Category: Debt

The Cost of College

Brad

“You’re going to college”. These are the words that many young people have drilled into their heads by their parents at an early age.

It’s an admirable goal. The attainment of a degree has historically opened up opportunities for millions that would have otherwise been out of reach. However, the story has become more complicated in recent years. With mounting debt, the financial burden is growing.

Breaking Down the Numbers

According to Forbes, there are 45 million borrowers who owe a combined total of 1.5 trillion dollars in student loan debt. That total exceeds all other debt categories except mortgages. The cost of attendance at in-state public institutions has increased at a rate of 221% over the last 20 years, outpacing both inflation and wage growth. The average borrower for a 4-year program from the Class of 2018 left school with $29,800 in debt. For those choosing a professional degree in a field like law or medicine to supplement their bachelors, they are likely to incur total balances in the six figures.

Now, when you are a 17- or 18-year old kid, you don’t yet possess a firm comprehension of what it means to borrow a large sum of money. Sure, you may understand that it is generally bad to borrow excessively and that it should be done for select purposes, but that is the extent of it.

Let’s break down an example to offer context.

Sharon’s Student Loans

Sharon is a recent graduate who owes the $29,800 that a typical undergraduate borrower owes, with a fixed interest rate of 4.53% (federal subsidized loan).

On a 10-year repayment schedule, Sharon will be paying $309.27 per month, assuming she does not make any additional payments.

With the monthly payment now calculated, Sharon has a number she can use. She can now compare how much it will cost to service her student loan per month, relative to how much money she will be making.

Now, hold on…Sharon has decided to attend law school.

For 3 years of law school at the best public school in her state, her total out-of-pocket expense will surpass $100,000. To simplify the math, we will use $110,000 as her total loan balance including principal and capitalized interest (graduate loans are unsubsidized, and you owe the interest for the entire time that you are still in school). Her interest rate is 6.08%.

On a 10-year repayment schedule, Sharon will be paying $1,225.65 per month, assuming again that she makes no additional payments.

Now, don’t forget, she still needs to pay off the balance she borrowed for her bachelor’s degree.

Total Monthly Payment

$309.27 (bachelor’s) + $1,225.65 (law degree) = $1,534.92/month

Ideally, Sharon landed a well-paying legal job in a major city where a $1,535 payment is no problem. Or, perhaps she didn’t.

Sharon could certainly consolidate her loans and refinance them at a better rate and repayment term, but she will pay more in interest over the life of the loan.

The message here is that the cost of borrowing money for an education is entirely notional until you break down the numbers.

Factors to Consider

When deciding on whether to attend college, where you will attend, or what you will study, there are many factors to consider. Here are six.

  • Private or Public? Many private schools charge a much higher rate of tuition than their public counterparts, especially if a student is staying in their home state. The top schools in the United States are private (think Ivy League), however, there are many phenomenal state schools…which will likely leave you with a far smaller financial burden.
  • Scholarship/Need-Based Aid Availability? Are there programs in your home-state that reward you for reaching certain benchmarks on standardized tests and/or achieving a certain Grade Point Average (‘GPA’)? Did one school offer you money to attend, while another did not? Do you qualify for need-based aid, like Pell Grants?
  • Major of Study? Evaluate your skills, strengths and interests to help decide what your ‘Major’ or focus of study will be. In so doing, pay attention to likely career outcomes to know what the starting and mid-career earnings are for that Major.
  • Graduate School? Will graduate school allow you to earn additional income over the course of your lifetime in your respective field? Is the degree required for your desired profession? Is it simply a non-financial personal goal of yours? How much will it cost to attend, and how long will it take you to pay it off?
  • Alternative Career/Job Options? If you decide not to attend college, do you have viable alternatives for work? What do they pay, and what is the long-term viability of each of those options for you?
  • How will you pay for School? What are your options for paying for tuition, books, fees, housing, food etc.? If you are not receiving assistance from family, or the assistance does not cover the entire cost, will you be able to work to cover the remaining costs? How much debt will you leave school with and what will the monthly payments be?

It is often pointed out that college or graduate school will be an investment in yourself, and that it is therefore worth the cost. Yes, education is an investment in yourself and in the vast majority of cases it will be worth the cost. Evaluate your choices and options based on key factors like your career aspirations and personal goals.

Above all else, know the numbers.

Are You Afraid to Check Your Financial Scale?

Brad

Have you ever been on a long vacation where you ate, drank and barely moved, and toward the end you start to think to yourself…man, I really don’t want to check that scale when I get home?

Me too.

Despite this, you know that you should, and when you finally do check the scale, you allow yourself to come to terms with the damage done so that you can reenter your routine of cleaner eating and regular exercise.

Assume for a moment that, instead of checking the scale, and instead of reentering that healthy routine, you have a series of business trips where the problem gets worse. You continue to eat fast food and neglect the gym at your hotel. What happens then?

You are likely to gain weight by allowing your health to slowly suffer.

The same is true of your financial fitness.

Let’s look at Drew’s.

Checking Your Financial “Scale”

Drew is an IT contractor with an irregular and unsteady stream of business. Sometimes business is booming…other times it is slow.

He works hard to support his wife (Michelle) and kids (Lyla and Leo), and he recently had a string of costly and unforeseen expenses.

It began when his mother-in-law passed away and he and Michelle had to cover the funeral costs (there was no estate). Cost= $7,000.

That same month, the A/C unit for their Florida home went out. New unit + installation= $4500.

Typically, their savings would withstand the $11,500 in costs, if not for the fact that Lyla just started college, and a semester’s worth of her New York dormitory was due upfront.

With little savings and no emergency fund, Drew (understandably) placed the funeral and A/C unit on credit. With this being one of his “slow months” for business, there was already little wiggle room.

Yet, the unfortunateness of those two events is not what ultimately compromised him financially. When business picked back up, he only paid the minimum on his credit cards instead of aggressively paying them down. Months went by and before he knew it, he was $20,000 in the hole. Instead of staying current and reviewing the status of his outstanding credit balances, he didn’t want to look because he knew how quickly the debt was piling up.

Check the scale…regain your health.

Avoid Doing the Minimum

Brad

Have you ever heard one of your sports coaches at a practice or game tell you that the expectation was to simply show up and put forth the least amount of effort possible?

Neither have I.

So why would the expectation you have for yourself and for your finances be any different?

Minimum Payments

When you log in to you credit card account each month and you see those two alluring words staring back at you, resist the temptation. Making minimum payments on your credit card each month is putting yourself at a disadvantage financially as interest continues to work against you.

Is it natural that, at some point in time you were only able to make a minimum payment on something because you didn’t have the funds to cover it in full at the time? Sure. The essence of purchasing something on credit is that you can’t cover the cost right then and you need to make payments over time. While not ideal, it does happen, and sometimes the minimum is the best you can do (ohh college…).

The key is not to get in the habit of doing it, and when taking out credit, context is important.

If you find that you are consistently making minimum payments, you may want to spend some time assessing your financial position.

How long have you been making minimum payments for? How many credit cards are you making minimum payments on, and what are their total balances? Are you carrying other forms of debt…perhaps a personal or home equity loan? A student loan or car loan?

If you find that you are making minimum payments on several lines of credit, and on high balances relative to your income each month, you are likely overextended.

Example

Luis has a pre-tax monthly income of $3700.

His total debt payments each month are as follows:

Mortgage – $1200

Car Loan – $450

Student Loan – $300

Personal Loan – $250

Luis also carries credit card balances totaling $10,000. The card issuer’s monthly minimum payment is 1% of the balance, bringing the payment to $100/month.

Credit Cards – $100

Total Monthly Debt Payments = $2,300

To get a feel for where Luis’s debt payments stand in relation to his income, he calculates his debt-to-income ratio by dividing the total debt payments each month, by his pre-tax monthly income. The ratio is then expressed as a percentage.

$2,300 (Debt)/ $3,700 (Income) = .62 or 62%

With his ratio sitting at 62%, it isn’t difficult to see why Luis can only make minimum payments on his credit cards. Over half of his income is already earmarked for debt payments.

Also consider how deceptive each monthly minimum payment is when you look at them individually. $100 each month in credit card bills doesn’t seem like a significant sum, until you consider that the $10,000 in total credit card debt alone that he carries is nearly a quarter of his $44,400 annual salary! This is of course before he pays his mortgage, car loan, student loan, personal loan, food, gas, and insurance…

Be Your Own Coach

Credit should be used responsibly and sparingly.

Doing the minimum is not the expectation. It’s not your expectation.

If you find that you are paying the minimum each month on a large amount of debt, consider ways to downsize your lifestyle.

In the end, be your own coach. Your finances depend on it.