For most Americans, it is a forgone conclusion upon graduating high school that you attend a four-year university. According to the Bureau of Labor Statistics (BLS), 68.4% of high school graduates were enrolled in a college or university. While an increase from the year prior, the cumulative college enrollment for the spring 2015 semester fell about 2%. As unemployment rates continue to improve, many individuals have been lured away from the classroom to join the labor force. Contributing to this trend is the insurmountable costs associated with undergraduate and graduate programs. For less fortunate students, many resort to private and federal student loans in order to pay for their education.
With sky rocketing tuition and associated costs, the outstanding student loan debt for Americans has exceeded $1.2 trillion. While unemployment rates and return on investment are more advantageous to college graduates, the average student debt of $33,000 persuades students to forgo higher education. Fortunately, startups such as SoFi and CommonBond have applied innovative algorithms to refinance and consolidate student loans. For those with the foresight to start saving early, wealth management tech company, FutureAdvisor helps manage users' college savings plans for free.
Student Loan Crisis
With the rising costs of tuition, the price of college has become overwhelming. Besides tuition, college comes with related costs such as fees, book, and room and board. In 2014, the cost of tuition at a four-year private and public school cost $42,419 and $18,943 all encompassing. In real terms, this represents a 9% increase for private universities and 12% increase for public colleges over a five year period, respectively. To put things in a greater perspective, the cost of tuition and fees has increased by 120% since 1978 and four times faster than the consumer price index.
As tuition continues to outpace inflation, students have resorted to exorbitant student loans. Currently, the total outstanding student loan debt in the U.S. stands at $1.2 trillion, with 70% of bachelor degree graduates incurring an average of $33,000 in debt. Since student loans can cripple the financial situations for many students for years to come, many cannot even consider pursuing graduate programs. However for those who do, the median graduate student debt was $57,600 in 2012. For more specialized programs such as law or medical school, the typical debt load is $140,000 and $175,000 respectively. (For more, see: Is Student Loan Debt The Next Financial Crisis?)
Crippling America’s youth, students resort to federal and private loans to meet these financial burdens. In the U.S., the Department of Education offers students two federal student loan programs: Federal Direct Loans and Federal Perkins Loans. Federal Direct Loans are the largest federal student loan program, encompassing direct subsidized, direct unsubsidized, direct PLUS, and direct consolidation loans. Subsidized loans are only available to undergraduate students and the federal government pays the interest during deferment periods. Conversely, unsubsidized loans are available to both undergraduate and graduate students but the borrower remains responsible for interest accrued during the deferment period. Unlike Federal Direct Loans, Federal Perkins loans are a school-based loan program where the school is the lender instead of the federal government. (For more, see: Are Private Student Loans The Next Lending Crisis?)
The interest rate accrued from loans varies depending on the year the loan was disbursed and which program you decide to pursue. Direct subsidized loans for undergraduate and graduates disbursed after July 2014 are fixed at 4.66% and 6.21% respectively. Regardless of disbursement date, Perkins loans have fixed interest rates of 5%. The lifetime of a federal student loan can range from 10 years to life-long monthly payments. A borrower who incurs the average $33,000 in debt with 6.21% interest compounded daily will pay a cumulative $44,000 over a 10-year loan term.
As student debt continues to plague Americans, many borrowers have defaulted on their debt. It is estimated that two years following graduation, 9.1% of borrowers will default. That figure jumps as the number of years post-graduation extends. Fortunately, defaulting on your loan is no longer the only option for managing debt. Financial tech company, SoFi, provides students and parents a means to refinance and consolidate undergraduate and graduate debt. Like most startups, SoFi has an easy to use interface and requires borrowers to meet certain eligibility requirements in order to use its services: you are a U.S. citizen, have $10,000 in outstanding student loans, currently employed, graduated from an accredited university, and have strong credit and monthly cash flow. If accepted, SoFi will refinance both private and federal loans. It must be noted if you refinance a federal loan with SoFi you give up several federal protection programs such as income-based repayment. However, SoFi does offer unemployment protection and suspends monthly payments if you lose your job.
SoFi offers a range of customizable options which optimize borrower’s monthly payments, payoff horizon, and lifetime costs. Loan terms can be 5, 10, 15 or 20 years with either fixed or variable rates. Fixed rates start from 3.50% and reach up to 7.24% APR while variable rates range from 1.9% to 5.19 % APR. To this date, SoFi has been trusted with over $2.5 billion in loans and boasts average savings of $11,000.
Like SoFi, CommonBond is a peer to peer lending platform seeking to connect borrowers who would like to refinance student loans with investors. CommonBond focuses on refinancing and consolidating loans for Graduate students. By crowdsourcing investment in student loans, CommonBond essentially cuts out the middle man. Rates start as low as 1.92% for a five-year variable loan and go as high as 6.74% for a 20-year fixed loan. Unique to CommonBond is the use of Hybrid Loans which combine both a fixed-rate loan and a variable-rate loan. Like SoFi and other lending marketplaces, there are no origination fees and early payment penalties. However, CommonBond acceptance criteria are more stringent: borrowers are only accepted from select graduate programs with modest income and good credit history. (For more, see: The Small Firms Revolutionizing Banking.)
FutureAdvisor College Savings
For parents with the foresight and financial capabilities, investing in your child’s education early on in life can avoid crippling financial effects down the road. Recently, FutureAdvisor has added college savings to the list of investment management services it offers. Free to use, FutureAdvisor helps parents save and invest in tax advantaged savings accounts: 529s, Coverdell, UTMA and UGMA. Working with TD Ameritrade (AMTD) and Fidelity, FutureAdvisor consolidates existing funds and opens new ones to optimize parent’s savings goals. Depending on your income, child’s age, and projected college tuition amongst other factors, FutureAdvisor directs you where to put your money. What separates its service from generic college cost calculators is its use of automation and multiple custodians. Automated contributions to 529 plans, when available, are made in low-fee index funds within Fidelity’s platform. Coverdell, which are not supported by Fidelity, are directed through TD Ameritrade. When your child inevitably begins school, FutureAdvisor disburses funds directly to the university on your behalf.
(For more, see: The Future Of Robo-Advisors: Future Advisor.)
The Bottom Line
Managing and paying student loans can be a difficult time for young professionals and even in older age. Many new marketplace lending services such as SoFI, CommonBond and Earnest have leveraged the surge of financial technology to refinance or consolidate federal and private loans. For parents with the foresight, the online investment company FutureAdvisor provides automated management of college savings plans free of charge. With the influx of financial technology services, savings for college and managing student loans may no longer have to cripple America’s youth.