Refinancing a Student Loan
The Shocking Truth about Refinancing a Student Loan
Refinancing a student loan makes sense to us, but to the government who administers the loan program, it apparently doesn’t. Do you think that it has anything to do with the estimated profit of 51 BILLION dollars that the Education Department will make on student loans to students and parents this year?
Nah, they wouldn’t do that, would they? Does it matter also that student loan delinquencies are at an all time high? Many of these loans can’t be repaid because graduating college students can’t find a job due to the horrible economic conditions that still exist in many industries and states.
I realize that many of these same students have created this problem by choosing an educational path that they simply could never afford. By choosing a less expensive college as an example, or heaven forbid, attending a community college could have saved a lot of money. Working a part time job and paying as you go would save a lot as well.
Be that as it may, the issue at hand is that student loans outstanding have passed the one TRILLION dollar mark, and defaults are increasing. Another fact that most individuals are not aware of is that filing for bankruptcy will not discharge a student loan. If that bubble bursts, it will be as bad as the real estate and mortgage bubble of several years ago.
We all see the ads to refinance a mortgage at rates so low they are hard to believe. Yet, refinancing a student loan carries a rate that is more than twice that amount and will hurt the economy. There is a bill before Congress sponsored by Senator Kirsten Gillibrand (D-N.Y.), that would require the Education Department Secretary to refinance a student loan automatically to a fixed rate loan of 4%. You can only imagine the reaction in the White House to this bill.
There is a government agency, The Consumer Financial Protection Bureau (CFPB), who issued a report outlining how high student loan debt has a negative impact on our economy. Some of the areas impacted were home ownership, formation of new businesses, inability of workers to save for retirement, and a labor shortage in some occupations that paid lower wages.
The fact that the option for refinancing a student loan wasn’t available to these borrowers was noted as a primary reason for the bad effect on the economy. Because most student loans are marketed through the colleges directly, it becomes very difficult for a borrower to get access to information on refinancing a student loan after they graduate and are no longer on campus.
Many, if not most students, have more than one student loan outstanding, and usually from different sources. This makes it difficult in determining the total indebtedness, or even if a possibility exists for refinancing a student loan. The situation becomes even more problematic when you realize the savings that could be generated if refinancing were more readably available.
Private loans that are made by banks normally carry a higher rate of interest than others that have a federal loan guarantee. When these loans are granted, the student normally has little if any credit history, and the repayment terms have no assured future earnings to service the debt.
However, after the student graduates and finds a job, their financial resources increase and they develop some credit history, making the risk substantially less. At this time, it would behoove the private lenders to lower the rate of interest as a reward for reduced risk.
This rarely happens, though, and student loan borrowers have no options to reduce the amount of their payments because there is no competitive, active market to refinance a student loan.
There is a possible solution, the CFPB believes, and that is to tap one of the government agency funding sources, or to get the Federal Financing Bank involved. They could be structured to make capital more readably available to the student loan lenders. In essence, they would operate similar to the mortgage agencies.
State and municipal sources could also assist with tax exempt funding. However, more control would have to be exercised by the regulators to keep the refinancing market in check so that it didn’t inflate this bubble any more than necessary.
Unfortunately, it seems that banks quickly forget lessons that they should have learned from past mistakes. When Fannie Mae and Freddie Mac were trying to assist the housing market a few years ago, many banks were only concerned with fees and other income and paid little attention, if any, to credit quality or overall credit worthiness. In my opinion, they would do the same without very stringent oversight.
At the present time, refinancing a student loan can be done, but the borrower has to be careful in the case of a federal obligation. Under a federal loan, there are provisions for loan forgiveness as well as deferment, for certain types of student loans. If the debt(s) are refinanced privately, those options disappear.
The primary advantage and attraction to refinancing a student loan is the opportunity to lower the monthly payment. However, many lenders do this by giving the borrower a longer time to repay the debt instead of reducing the interest rate. This increases the overall cost of the loan because the borrower is paying more interest, and more than likely, repaying the loan until they are practically ready to retire.
There are a number of ways this problem can be alleviated. Those students that are preparing to enter college need to take off the rose colored glasses and prepare a budget to determine their needs. Not every student needs to attend one of the Ivy League schools. Many can enroll in community colleges without the need to borrow and then transfer to a college that they will be able to afford. Others will be able to work part time while in school to cover part of the expense.
Another important way is for the Department of Education to fix the interest rate at a low figure to help keep delinquencies down. More importantly, prospective college students need to have required in depth counseling in the area of budgeting and student loan borrowing. Perhaps if all of that can be done, then refinancing a student loan would not be an issue for discussion.
An accountant and tax preparer by profession, Gust’s true passion lies in his company blog titled “HBS Financial Group, Ltd.”. Through this venue, he not only tries to teach individuals about budgeting, money management, and taxation but he writes the majority of the articles as well.