America's cumulative student loan debt has topped $1.5 trillion, surpassing credit card debt as the second greatest debt burden behind mortgages. How will we pay it off? A study by the Brookings Institution suggests that approximately 40% of Americans won't be able to pay off their loans and will end up in default by 2023. That’s just five years away.
Student loan default rates are typically reported as three-year cohort default rates, defined as the risk of a student loan holder defaulting within the end of one or two fiscal years after the year they enter the repayment stage. For a student debtor whose grace period ends in 2018, the default rate for the 2018 cohort will report the default rate for that group from 2018 through 2020 (a three-year cohort).
Reported this way, student loan default rates are down from a 14.7% peak in 2013 (2010 cohort) to 11.5% in 2017 (2014 cohort). That's still bad – but a 2018 study by the Brookings Institution looked at default rates for the 1996 entry cohort years later and found that default rates continued to grow at surprising rates beyond the first three years.
Twenty years after the 1995-1996 cohort began paying their bills, the total default rate in the group increased to just over one-quarter of borrowers. The 2003-2004 cohort had already surpassed that value at 27%. Applying the same growth rate to the 2003-2004 cohort, the twenty-year default rate for that group will reach just over 40%.
In short, default rates over time are far greater than the three-year cohort would suggest. Student loan debt, combined with other debts and expenses, have an impact on many borrowers for decades.
The Urban Institute, a Washington, DC, think tank, recently focused on the differences between defaulters and non-defaulters in the 2012 cohort for a recent study. Many of the results were unsurprising. Defaulters were more likely to also have other types of debt that require risk assessment (student loans don't). They were also more likely to have other bills in collections, such as medical and utility bills.
Defaulters are more likely to live in ethnic neighborhoods and in areas where the median annual income is lower – $50,000 compared to $60,000 for borrowers who hadn't defaulted. Again, those are not surprising findings.
There was one counterintuitive finding – borrowers with the smallest student loan balances tend to be the ones defaulting on their loans.Almost one-third of borrowers owing less than $5,000 defaulted, while 15% of borrowers owing over $35,000 defaulted.
Perhaps those with small loan balances didn't graduate – or if they did, their degrees didn't provide a job with high enough pay to make their loan repayments feasible. In turn, this could lead to taking on other forms of debt such as high-interest credit card debt, knocking student loans down the repayment priority list.
Are you heading toward the unfortunate 40%? Make sure that you fully understand all the repayment options that are available to you. Whether it's income-based repayment plans, loan consolidations, deferment/forbearance, or other forms of relief, there may be an option to make your payment schedule more manageable and keep you out of default. Find out quickly at what rate you can refinance your student loan.
If you are planning out your collegiate journey, keep this default rate in mind as you review your choices. What are the odds that your degree from your chosen university will land a job capable of paying off the student loan debt you'll accumulate?
Think of college in terms of lifelong value. You can have fun in college while still making fiscally responsible choices.
Defaulting on your student loan may hurt your credit score. You can check your credit score and read your credit report for free within minutes by joining MoneyTips and using our Credit Manager tool.