A reasonable amount of student loan debt is debt that the borrower can afford to repay in a reasonable amount of time, such as within 10 years after graduation.
Generally, students who graduate with too much debt tend to delay life-cycle events, such as buying a car, buying a house, pursuing more advanced education (e.g., graduate or professional school), getting married, having children, saving for retirement and saving for their children’s college educations. Every additional dollar in student loan payments is a dollar less that is available for other priorities. The average monthly student loan payment is about the same as the monthly payment on a car loan.
If total student loan debt at graduation, including capitalized interest, is less than the borrower’s annual starting salary, the borrower will be able to repay his or her student loans in ten years or less. This corresponds to monthly loan payments that are between 10% and 15% of the borrower’s gross monthly income. Ideally, students should borrow less, since this rule of thumb identifies the limits of affordable debt unless the borrower adopts a very austere lifestyle after graduation. Borrowers should avoid treating loan limits as targets.
If the borrower’s total student loan debt exceeds annual income, the borrower will struggle to make the loan payments and may need an alternate repayment plan, such as extended repayment, income-based repayment or pay-as-you-earn repayment, to afford the monthly loan payments. These repayment plans reduce the monthly payment by stretching out the loan term from 10 years to 20 years or longer, which may mean that the borrower will still be repaying his or her student loans when the borrower’s children enroll in college.
Most students graduate with a reasonable amount of debt. The average debt at graduation for a Bachelor’s degree in 2014 is about $33,000 and the average starting salary is about $45,000. But these are averages. Some students borrow more and earn less, and run into trouble as a result.
Contrary to news coverage that suggests that most students graduate with six-figure student loan debt, less than 1% of Bachelor’s degree recipients graduate with $100,000 or more in federal and private student loan debt. Even students who graduate with about $50,000 in student loan debt for a Bachelor’s degree are graduating with more debt than 90% of their peers.
Although interest adds to the cost of student loans, making them more difficult to repay, the primary problem with declining college affordability is the amount of debt, not the cost of debt. Government grants have not kept pace with college costs, shifting more of the burden of paying for college onto students and their families. For example, increases in the maximum Federal Pell Grant since 2010 have averaged less than the consumer inflation rate, not just the tuition inflation rate. Cuts in state support of postsecondary education are the primary cause of public college tuition inflation. Since family income has been flat or declining and most families do not save enough, families must rely on education loans, the only source of funding with any degree of elasticity. The increases in student loan payments due to annual increases in the amount of debt at graduation exceed the increases due to higher interest rates.
The best advice is to keep student loan debt in sync with income. Students who will be pursuing careers in low-paying fields should borrow less, unless those occupations will qualify for loan forgiveness programs like public service loan forgiveness. Otherwise, they should consider ways of cutting college costs, such as enrolling in a lower-cost college and saving money on textbooks, transportation, housing and living expenses. Live like a student while you are in school so you don’t have to live like a student after you graduate. It is easier to minimize student loan debt before borrowing the money than afterward.
Students who take a financial literacy course in high school or after arriving on their college’s campus are less likely to graduate with excessive student loan debt. Financial literacy training helps students make smarter decisions about student loan debt and managing money throughout their lives.
Despite the debt, a college education is financially worthwhile for most students who are interested in going to college and have adequate preparation for a higher education. Some people can be successful without a college degree or certificate, but a college education is more likely to lead to financial success than the alternative.