The latest reports of the student debt crisis are nothing short of eye-popping.
Despite increasing efforts by independent and government agencies to handle the crisis, the numbers keep growing year after year.
However, while the overall figures are worrying—what does it mean for the average American?
More specifically, how does the student debt crisis actually hold back average Americans from reaching their financial goals post-high school/higher education?
Let’s jump right in and find out.
The Student Debt Crisis in Numbers
Here are some statistics that highlight how serious the student loan situation is:
- 45 million Americans collectively owe nearly $1.6 trillion in student loan debt.
- The average student debt has gone from $9,320 in 1993, to $29,900 in 2019.
- The average student loan payment amounts to 15% of the average worker’s personal income.
- Student debt is now the second-highest consumer debt category—behind only mortgage debt—in the United States.
Today, the percentage of a borrower’s income that goes into paying student loans is so high that they can’t even get relief through bankruptcy. This spotlights how the student debt crisis as well as rising college costs are holding people back from achieving financial milestones like home ownership and saving for retirement.
A Case Study into How the Student Debt Crisis Affects Average Citizens
A study commissioned by FutureFuel.io takes a closer look at the relationship between student debt and financial planning.
Here are some of the rich insights gathered from the study:
- On average, borrowers around the country estimate that it may take them up to 16 years to pay off their outstanding debt. Around 30% believe it may take longer; up to 20 years.
- Student loan holders say that their debt has a major effect on their financial planning. 70% said that student debt has made their financial goals impossible, while 22% are putting off saving for retirement until the end of their loan term.
- 62% of parents indicated that they’ll have to retire later than planned because of their student debt.
In summary, the increasing number of average citizens ending up with student loans means more people will be unable to reach their financial goals. It also reveals the wealth inequality among generations as part of the financial crisis in the U.S.
How the Government Plans to Combat the Student Debt Crisis
Given the rising costs of college and individual indebtedness, policymakers are starting to call out student debt as a threat to retirement savings.
By passing the SECURE Act of 2019, the federal government now lets student loan borrowers pay off their student loans with money from a 529 savings account. However, the majority of student loan holders, including most college graduates, won’t be able to benefit from this.
Let’s look at why.
The Majority Prefer to Pay Student Loans Directly, Rather Than From Their 529 Accounts
To save, or to pay off debt?
This is the question that around 45 million Americans with student debt ask themselves with every paycheck.
For the average borrower who is not a seasoned investor, the answer is clear—if they have money in a 529 account, they should direct their 529 account savings to pay off their student loans and avoid interest accrual.
This damages a person’s retirement savings by decreasing the total amount contributed. This also causes people to miss out on years of compounding returns in traditional saving vehicles.
Let’s take a closer look at this particular problem.
How the SECURE Act Fails to Protect Overall Retirement Savings
Even if a student borrower delays saving by only 5 years in order to pay off their student debt, it has a major effect on retirement savings.
Assuming that the average borrower were instead able to direct their monthly student loan payment of $393 to their retirement savings, the delay caused by having to repay their student loans would cost them up to $118,000 by the time they retire.
To put that into perspective, that’s roughly the median amount of total savings by 55 year-olds in the U.S. today.
How the Student Debt Crisis Affects More than One Generation
Because of the term ‘student debt,’ people assume the student loan crisis is only a young person’s issue.
In fact, people aged 50 and above owe $221 billion on their own student debt, despite being roughly 30 years past graduation. Not to mention, their debts were incurred when tuition costs were roughly 20% of what they are today.
Unfortunately, a huge rise in the cost of college, higher debt levels, and stagnating wages mean that repayment terms this long will soon become the norm.
Paying for College Twice Becomes the New Normal
Young families and Millennials are likely to face the student debt burden twice.
First, parents paying off their own student debt will need to delay saving (for both retirement and for their child’s college education).
Because of this, they are more likely to take out Parent PLUS loans to help their child get a college degree, which further delays the parents’ ability to save for retirement.
On average, these parents expect to repay the loans they took out on their children’s behalf in around 11 years.
As a result, 75% of borrowers feel that paying for their (and their children’s) education will be “a lifetime reality” for them.
How Student Debt Will Affect Each Generation
In the scenario discussed above, student debt draws dangerously close to a vicious cycle, stopping each subsequent generation from creating wealth. It also widens the wealth gap between those with student debt and those without.
Student loan repayment lengths of 30-40 years would cripple a generation’s ability to save for retirement.
Currently, 1 in 5 retirement-age Americans have less than $5,000 saved for retirement.
From a policy perspective, it’s clear that there should be legislation that eases this tension on the borrower’s finances, making it easier to simultaneously pay off debt and make contributions to a retirement fund, such as a 401(k).
A Possible Legislative Solution
One solution for the crisis comes in the form of the IRS Private Letter Ruling issued on August 17th, 2018, that allowed an employer, Abbott Labs, to contribute directly to an employee’s 401(k) plan. This was on the condition that the employee provides evidence of student loan payments.
Scaling this ruling nationwide can be done either via a revenue ruling from the Internal Revenue Service and Treasury, or by legislative action via the Retirement Parity for Student Loans Act.
Both large enterprise employers and small to medium-sized businesses are waiting for either a revenue ruling or legislative action to offer benefits that specifically address student debt.
Would Total Student Debt Cancellation Work?
On the flip side, there are proposals to completely wipe out student debt via blanket loan forgiveness.
These proposals, while well-intentioned, are misguided.
This is because they effectively transfer current individual debts to the future national debt without putting any pressure on the rising cost of attaining a Bachelor’s degree. This will create a moral problem with current and future American taxpayers and college students, who are on the hook for what may be an indefinite blank check to private and public colleges nationwide.
How Employers Can Use Student Debt Tools to Avert the Student Debt Crisis
For student loan holders, the burden is too big for them to wait on government action.
New tools, such as FutureFuel, empower individuals to take small actions that can take away some of their debt load.
The fintech startup provides a personalized platform for student loan holders. They enable borrowers to understand the right repayment program for their unique situation. Plus, they offer creative ways for users to crush compound interest on student debt.
FutureFuel seamlessly integrates into the user’s daily flow of life, finding leftover dollars to put towards their student debt. For FutureFuel users, taking these micro-actions can have a big impact, shaving years off their debt payment term, and not to mention, thousands of dollars in interest payments.[reviewform]