available resources, then it’s time to consider loans.  For most students, the Federal Loan program is by far the best option when you consider the interest rate and repayment terms.  One problem: the amount that can be borrowed is capped.

Let’s assume that the student takes a government loan but a gap still remains between the cost of college and the sources of money. Now all eyes turn to you (or perhaps grandparents or other relatives) for help.

The BEST ADVICE:

  • Co-sign a loan and make sure it has a co-signer release. Many private loans now have a feature to permit you to be dropped from the loan once your child establishes their own good credit.   With this type of college borrowing, you effectively lend your established credit profile to your child so they can be approved for a loan at a time they would not qualify on their own.   Once a good repayment record on the loan is established, the student should contact the loan provider to release you, the co-signer, from future obligations to pay.  Co-signer release is a terrific feature because it permits you to help your child borrow when they need your help. And for you to be released from that obligation when they get on their financial feet.

If there’s no way around it and you have to be the designated borrower, you should:

  1. Shop around. Many parents with good credit can receive substantially lower interest rates on private loans from banks, finance companies or state agencies than the Federal PLUS program.
  2. Be VERY wary of the Federal PLUS Loan. Parents with marginal or bad credit may be eligible for a Federal PLUS loan, but be wary.  The credit analysis used to approve a PLUS loan is minimal and the amount that can be borrowed is very high (the full cost of attendance).  Sounds good?  It’s not.  It is a toxic stew. The government regularly makes large loans to people who will be unable to make the payments.  This is a ticking time bomb waiting to explode.   Also, some parents falsely surmise that they will transfer their PLUS loan to the student in the future.  That is not possible under the terms of the PLUS loan. It is a Parent loan, not a student loan.
  3. NOT borrow from your retirement accounts to pay for your child’s college. It sure sounds good to “repay yourself” the interest that accrues on a loan rather than paying a bank, but it is a terrible idea. Why?  Every dollar you withdraw from your retirement account is one less that can earn interest, dividends or appreciate to grow your retirement savings – and at a time when your retirement is fast approaching.  Just as young families are instructed to start saving early to benefit from compounding, older savers should avoid touching the nest egg because you (we) are running out of time to grow the account. This is no time to stretch.

If you’re a data hound and seek some data about parent (and grandparent) borrowing, check out the Consumer Finance Protection Bureau’s recently released “Snapshot of Older Consumers and Student Loan Debt.”

Like many data analysis, this one can be used to support both sides of an argument.   Here, (a) older (age 60+) borrowers are under stress and (b) older borrowers are doing ok.     The CFPB report compares the 10 year period 2005-2015.  The data in parenthesis is 2005 data as cited in the report:

Older borrowers are under stress:

  • Consumers age 60+ is fastest growing segment of the student loan market
    • They owe $66.7 billion
    • There are 2.8 million older borrowers, (up from 700,000)
    • They owe on average $23,500, (up from $12,100)
  • Delinquencies are up from 7.4% (2005) to 12.5% (2015)
    • 37% of borrowers over 64 are in default
    • 40,000 have Social Security benefits offset (8,700 in 2005)

Older borrowers are doing ok:

  • 73% is borrowed for children or grandchildren – indicating a choice to help rather than being burdened by their own debt.
  • Fewer than 31% of older borrowers owed federal loans (867,000 of 2.8 million)
    • Fewer than 7.5% held PLUS Loans (210,000 holders)
  • Of 2.8 million borrowers, only 1,100 lodged loan complaints with the CFPB

What does this all mean?

To me, it’s clear.

  1. Parents should establish a college savings program for their family that is appropriate for their financial situation.
  2. Students should seek financial aid by filing the required forms.
  3. Parents and students should realistically assess how much current income each can contribute to defray costs while the student is in school.
  4. Students should be primarily responsible for taking loans for college. The federal loan program is the best solution for most of them.
  5. If parents are enlisted to help their students with loans, they should contribute by co-signing a loan with a co-signer release.
  6. If parents need to be the sole obligor to borrower for their child’s education, they should shop around, be wary of the federal PLUS program and not borrow from their retirement account.

I can’t help but think of the airline oxygen mask analogy.   There is a reason we’re instructed to put on our oxygen mask before taking care of a child.   Incapacitated parents are of no help to kids.  The same is true for parent borrowing for college.  If you feel compelled to help borrower for a child or grandchild’s education, be sure not to imperil your future well-being.  Co-signing a loan helps the next generation achieve their dream of a college education without imperiling your dream of comfortable twilight years.

A Mixed Bag of Tricks & Treats in the College Board’s 2016 “Trends” Reports

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College data nerds love late October.  Why?  The College Board releases its annual Trends in College Pricing and Trends in Student Aid   These reports, much like Sallie Mae’s How America Pays for College, are chock full of  data and analysis to understand important trends in how American families plan and pay for college.   At the very least, be sure to read the Highlights and Introductions in each report.

As in years past, it’s a mixed bag of results with sprinklings of good news, bad news and news that can be used to support seemingly contradictory arguments.

Good news from the reports:

  • College loan borrowing declined for the fifth consecutive year.
    • Undergraduates and their families borrowed 18% less than 5 years ago.
    • For undergraduates, federal and non-federal loans constituted 36% of funds used to supplement student and family resources – the lowest amount in 20 years
    • Only 10% of undergraduates leave college with more than $40,000 of debt
  • Total grant aid now exceeds $125 billion having increased almost 90% from 1995-2005 and then another 79% in the next decade.
  • Institutional grant aid has almost doubled over the past 10 years from $29.1 billion in 2005 -06 to $54.7 billion in 2015-16.
    • Grant aid accounts for the highest level of funds used by undergraduates to supplement their own resources over the past 20 years.

Bad news from the reports:

  • Pell Grant expenditures for the nation’s neediest student continued to decline from $39.1 billion at the peak in 2010 to $28.2 billion in 2015 (but is still more than 80% greater than pre-financial crisis spending).
    • The number of Pell Grant recipients declined for the fourth consecutive year (but the percentage of undergrad recipients is up to 33% from 25% a decade earlier.
  • Public funding (state and local appropriations) peaked in 2007-08 at $85.2 billion and declined 9% to $77.6 billion for 2014-15.
    • We’re spending less on public education than 30 years ago: funding per FTE student is 11% lower than it was 30 years ago
    • Declining state revenues per student are resulting in the rising prices at state schools.

Mixed news from the reports: could be better or could be worse

  • Tuition and fees continue to outpace inflation — rising from 2.2% to 3.6%, but the rate of increase is less than previous years
  • The favorable trend of net price declines from 2008-2010 reversed. Net prices paid are now increasing again, but – and it’s a big but – the net price paid at 4 year private and 2 year public schools in 2016-17 is still less than what was paid in 2006-07.
  • Total federal grants to undergraduates nearly doubled from 2005-2015 to $41.7 billion in 2015-16, but $10 billion less than the peak in 2010-11.

Facts from the reports that we’ll all be using in the coming year:

  • Total federal aid to undergraduate and graduate students: $240.9 billion
  • Total non-federal borrowing: $11 billion
  • More than 70% of full-time students receive some grant aid.
  • In-state college costs vary widely (from $5,060 to $15,650) depending on the state of residence
  • Undergraduates received an average of $14,460 per FTE student in financial aid
  • Default rates are highest for borrowers with balances less than $5,000 and decline as balances increase
  • 14 million students took $18 billion in tax credits and tax deductions. Nearly 25% of these recipients had incomes between $100,000 and $180,000.
  • The federal work-study program is relatively small: 632k students earned $982 million

Here’s what struck me when considering the reports and their context.

  1. The College Board does a painstaking job of presenting apples-apples analysis for consistency, but be careful when comparing these data to data in other reports – particularly data related to cost of colleges (i.e. know if it’s 2 or 4 year, in-state or out, all-costs or just tuition and fees, etc).
  2. With a glass half-full approach, the data on loans is most encouraging to me: total amount borrowed is down considerably and most students are not over borrowing. The obvious conclusion: future college graduates will feel less strain than their predecessors.  A less obvious question:  is borrowing down because students are choosing less expensive schools, are they receiving more aid or is it a combination?
  3. The financial crisis is now nearing its 10th Anniversary.  We’ve seen how the market (students, parents, governmental entities and colleges/universities) reacted and now how it is normalizing.  In the teeth of the crisis and the subsequent recession, tuition and fees increased significantly when compared to inflation but families actually paid less because the federal government stepped up and provide more grant aid and tax credits.  That trend has reversed as increases in aid no longer exceed increases in college costs — hopefully families will not fall into the trap of therefore increasing the amounts they borrow to reach for a school they cannot truly afford.

With data showing both advancements and set-backs in the college financing market, I continue to strongly believe that:

What do you think?

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John Hupalo is the Founder of Invite Education and co-author of the recently released book: Plan and Finance Your Family’s College Dreams: A Parent’s Step-by-Step Guide from Pre-K to Senior Year

John Hupalo on college planning solutions with “The Opening Bell” WGN Chicago

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Families putting together college plans are looking at different avenues to find success.  John joined The Opening Bell to share some insight from the book “Plan and Finance Your Family’s College Dreams“, helping families get through the planning process.

  • Starting early on savings will reduce the need to borrow in the future.  There’s 529 programs in place with creative ways to hit savings goals over time. Consistent long term savings combined with any gifts can really grow.
  • College value is different for every family. Be realistic, rather than pessimistic or optimistic.  The planning process has many little steps involved to determine the right fit school considering everything going on in a young person’s life.
  • During election season, we hear ideas about “free” college and student loan debt forgiveness being made more widely available.  At the end of the day, college choices come down to individual decisions based on personal goals and needs. Real solutions are not easily found through claims made during elections.

Check out the full recording beginning @ 19:43 on WGNRadio.com

 

Invite Education co-founder Peter Mazareas talking college affordability on Plan Stronger Radio

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Peter Mazareas joined Plan Stronger Radio with host David Holland to cover the topic of college affordability, a major issue faced by many families, especially this time of year.

Peter covers some critical topics by sharing his wisdom and expertise, especially important for families approaching this challenge:

  • College planning is recognized equally with retirement planning given the size and scope of the process.
  • How can families simplify college planning given all the financial variables?
  • What can be done to increase college options and reduce debt dependency?
  • What are some smart strategies that can help with college savings?
  • How the new book “Plan and Finance Your Family’s College Dreams” helps families every step of the way from early planning to graduation.

Three Simple Ideas to Start Fixing the Student Loan Mess

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I’m back from a few days in Washington, DC.   Despite working on Capitol Hill for two years, I’m still struck by the disconnect that seems to exist between our real world and their political world.   These ecosystems need to collide if we’re going to seriously begin addressing the real world student loan debt crisis.  Here are three simple ideas that would help borrowers immediately and could be the basis for a long-term solution to the spiraling college debt problem:

  • Stop categorizing federal loans as “aid” on Financial Aid Award Letters
  • Stop charging students and parents origination fees to obtain federal loans
  • Start requiring the Direct Loan Program to report Annual Percentage Rate (APR) calculations

We know the statistics: there is $1.3 trillion of student loan debt outstanding. We’ve heard the sound bites: college loans hamstring graduates who have taken on piles of debt and are underemployed.  So what’s the answer? Previously I’ve offered my thoughts about college affordability and ways for students to avoid excessive debt. However, there are some factors that are simply out of their control and need to be fixed in Washington. And soon.

In the political world, current efforts are largely focused on relieving over-leveraged borrowers of repayment stress with loan forgiveness programs and income-based repayment plans. Great, but these programs address the problem after it has occurred and leave the root causes untouched.   We need to fix the problem at the source. In this case, before a loan is made.

Transparency and disclosure are all the rage – and rightfully so. But, the federal government comes up woefully short in providing adequate disclosure in two critical areas for the Direct Loan Program:

  • Marketing loans via colleges
  • The total cost to borrowers

Did you know that the federal government:

  1. Permits colleges to categorize federal student loans as “aid” on Financial Aid Award Letters.
  2. Charges borrowers fees but does not disclose an Annual Percentage Rate (APR) for their loan?

In effect, the largest student loan lender — with over a 90% market share — permits itself to market student loans as financial aid through colleges and universities without disclosing the APR. I bet the Consumer Financial Protection Bureau would have a field day with a private lender engaged in these business practices.

Loans as “Aid”

Remember the old story of the wolf in sheep’s clothing? I do whenever I think about a high school senior first encountering a student loan “awarded” via the financial aid process.   Or worse, a parent relieved that their child’s dream college is within reach because they’ve been “awarded” a PLUS loan. A PLUS loan is packaged as “aid” but it comes with big up-front fees and encourages parents to borrow up to the full cost of attendance as long as they don’t have adverse credit — a very low level of scrutiny. Intentional or not, the disingenuous miscategorization of loans as aid no doubt confuses borrowers and leads to some very bad decisions regarding college affordability.

APR not required for a lender with a 91% market share 

According to the College Board, for Academic Year 2013-14, approximately $113 billion of student loans were made. Approximately $9.7 billion of these loans were made by non-federal lenders, mostly banks, credit unions, finance companies and some state based entities.   Few, if any, charge fees to originate the loans, and all are carefully watched to ensure consumers are treated fairly and receive proper disclosures including APR calculations.

Then we have the other lender, the federal government, which made more than $103 billion in student loans.   This monopolistic market share resulted from a long political struggle to replace private lenders participating in the government’s guaranteed student loan program with a nationalized student loan program under the auspices of the Department of Education.

No matter your opinion of the Direct Loan Program, can anyone make an argument to justify:

  1. Why government charges fees to obtain loans when private lenders do not?
  2. Why the Department of Education is not required to disclose an APR?

The Good News – Thanks to the DoE

Kudos to the Department of Education for recognizing the first problem addressed here – student loans nicely wrapped in the sheep’s clothing of a Financial Aid Award Letter.   Beginning in Academic Year 2013-14, the DoE introduced its Federal Aid Shopping Sheet, which asks colleges to CLEARLY show the:

  • Cost of attending the college
  • Amount of grants and scholarships awarded to the student
  • Net Price that the family will pay.

The standardized form then delineates what options the family has to pay those net costs:

  • Work options
  • Federal loan options
  • Other options including non-federal loans

Thousands of colleges have agreed to use the Federal Aid Shopping Sheet but thousands do not. Some likely add to the confusion by providing students with both the institution’s Financial Aid Award Letter and the Federal Aid Shopping Sheet.

Here’s a federal regulation I would support: require all Title IV eligible colleges to use the same form of a Financial Aid Award Letter with simple and clear disclosures so families can easily compare the cost, aid packages and options for filling the gap.   Don’t re-invent the wheel: the Shopping Sheet seems to fit the bill very nicely.

A Final Thought

To end where I started: our political leaders, no matter how well intentioned, seem stuck on a very unproductive treadmill of churning out sound bites about the student loan mess.   They’re spending too much political capital addressing the symptoms of the problem rather than actually fixing it at the root.  It’s time to replace political sound bites with real world actions to help families avoid excessive student debt.  My suggestions:

  1. Require all Title IV eligible schools to use the Federal Student Aid Shopping Sheet
  2. Stop charging students and parents fees to obtain federal loans – the private student lenders do not charge fees
  3. Provide APRs to federal borrowers

What do you think?

 

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John Hupalo is the Founder of Invite Education and co-author of the recently released book: Plan and Finance Your Family’s College Dreams: A Parent’s Step-by-Step Guide from Pre-K to Senior Year

Student debt crisis does not require a big government solution. Here’s my full Letter to the Editor of the Wall Street Journal

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Kudos to WSJ for maintaining focus on the student debt crisis and offering its pages to voice various views.  On Wednesday, August 10th, the Journal  printed my Letter to the Editor — see the full letter below.

My view in short: families empowered with better information, tools and services AND the emotional demeanor to choose less expensive schools over “brand-name” schools can avoid excessive student debt.  The educational outcome is likely to be excellent and their return on investment substantially better because they did not choose a higher cost, debt laden path.

What do you think?

To the Editor:

My career has been focused on helping families plan and pay for college: 20+ years as student loan investment banker, former CFO of First Marblehead Corporation (NYSE:FMD), school board member, education entrepreneur and, recently, the co-author of “Plan and Finance Your Family’s College Dreams.”

Sheila Bair hits a few of the high notes of the college financing crisis. The root problem: everyone’s to blame. The Congress has tinkered around the edges of a student loan program established in 1965 when it provided many students with low cost loans with caps that nearly covered 100% of education costs. The current Administration’s political response is to find ways to forgive student loans. Colleges have zero incentive to control costs. Some for-profit schools are bogus. Taxpayers appear oblivious to the fact that we pay for every defaulted and forgiven federal loan. Borrowers seemingly prefer the status of victim of greedy lenders and corrupt schools to educated consumer that no one forces to sign a loan note.

College affordability is within the grasp of all families starting with the acceptance of personal responsibility for the contracts signed.   Loans should be the last resort, not the first alternative, to pay for college – no matter what the government or the schools say. Families should first use savings, financial aid, scholarships, current income and other “free money.”  Then project the total amount of debt that might be needed. If it exceeds the projected first year salary after college, the school is not affordable. Finding a less expensive school, working for a year, living at home or taking any number of other actions is far preferable to being the next headlined poster child in the college financing crisis.   This is a solvable problem that does not require a big government solution.

 

What you need to know about the 2016-2017 Parent Plus Loan

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Summer is student lending season, as many are preparing to handle bill payment leading up to the new fall semester.  This can be a stressful time for parents managing an outstanding balance for college, especially if it’s a larger bill than hoped for.

July Parent Plus
Few more weeks, then back to school!

Even after scholarships and financial aid are made available, it’s not uncommon for families to rely on a Parent Plus loan to supplement the remainder of the bill.  Here are a few key things to consider when applying.

Interest Rate: For the 2016-2017 year, Parent Plus carries a 6.31%.  This is actually a lower rate when compared to prior years in this federal program.  It’s also a fixed rate loan meaning that the rate will not go up or down.  There has been ongoing discussion about the pros and cons of fixed rate loans given the very low interest rate environment of the past several years.  While locking in a fixed rate provides the security of a very predictable repayment process, if the fixed rate is rather high, it also guarantees the interest costs during repayment. It’s a matter of personal preference, but Parent Plus is only using a fixed rate.

Origination Fee: 4.276% This is an area of concern as a 4.276% origination fee seems pretty high for most consumers, especially when compared to other financial products. (Imagine if a mortgage had a similar fee…) The fee is taken out of the gross loan amount, actually reducing the loan disbursement to the school.  So if you apply for a $10,000 disbursement in the Fall semester, $427.60 is deducted from the amount, leaving $9,572.40 to pay the account.

Credit Criteria: The only requirement is that the parent borrower not have “adverse credit history.” This is defined as not having any 90+ day delinquencies on more than $2,085 in debt and not having any loan defaults, bankruptcy discharges, foreclosures, repossessions, tax liens, wage garnishments or had a federal student loan write-off during the past five years.  This allows for many to gain approval for the Parent Plus loan, as the application approval does not depend on the borrowers actual credit score or debt-to-income ratio.

Who is the lender? The lender is the Department of Education through the Direct Loans Program.  This is a government based student loan program.

What happens if denied?   When a parent is denied for Parent Plus, the student becomes eligible for an increase in Direct Unsubsidized Loans in the amount of $4,000 for freshman and sophomores and $5,000 for juniors and seniors.  Immediately inform the office of financial aid of the circumstances to coordinate the increased direct loan in the student’s name.  This has been an especially helpful way for some students to gain additional funding to cover a small balance when necessary.

More Parent Plus Tips:

Run a loan repayment calculation to estimate costs: It’s always a good idea to be aware of of future loan payments to make sure they fit in the budget. For example a $10,000 Parent Plus loan at 6.31% would require monthly payments $112 and cost about $3,509 in interest. If your a parent of a new freshman, take those figures and project them over the next 4 years.  You can quickly estimate about $40,000 in total loan disbursements, about $450 per month in payments and about $14,000 in total interest over total repayment, and that’s if the interest rate stays at 6.31%.  Remember to always look at the big picture of debt and consider what’s needed for the whole education, not just one year.

Increase the Parent Plus loan amount to compensate for origination fee: As noted earlier, the origination fee is deducted from the gross loan amount, reducing the actual disbursement to the school.  If using Parent Plus, make sure to increase the loan amount so that it can still cover the bill even after the fee is removed.  This avoids an end of semester problem of having an unpaid balance that everyone thought would be covered by the Plus Loan.  Some families end up scrambling for an extra $500 in cash just to pay that bill and get cleared for next semesters registration.  Instead, make it easy and apply for a larger loan.  If the school receives more loan money than needed, they can send the excess in the form of a refund check to the parent, and they can then make a payment to Direct Loans to lower the loan balance.

Compare to private loans or home equity: You have options.  Private loans are provided by banks and financial institutions and may offer an appealing program for some families.  They do have more stringent credit standards using the student as a primary borrower with a parent as a cosigner to establish approval. Some families prefer the private loan because it allows the parent the opportunity to utilize a cosigner release from the application once the student borrower makes a certain number of on-time payments after graduation. Not all lenders offer cosigner release, so pay close attention and compare during your application process. This differs from Parent Plus, that remains only in the parent name until repayment is achieved.  Home equity is another option for some families, especially where low rates can be made available.  This should be handled with care, as putting up home equity comes with it’s own unique risks as well.  Additionally, the debt would only remain with the original parent borrower, there would be no easy way to transfer the total debt back to the student like in a private loan with cosigner release.

 

 

 

 

 

3 Tips for Smart Student Borrowing

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When it comes to paying for college, the process can seem overwhelming. There are so many financing options out there and you might be feeling lost about how to choose the correct ones for your family. The key is to equip yourself with information so that you can have knowledge you need to make an informed decision.

One of the most common ways to pay for college is student loans. There are two primary sources of student loan funding: federal loans and private credit loans. The two programs differ in fundamental ways: the money for federal loans comes from the Department of Education whereas private loans come from places like banks, credit unions and other financial institutions.  Federal loans are much more standardized providing the same rates and fees to all borrowers. Most students tend to take advantage of federal loans before moving onto private loans if they still need extra money.

For some families, private loans are a good option because offer competitive rates and a cosigner option to help student-borrowers gain approval. Other families will choose federal loans, which can be easier to get and offer flexible repayment options, like income-based repayment.  Whichever type of loan you choose (and some families take out both private and federal loans), there are a few ways to borrow smart.

Don’t borrow more than you need. Many families get caught up in the availability of what may seem like free money and end up taking out a bigger loan than they need, just because the option is there. But a loan is not free money, even though it is labeled as “financial aid” on a student’s award letter. Every cent you borrow has to be paid back in the future, and often with interest, which can sometimes be up to a few thousand dollars on top of the loan principal. Don’t take out too much money from a student loan; it should be used for education costs only. Take a careful look at actual expenses and remember that interest will accrue on the total balance. You can use a Student Loan Payment Amount Estimator to get an idea of what your payments might look like once you’ve graduated. Be smart about the debt you’re taking on. Only borrow the amount you actually need, otherwise you could be quite literally paying for your mistake down the line.

Review federal loans first. They tend to have the most favorable terms and flexible repayment options, and you generally don’t need a co-signer. To receive federal loans, families must submit the FAFSA form, with the 2016 – 2017 version available beginning October 1. Even if you don’t think your family will qualify for need-based aid, you should submit the FAFSA anyway. Every family that files one, regardless of family income level, is eligible for some type of federal student loan. You never know what you might be eligible for or how your family’s needs will change before the fall. There are different types of Federal Direct Student Loans, including Direct Subsidized Loans, Direct Unsubsidized Loans, and Federal Direct PLUS, among others. We will cover the specific differences between these loans in an upcoming post, but all of them are managed by the federal government. Some can be covered by debt forgiveness programs, like the Public Service Loan Forgiveness Program, but when you’re taking out a loan it’s best practice to assume that you will be paying back the entirety of the balance.

If you need more money, look into private loans. Federal loans are limited year-to-year, and if facing a tuition shortfall, you may need to look into private education loans. One of the best known private loan lenders is the company Sallie Mae, but private loans also come from banks, credit unions, and other lenders. In most cases you’ll need a co-signer. All private loans differ, but their interest rates may be fixed or variable and some require a minimum payment while still enrolled in school. You can learn more about the differences between the two types of loans at Studentaid.ed.gov.

When taking out loans, make sure you understand the terms of the loan. How will interest be charged? What is the grace period on the loan, that is, how much time will pass between graduation and when payments are due? Who will be the co-signer on the loan, if you need one? There are many factors to consider and like most aspects of the college process, the answers will differ among families. But with some research, you’ll feel more equipped to make the right choices for you. Good student loan borrowing is about being smart, making the right decisions, and doing what’s best for you and your family.

John’s Jots #4: Defining College Affordability

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Guess what – there isn’t a standard definition of an affordable college.   Google “Affordable Colleges” or “Is College Affordable for Me?” and you get a hodgepodge. No wonder families are overwhelmed when trying to figure out how they know if they can afford college or if they’re saving enough. How can families assess the financial fit of a college when the “experts” can’t agree on what it means for a college to be affordable?

I’d like to solve this problem for families.  I’ll tell you what I think — let me know if you agree or not — with the hope that we can start to demystify this important question.

First, despite the current good-faith efforts by many, my google search for “Affordable Colleges” amplified the problem.  The returns included:

  • The 100 most affordable colleges — after community colleges and others were eliminated from the sample.  But those that were eliminated are likely very affordable options.
  • Affordable colleges ranked by ROI — a measure that many champion as “the answer” which may be true if you can accurately predict a student’s future income and the total cost of college before your student enters.  Although I like ROI calculations and it’s a financial term that many use because it sounds sophisticated, its fundamental  value is as a backward looking comparative tool.  Like all such measures, the output  can only be as accurate as the inputs, which in the case of predicting college costs and post-graduate wages are highly variable, at best.
  • Affordable colleges ranked by annual tuition and expected income — the winners were the U.S. Naval Academy and West Point, which don’t charge tuition but require a highly selective appointment.
  • Advice to attend a community college for two years, then attend a state school, live at home, buy used textbooks, work at a paying job during the summer and avoid debt.

All good — but not particularly specific to guide a family. So I tried to narrow the search by asking “Is College Affordable for Me?”  I hoped that would give me more personal financial advice.  Here’s what I found:

  • A U.S. Department of Education Blog, which is mostly cheerleading about the  Administration’s efforts. The efforts, like most high-level policies are well intended, but don’t specifically help me unless I like to eat tax credits.
  • Many articles arguing to make some colleges free — likely driven by the election sound bites to make community colleges free.  A interesting political idea but somebody’s still going to have to pay for the college experience.  In this case, taxpayers.
  • A link to The Lumina Foundation’s excellent study arguing that a college is affordable if the total cost of a bachelor’s degree does not exceed the total of 10% of a family’s discretionary income over 5 years plus the amount a student can earn working 10 hours per week during the school year.  It’s mostly applicable to lower income families but is a useful guide.

Kudos to Lumina for more good work and an attempt to address the issue.   But what’s the answer for most families?  How does a family know if a college is affordable?

There are 5 factors that determine if a college is affordable without taking on debt:

  1. The college selected. Families have  COMPLETE control over this important part of the equation.   There are over 7,000 colleges and  universities — one will certainly be a good academic, social and financial fit.  Picking a college based on cost is one sure fire way of ensuring that it is affordable.  The problem: many, if not all, students and parents have a pre-conceived notion (their dream, which I completely get) of the type or specific college they seek, so many choose higher cost alternatives than they may need.  Knowing the student’s longer-term goal is helpful. Do they want/need a job after college or is grad school an immediate option?
  2. Family Income.   Financial aid is mostly driven by family income – not assets.  Need-based aid is readily available at most colleges — and some of the most selective colleges provide 100% aid for low income, high achieving students.
  3. Savings. How much will likely be saved by the start of freshman year?  Very few families will save 100% but establishing a savings plan early  — and contributing routinely — will make a big difference.
  4. Getting “Free Money.”   Grants and scholarships will help defray college costs.  In addition to federal, state and third-party grants and scholarships, many colleges offer generous Merit Aid to students who help the college fill-out the entering class.  The college may be seeking an actor or thespian or woman/man from a particular geographic area and will offer lots of money to them. Other times gifts from relatives and others help students cover college costs.
  5. Current Income.  Will parents and/or students be able to contribute cash while the student is in-school?

If these sources cover the full-cost of college (tuition, fees, room/board, other projected expenses such as travel), the college is affordable.   If there is a gap, the discussion gets more interesting because loans are now necessary — and this is where parents and students get into trouble.

Part of the problem: the federal government allows schools to include loans as “aid” in Financial Aid Award Letter  — including a Parent PLUS loan that is offered for the full amount of attendance with little  regard for whether the parents can actually afford the loan.  So the college indicates that it is affordable — based on packaging a boat load of loans without regard to a family’s capacity to repay them.  Sometimes, schools will also front-end load grants or scholarships that might not be renewed or available after freshman year.   Again, the college may appear to be affordable, but maybe only for freshman year.   It’s mind-boggling but true.  It’s like walking into a car dealership and getting a “no questions asked” loan to buy a Mercedes.   The dealer will no doubt think:  Enjoy the great drive — until we repossess the car because you can’t afford the loan payments (which, by the way, we knew before you drove away).  Don’t let this happen to your family!

In my world, a college is affordable if — after exhausting 1-5 above — the student or parents need a loan to fill the gap and BEFORE taking a loan consider:

  • Student’s post-college life.   Students needs to avoid the trap of simply taking big loans to attend the school of their dream without first UNEMOTIONALLY and REALISTICALLY thinking about what their goals are after college — how much are they likely to earn per month?  Before signing for the first loan, determine how much debt is likely to be necessary over 4 years and see what the monthly payment will be — for 10 or more years after graduation.  There are a few rules of thumb on this: Don’t borrow more than your first year’s starting salary. Don’t borrow more than 15-20% of your projected monthly disposable income.  If the monthly payments do not line up with projected income, that college doesn’t sound affordable to me.
  • Parent’s life style and retirement plans if they co-sign their students or take parent loans.   If parents take on debt to pay for their child’s education, they’re best advised to understand what it will mean to carry that debt for 10 or more years after graduation, which just may happen to coincide with their planned retirement.   Will the college debt extend the number of years they  have to work or substantially reduce the amount of their available retirement savings?   Do they plan to borrow against retirement savings?   If so, that college doesn’t sound affordable to me.

This may all sound simple. Theoretically it is:  choose a college that is affordable and offers a social scene and academic rigor in line with your student’s abilities and interests. We should also consider how the student can make progress from the challenges they face in college.  Ideally they are given the opportunity to learn from failure after giving their best efforts towards something they are passionate about.  Not everything has to be perfect to make for a great learning experience.  The result will be a happy, empowered college graduate who, like fearless Felix Baumgartner, lands on his feet: with a diploma in hand, a well-paying job, and student loans, if necessary, that are manageable.   And parents who have helped their child successfully navigate this process without putting their retirement or life style in jeopardy.

Let me know if you disagree with this train of thought — and why. Together we can help families grapple with this vexing issue.

 

 

 

 

Let’s help college students land on their feet like Fearless Felix

Felix Baumgartner Safe Image Flickr

Meet “Fearless” Felix Baumgartner (“Jump” image from Flickr) – an Australian daredevil. Fearless Felix participated in the Red Bull Stratos Project. He rode a helium balloon into the stratosphere – 24 miles up and should be an inspiration for all of us to ask why all college grads can’t be more like him and land on their feet after their diploma hits their hand.Felix_Baumgartner_2013 Wikipedia

After saying,  “I’m coming home,”   Felix casually leaned forward to begin his descent from the high altitude balloon. And what a descent it was:

  • He was in free fall for 4 minutes and 19 seconds.
  • Reached a speed of 843.6 miles per hour – that’s Mach 1.25.
  • He caused a sonic boom – by himself – the first person ever to break the sound barrier without the aid of a vehicle.
  • He also came out of a death spiral. The engineers who modeled his free fall realized that at some point he would start spinning out of control, which had to be stopped in order to deploy the parachute on his back. So they taught him how to right himself if this were to happen.

Watch the You Tube videos of this. It’s mesmerizing and was motivational for me.

After:

  • two years of planning,
  • 2 test jumps,
  • many visits to a sports psychologist to overcome his one fear – claustrophobia, and
  • 1 delayed jump due to bad weather

On October 14, 2012, Felix:

  • jumped from 127,852 feet
  • controlled his in-flight wobble that could easily have resulted in his death
  • and proceeded to land on his feet.

A perfect landing. An Olympic gymnast would have been in awe.

So I have to ask you: How is it that we can dedicate that kind of ingenuity to accomplish such an audacious goal, but we can’t seem to find a way to have our college graduates land on their feet: with a degree, a well-paying job and if they need some loans, with a debt burden that is manageable.   It boggles my mind.

We’ll discuss this in more detail in later posts, but here’s a start for families trying to achieve their dreams of a college education for their children.

Parents and students should recognize that colleges are a business with two primary goals  for admitting next year’s class:

  • Maximize net tuition revenue
  • assemble a diverse class that competes favorably against peer institutions, is well-balanced with a talented pool of matriculants, and will make the class, the administration, the faculty and the alumni proud.

Too often families take a “damn the torpedos” approach and borrow whatever they need for “the best” brand name college    Families that resist basing this important decision mostly on emotion and instead act like traditional consumers — in this case of education — have a much better chance of a college graduate who lands on their feet.  Here’s a simple formula for success for families:

  • Be realistic, college is not for everyone.  Is it the student’s dream, or at least strong desire, to attend college?  Is the student properly motivated to be successful or are they fulfilling what they perceive to be someone else’s dream: a parent, guardian or guidance counselor?  Sometimes delaying college of a year or two, or not attending, is a a better choice than starting, only to drop out.
  • Determine what type of school best fits the student’s needs. Cost aside for this moment, a  4 year private college may be the right answer for many, but not all – particularly the very most selective which admit fewer than 10% of the applicants. Community colleges give many students a terrific start.  Public colleges offer excellent learning environments that are the ticket to success for many students.  The key is finding the best academic and social fit for that particular student.
  • Select a school in that spectrum that is affordable.  There is no magic formula for affordability but a one litmus test:  will the student and/or parent be required to take debt in order for the student to attend?  If so, will the student’s potential post-graduate job prospects likely pay enough to repay the debt. Likewise, is parental debt affordable based on income?  Is the parent’s debt burden affecting their retirement savings?
  • Have these conversations early and over time — starting as early as ninth grade with general thoughts and become increasingly concrete as the student’s record of achievement in high school takes shape, test scores come in, college visits are made and the student’s desires sharpen.  The earlier you start and the franker the discussion you can have, the greater opportunity you  will have to manage expectations and provide our son or daughter with practical advice that they will hopefully listen to.

Following these steps will help high school seniors select a school that is right for them academically and financially ,and will substantial increase the odds that they will land on their feet with a degree, a well-paying job, and student loans, if necessary, that are manageable.