Student Loan Interest: Compounding the Problem
We all fail, and a big part of finding success in life is learning from those failures. But you can’t learn from failures you haven’t acknowledged. The first step, as they say, is admitting you have a problem.
In higher education, there’s an upselling mechanism for people worried about what confronts them when they graduate: graduate school. Necessary in some situations, to be sure, but also a potential refuge from the harsh reality of the job market and the hard slog of dealing with those student loans. Instead of paying down, doubling down. My friend Tyler (whose name I’ve changed to protect his privacy) chose the latter.
Tyler was 22 when I first met him, and he was studying to get his master’s degree in special education. He told me he took his classes online, which led me to assume that he already had some job in the field that made it difficult for him to attend classes in person. It was only through further conversation that I realized he actually had two part-time jobs: one a retail position and the other at a gym. He lived at home, and seemed overwhelmed with the amount of school work he had on his plate.
This left me wondering: if, after graduating, the closest thing you can get to a job in education is to work in retail, what reason is there to think another two or three years and another $50,000 or so will yield radically different results? In these cases, a second degree begins to sound like a second marriage—“the triumph of hope over experience.”
Psychologically, the appeal is clear: if you’ve been to scores of fruitless job interviews and are just now confronting the financial reality of paying back student loans, it must be tempting to delay that reality by going back to school. There’s plenty of research on loss aversion suggesting that otherwise intelligent, careful people will still throw good money after bad to avoid admitting—even tacitly—that the initial decision may have been a bad one. Life lessons like this are never on the test, but they’re just as important as the things that are, because the financial implications can ripple for decades.
We’ve established that college is expensive, and getting more expensive all the time. But we’ve actually been too lenient, because to this point we’ve largely excluded interest. Students rarely pay all of those costs up front; how could they? Nobody that age has $100,000 lying around. Even with their parents footing most of the bill, it’s still a huge cost. So it’s become a given that most students will have to take out loans in order to pay for college.
First thing’s first: the debt students graduate with is burdensome even before interest factors in. Whatever anecdotes we can produce about the diligent students who work two jobs and graduate free and clear, the overall numbers show that this is rare: 70% of college graduates leave school with an average of $23,000 in student loan debt, and a significant minority leaves with much more. 10% of graduates leave more than $33,000 in the red.
And it’s getting worse. The cumulative unpaid principle of all student loans is rising, and has been for some time. As of 2013, student loan debt totaled $1.2 trillion (that’s with a “T”), surpassing even the total amount of credit card debt in America. Even accounting for inflation, the average student loan debt has still increased by more than 50% over the last decade. And the average isn’t being skewed by an unfortunate few: the number of graduates in debt has risen 27% over the past five years.
Struggling graduates may consider debt consolidation to make their payments more manageable, but this can end up costing them in the long run. The $23,000 average student loan typically ends up costing around $33,000 if you include an 8% annual interest and a ten-year repayment timeline. But if that loan is consolidated to make the individual payments more manageable, the repayment period is extended to 30 years., and suddenly that original loan of $23,000 can cost the graduate about $60,000 before it’s paid off. Deferring payment—either by staying in school or by consolidating the loans—often just means falling longer before hitting financial reality.
The most telling statistical of all, however, is the opinions of the graduates once they have the benefit of hindsight: even without attempting to factor in Post-purchase rationalization (which is likely significant given the immensity of the decision), four out of ten recent graduates feel their student loans were not worth the education they received.
In the next installment, we’ll look at the opportunity costs of attending college, and the ways in which most wage comparisons fail to account for them.
Article originally published on Forbes.com.