What are the biggest pitfalls to avoid with student loans?

Question

More often than not I read horror stories of people such as (I've Paid $18,000 To A $24,000 Student Loan, & I Still Owe $24,000) that acquire college debt, pay monthly for years, and end up owing the same or more than when they started.

What is the deal with these loans? How are they legal? What re-payment detail are people overlooking? How can someone get out of this vicious cycle?

For the record, I obtained a bachelor's degree, graduated with a sub $10,000 loan, and paid it off in about a year with no troubles.

Additionally, here is a related post on this site: $140,000 student debt. What are my options? Please help

I've been seeing a lot of comments surrounding the expensive U.S. educational system but I would just like to point out that the article's author studied in Paris and Dublin.

score 74 · Accepted Answer · edited Sep 24 '18 at 16:06

(This answer is based on the article you linked in the comment, but could probably apply in general as well)

What re-payment detail are people overlooking?

There are not many specifics in the article, but here are some possibilities:

Some interest had accrued while in school, so the amount owed after graduation was significantly more than the original "principal amount".
A payment was missed (indicated in the article), and the interest plus penalties was added to the balance owed.
She is on a deferment plan in which the monthly payment is less than the interest that is accruing. The payment amount in one image is $171 but she says the interest each month is $480.

How can someone get out of this vicious cycle?

Time and money. Work extra jobs, pay more than the minimum monthly amount (and don't ever miss a payment), reduce expenses to bare minimums, and keep working until they're gone. There's no magic sauce (even bankruptcy) for student loans.

On a side note, I wish the article had more of a "don't make the same mistake I made" tone, but it reads more like a sob story trying to get support for student debt forgiveness (obviously at the expense of those that aren't paying for student loans). Instead of taking responsibility for bad decisions (signing up for a loan without reading the "multi-page contract", going to private school with no way to pay for it other than borrowing, tacking on another 24K because heaven forbid she give up the "relationships I had cultivated with students and professors"), the whole article feels like another "No one can succeed except the rich" rant.

score 40 · Answer 2 · edited Sep 25 '18 at 12:09

Attend a less expensive school

The biggest pitfall to avoid is attending a school at you cannot afford. If you can get a need-based scholarship to Harvard, by all means attend an expensive university, but don't go to a school that costs $30K/year if you have to go into debt for it. There are plenty of cheaper alternatives like attending a community college until your general education credits are complete (or you have an associates degree to transfer with). Go to an in-state school to take advantage of resident tuition rates instead of non-resident rates.

Prefer government subsidized loans to private loans

After you have avoided as much as you can in tuition costs, try to live within what is available in government subsidized loans. Stafford subsidized loans have a subsidized rate, and no interest accumulated while attending school. Stafford unsubsidized loans accumulate interest immediately, but the rate is still subsidized. Private loans often have the higher variable rates on the loans because they aren't government subsidized; they are generally only offered after the lower-cost loan options are no longer available, perhaps in cases where someone took too long to graduate or because they need more money than is deemed necessary by the financial aid formula.

Pay down the loans with the highest interest rate first

The next biggest pitfall is not paying down the loans with the highest interest rates first. In the article you linked in your comments, I saw $2000 worth of payments going to 8 loans, but the extra $500 payment was paying down a loan with 6.5% interest. If the extra money all went to the 11% loan, that loan could be repaid in less than 2 years. (Without the extra payment it would still be retired in 3 years at the current repayment rate.)

Pay off any high interest loans before grad school

Other pitfalls are mentioned in other answers. The article you linked mentions that this individual attended grad school outside the US and allowed the loans to default, accumulating significant interest and fees before finally initiating repayment a few years later. Perhaps she should have considered paying down the private loans before attending grad school as that would have saved her many years of payments. In any case if you have loans that are accumulating interest, it's not a great idea to allow that interest to be accumulating while attending grad school, even if doing that will allow you to delay repayment.

score 19 · Answer 3 · answered Sep 24 '18 at 12:20

One pitfall that I have not seen mentioned, and that I unfortunately fell into myself, is
Using Student Loans To Pay For Your Lifestyle

When you are in school on student loans, you are poor. Live like it. Do not use student loan money to fund partying and a nicer lifestyle than you can afford.

HopelessN00b · Answer 4 · 2018-09-24T15:36:56.987

Paying more for a degree than it’s worth. (In addition to what other answers have said about not paying enough towards the principle, and going to expensive schools.)

One of the big pitfalls I’ve seen in these kinds of sob stories is people going to an expensive school for an economically worthless degree, and then being shocked that having six figures worth of debt with a degree in a dying industry with few jobs and horrible pay was not a recipe for success. (And I actually have a relative who did that - he got an undergrad about 10 years back in something to do with industrial printing... as in applying ink to paper, and was shocked to find no one’s hiring for that, and the pay is lousy.)

I’ve got nothing against those kinds of degrees, and in fact, one of my majors falls into that category, but not recognizing that upfront is a recipie for disaster. If you want to follow your passion and get an economically worthless degree, recognize that it’s a hobby or a luxury - an expense, rather than an investment. Which, incidentally is what I did - majored in history, because I enjoyed it, and got a business/technical degree as an investment in my future.

score 12 · Answer 5 · 2018-09-24T18:00:10.853

The thing that comes to my mind here is that they are only making the minimum monthly payment. Doing this with any type of loan, not just a student loan will prolong the process of getting rid of debt. If you want to become debt free you always have to make more than the minimum monthly.

Take a credit card for example say you owe $100 on that card at 18% monthly. The minimum monthly payment is something like $15. It would take you a long time to pay this off just sticking to the min monthly because interest has accrued on the loan.

If the first payment is $10. Next month you owe 90 before interest, with interest you owe an additional $16.2. Now you owe $106.2 (90+16.2). This is more than the original amount because they didn't make the minimum. If you miss a few payments, or make less than the minimum monthly, you will owe them more money. Even if you make the minimum exactly it still leads to a longer loan, the longer the loan occurs, the more interest is paid instead of principal on the original loan.

If instead you paid $50 it would take 3 months to pay off the loan, and you would pay less interest on it overall. The same thing happens with student loans, just at a lower interest rate, and with a different payment schedule. The reason you got out of debt fast was that you paid off more than your minimum monthly. That's why you didn't take so long to pay back the loan, and they did (they took out a loan they couldn't afford likely).

This is legal because they basically outline this in the contract you sign, or at least give you enough information to figure it out on your own. If you don't then the government sees it as your fault for being financially irresponsible not the lenders.

score 7 · Answer 6 · edited Sep 24 '18 at 23:32

Many people borrow more than they can repay, then take advantage of loan forgiveness on an income-based repayment plan. From what I've seen, this is the most common scenario by which people make so little progress on their student loan principal.

A federal student loan with a standard repayment plan will be paid back in 10-years barring any periods of forbearance/deferment; in those plans, you do see principal decrease each month.

When it comes to loans with higher or adjustable rates, people who borrow too much will quickly be unable to keep up with the standard repayment schedule and will have to get into an alternative arrangement that drags out repayment or periods of forbearance where interest accrues.

Regarding breaking the cycle, the worst part of that linked article is that they seem to have learned little: Each time they upgraded their living situation they dragged on repayment further. That much debt at those interest rates should be treated like an emergency; true bare-bones living is in order with that kind of debt load.

Warning others not to make the same mistakes would be nice too. Nothing will break the cycle faster than people refusing to play the game of going into massive debt for some college classes.

score 0 · Answer 7 · answered Sep 24 '18 at 23:07

My immediate response is "the biggest pitfall is having a student loan.". There are options for getting past secondary education without a student loan (even in the USA). Check out College of the Ozarks, for example

The second biggest pitfall is taking a loan with no guarantee of employment, or with a below par salary. For example, one should never take a student loan to get an education or theology degree, because the salaries won't allow you to both live and pay off the loan.

Konrad Höffner · Answer 8 · 2018-09-24T12:41:56.670

The biggest pitfall is to study in the United States where the costs are so high. You should move to a country with almost free tuition for the duration of your studies. For example, Germany has many universities with low tuition costs that provide a high quality education in places with a low cost of living.

Next, you want to cover as much as possible by working at the side and staying at a cheap place (e.g. a student residence) so you can take a smaller loan so you can pay it back faster.

Finally, I recommend to take a loan with a fixed and low interest rate from a reputable agency. For example, you should be able to get a loan with about 4% interest at the KfW.

As requested, here are the monthly living costs (source) for Leipzig, Germany, as an example for a German city:

Monthly living costs

You will need about 650 EUR a month for your living expenses in Leipzig. Of course, this figure is only an estimate and depends on how much you spend.

Please remember that you must provide proof of secured funding for your living expenses when you apply for a visa in your home country.

Here are some examples of monthly expenses in Leipzig:
Rent for apartment/room: around 150.00 EUR - 250.00 EUR
Health insurance: around 80.00 EUR
Study materials: around 50.00 EUR
Food, clothing, miscellaneous requirements: around 250.00 EUR
In addition to monthly costs, you will have to pay deposits for your accommodation, UniCard etc. at the beginning of your stay. So plan on about 600 EUR to start you off in Leipzig. Please also note that you will have to pay the semester fee and, if applicable, the semester ticket at the beginning of each semester. Tuition fees

At the moment no tuition fees are charged for a first degree course at Leipzig University. Every semester you have to pay a student fee for the Studentenwerk Leipzig (Leipzig Student Services), the student body and the semester ticket.

The semester (half year) fee is 220 € per, which includes public transportation with tram, bus and train in or near the city.

In most subjects, like the natural sciences, you get a Bachelor and Master, which is internationally valid. German diplomas have a good reputation world wide as well. Exceptions are subjects like law or medicine.

Harper - Reinstate Monica · Answer 9 · 2018-09-25T03:47:36.213

First, don't use private student loans.

Private student loans are vile. They have all the bad characteristics of most private loans -- but they also have special status that they cannot be discharged in bankruptcy. The high interest rates is what made that debt unmanageable, and the responsible thing to do in that situation is discharge it in bankruptcy. However between sticking her head in a noose by taking them in the first place, and sticking her parents' necks in the noose with her, she became the author of her financial ruin. Which she will overcome, she just won't enjoy it none too much, which she should not.

The parents, by cosigning, also deserve some of the pain and should be helping her pay the notes down.

She should also be paying the highest interest loans first, but I'm sure the lender has rigged it to make that impossible.

Pay interest and principal on separate cheques

The other thing she definitely should do, is write two separate checks for interest and principal. That will require doing the math to figure out how mhch interest she is accruing each month, and based on the variable rate it may require a monthly phone call to the lender. Alternately, she can make the interest payment definitely large enough to cover the interest.

Computing and paying the interest separately assures you are paying 100% of the interest every month. Which is a really big problem she has been having. The design of those loans allows them to go into neg-am, i.e. The lender will accept a minimum payment less than the interest charged. She must make sure to pay 100% of the interest every month, because they won't.

The second check, for the principal, is designed to make the paydown real. It educates her that it is this payment, not the other, which is reducing her debt - and only this payment has that effect.

In fact, that is correct accounting practice - in GAAP, every loan payment must be fractioned into interest and principal, with each one treated quite differently.