School Loans 101 (And a Little Wisdom Thrown In)
The Easy Fix
How are you paying for school? Ask that question to any handful of college students and you will inevitably hear the answer “with loans” from not a few of them. To some degree this makes sense. Said students are broke, college is expensive, and signing a sheet of paper will provide the money to resolve this little dilemma. Scratch, scratch, problem gone.
Two-thirds of today’s students will do just this, on average incurring an individual debt burden of $26,600. In the aggregate, Americans now owe upwards of $1.2 trillion dollars in student loans.
If everyone’s doing it, it must be O.K., right? Nope, you know better. You know to ask: Do loans make sense for my situation?
Let’s take a moment to review how loans work. In a nutshell, a loan is a contract between a borrower, someone who needs money, and a lender, someone who has money. In return for foregoing the use of this money the lender demands payments totaling more than the original amount and thus profits from the borrower’s need. In its most basic form the contract will spell out (borrower) owes (lender) $ (principal amount) at (interest rate) %, payable as (amount) per (time period) .
Each loan will vary from here in regards to the other details, such as whether the principal payment will amortize (spread out over time) or balloon (come due all at once), how often the payments shall occur, and the penalties for non-payment.
Most college loans employ some helpful standardization. But before we get lost in the weeds detailing the particulars, let’s first determine whether someone in your shoes should even venture into this territory as a funding strategy.
Wisdom on Borrowing
What Affordology Tells Us
Those in the world of personal finance speak and write often of the good debt/bad debt dichotomy. We incur “good debt” when we borrow for those items which lessen our total expenses or even make us a profit. This list usually includes debt used toward such purchases as housing, business assets and yes, college tuition. The term “bad debt” is used in regards to debts with no positive impact on our pocketbooks, ever, such as automobiles, rent-to-own furnishings and most everything we buy with a credit card.
However, one cannot take out a loan for items, even in the “good debt” category and assume success. Affordology refines the good debt/bad debt criterion by developing hard cost numbers into which a product must fall, lest we knowingly face negative consequences. The man who stumbles onto buried gold in a field might justify a loan for this field, but only if he borrows less than the resale value of the contents. Likewise, if you qualify for school debt you must spend only to your number, and not fall for the trap of borrowing the maximum amount offered.
Even in instances where you can justify your debt burden as “good debt” based on personal finance principles and your Return filter, I would encourage you to take another step back before you research loan constructs and availability. We still take only educated guesses about life after graduation when we run our calculations.
Only one being knows the future with any certainty, and it ain’t you or I or a financial guru. Let’s take a step back and see what God says about this topic.
What God Tells Us
While the Bible doesn’t explicitly call borrowing a sin, it treats it with deadly seriousness all the same. The writer of Proverbs notes that debt is used as a form of control over another: “The rich rules over the poor, and the borrower becomes the lender’s slave,” and urges us to “not be among those who give pledges, among those who become guarantors for debts” (22:7, 26-27). Throughout the Old Testament Israel’s debt to other nations was viewed as a curse and a sign of God’s displeasure with His people (i.e. Deuteronomy 28:43-45). We are to “owe nothing to anyone except to love one another…” (Romans 13:8). Most explicitly, those who guarantee another’s debt (cosign) “lacks sense” and should deliver themselves “like a gazelle from the hunter’s hand and like a bird from the hand of a fowler” (Proverbs 17:18, 6:1-5).
We can also note what the Bible indicates by omission. Throughout its pages, one cannot find a single instance wherein God acted through or encouraged the use of borrowed money. We have instance after instance of miraculous blessings, rescues and provisions but not one instance of a loan gone right.
On the whole, if the scriptures don’t completely steer a person away from debt altogether, they should at least serve to warn us to approach this matter carefully and with great trepidation. The financial world might argue about good debt and bad debt, but in biblical terms we might more rightly argue about “dangerous” and “insane” debt. So while the loan programs we’re about to explore might look sweet, beware the poisoned apple.
Now About Those School Loans
College loans come in two basic flavors: subsidized and unsubsidized. In layman’s terms we can think of these as needs-based and traditional loans. While the subsidized loans have certain benefits and are more desirable than more traditional loans, neither must be thought of as free money.
Whatever the flavor, each loan will require full repayment of the amount borrowed, plus interest, at periodic intervals. These payments reduce a borrower’s post-college options and increase his total cost. For instance, let’s suppose Joe Average took out the average sized college loan of $26,600, which had a standard ten-year payback, and the lowest available subsidized interest rate of 3.8% (unsubsidized rates are much higher). Joe could then expect monthly payments upon graduation to total $320 per month and would pay a total of $38,600 for this loan when we factor in interest payments. That’s a lot of tip money if Joe’s career doesn’t go quite as planned.
With all this in mind let’s explore your offerings.
To qualify for any government-backed student aid, including Pell Grants and subsidized loans, students must fill out a Free Application for Federal Student Aid (FAFSA) form. Once submitted, the Department of Education will determine what benefits a student qualifies for.
For those who qualify, subsidized/needs-based loans come with a number of benefits, including:
- Low or no origination fees.
- Relatively low, fixed interest rates.
- Government payment of interest while the student attends college “full-time.”
- The ability for the student to borrow with no (or poor) credit history and without cosigners.
Generally speaking, the student should seek out subsidized loans well before signing on for any form of unsubsidized loans.
Unsubsidized loans look more like other standard loans in terms of needing good credit to qualify, higher interest rates and the requirement to begin payments upon receipt of the funds. The federal government does sponsor some unsubsidized loans with slightly better terms than might be had through the bank, such as a cap on the interest owed.
Not long into applying for most of these loans a student may run into a fundamental problem which makes such loans unappealing to anyone with sense. Because the student typically has little or poor credit history the lender will often ask for a cosigner, usually a parent, to guarantee the loan in case of default. This then puts the student in a situation of asking another to backstop their personal debt.
Practically speaking, anyone who cosigns another’s debts puts themselves in a situation of all risk/no benefit. The scriptures call this nonsensical or stupid, depending on your translation (Proverbs 17:18), and no affordology filter would merit it. For this reason students should walk away from any debt which calls for such an arrangement out of hand. Similarly, no college loan taken out directly by parents, such as the federally sponsored Parent PLUS loans, will prove affordable to the parent on a Resource and Return basis, no matter how desirable it is to the student.
The Pot Sweetener
The federal government sponsors most of the college loan programs, and most of these programs, especially the Perkins loan, have some level of forgiveness built in for those in specific careers. The government has recognized a need for educated workers in particular fields and is thus willing to forgive your debt over a period of time if you fill certain shoes. This can be a real boon to someone getting an education in pursuit of a career which traditionally doesn’t pay well.
Students who qualify for forgivable loans and who seek employment in an eligible field should do a little bit of homework before entering a lower cost into their filters. Firstly, explore the terms of the forgiveness. Some loans have much more generous built-in cancellation features than others. Secondly, explore the job market for the desired career. Fields on the forgiveness list may not have many openings and therefore may potentially stick the graduate with bills while they work elsewhere. Lastly, find out exactly what the government means when it lists a career as eligible for this feature. For instance, even though the Perkins loan will forgive debts of those working in “law enforcement,” this may not include many of the staff positions at a court facility (I speak from experience on this one).
If all this research indicates your loans will likely receive the forgiveness treatment, you may tenuously justify a higher total college expense by expanding the Resource and Return filters. Proceed cautiously. Always keep your eye on achieving qualified full employment upon graduation.
You now know of the need for extreme caution and a very basic understanding of your potential options. We did not cover the particulars of each loan program, so I encourage you to look at a website such as Big Future or Mapping Your Future for the details on borrowing limits, interest rates, qualifications, non-payment penalties and the like.
Most importantly, do not consider the loan your panacea to your tuition deficit. Please consider taking an alternative route and utilizing the other funding strategies in this book firstly. They might be harder to employ now, but your likelihood of regret later is much, much smaller.