Experts: Financial Literacy Can Reduce Student Loan Debt

By Staff

In several studies released over the last couple months, experts have linked overborrowing of student loans with a lack financial literacy. Borrowers — both parents and students, alike — simply don’t understand what they’re getting into debt-wise. This is speaking not just in terms of the amount of money that will need to be repaid but also how student loans work and the ramifications for default.

According to U.S. News and World Report, politicians, academics and students alike have all criticized the ballooning cost of college and its contribution to the existing mountain of outstanding student loan debt. But students also suffer from a lack of financial literacy that leaves them unable to navigate the complex maze of financial aid applications and loan options, further adding to their money troubles even after they leave school.

National student loan debt now tops $1.1 trillion, with the average student accruing more than $26,000 in debt upon graduating. And more than half of this outstanding debt is not being repaid because borrowers are struggling financially. Many have said these statistics are the result of a higher education system that has become increasingly inaccessible and unaffordable. But it also stems from a deeper issue: students don’t know what they’re getting into when they take out loans, and they don’t know what their options are when they have to pay them back.

But when students aren’t aware of or are confused by different repayment options, those who are struggling financially sometimes just stop paying. After nine months of doing so, they default on their loans, which can affect credit scores, lead to wage garnishments, and if left unresolved for long enough, can even take a bite out of the their Social Security checks, according to Lauren Asher, president of the Institute for College Access and Success.

The Department of Education on Monday — before the shutdown — released new data that show the number borrowers who default on their student loans within two years of entering repayment has increased for the sixth year in a row. The Consumer Financial Protection Bureau estimates there are more than 7 million borrowers in default on a federal or private student loan.

Those numbers, which monitor students who default within two and three years of entering repayment, don’t include delinquencies, which occur when borrowers fail to make payments for more than 90 days. They also don’t reflect the number of borrowers who are struggling to make payments, or borrowers who default after being in repayment for more than three years.

Borrowers often default because they are not aware of more flexible repayment options that adjust payments based on the borrower’s income. But what many borrowers also don’t know is that once they default on their loans, they are no longer eligible to enroll in these programs.

That’s why many say this type of financial education should start much earlier, before students get to college. In fact, several states – including Tennessee, Virginia, Missouri and Utah – have mandated that financial education be included in K-12 curriculum. But according to a 2011 survey from the Council for Economic Education, less than 20 percent of teachers feel competent in teaching personal finance topics.

A recent survey from the nonprofit group American Student Assistance found nearly three-quarters of students said they’ve put off saving for retirement because of student debt. Another 43 percent said they’ve delayed starting a family and 27 percent said they found it difficult to buy daily necessities because of loan payments. Additionally, close to 70 percent said they were confused about the different loan repayment options.

Educating students sooner about the cost of college, how much they need to borrow, how to repay loans and what their future earnings may look like could help solve this problem.

Examples of Current Repayment Plans

Repayment Plans: An Overview

The following repayment plans can be used for Federal Direct Loans and Federal Family Education Loans, including the Parent PLUS Loan and Stafford Loans. (Perkins Loans and private loans operate under different rules, so you’ll have to contact your school or lender to determine your repayment options for those.)

Standard Repayment: This plan is what you’ll start with, unless you switch to another repayment option right off the bat. Standard repayment plan payments are at least $50 per month and will have your loan paid off within 10 years.

Graduated Repayment Plan: Based on the assumption that you start with a lower-paying career but gradually increase your income, this plan begins with lower student loan payments, which increase about every two years. You’ll have your loans paid off within 10 years.

Extended Repayment Plan: If you can’t manage standard or graduated payments, the extended plan allows smaller fixed or graduated payments that let you pay off your loan in up to 25 years.

Income-Based, Pay As You Earn, Income-Contingent and Income-Sensitive Plans: Although each of these plans differs slightly and applies to different loans, they’re all meant to make student loan payments more affordable based on your income. You can find out more about the specifics of these programs from the Federal Student Aid website.

Deferment and Forbearance: If you’re really struggling to make student loan payments, especially due to a short-term financial crisis, a deferment or forbearance allows you to put off your loan payments entirely for a short period of time.