The problem with student loans...

I was working remotely earlier this week (shout out to the team at Rustbelt Coffee), when I was waved over to the corner to join a conversation with two leaders in the area of education. The conversation covered a variety of topics - some of which I hope to write about in the coming months, but we also touched on some of the hypocrisy around student loans.

Turn on the news and you will see comparisons to the housing crisis and the student debt "bubble" that many fear is about to pop, and it will undoubtedly be a major topic of discussion throughout the 2020 Presidential race.

While I can't say I disagree with the comparison, I think we are missing that there are some GLARING differences between how we create/award student loan debt and how we create/award credit card and mortgage debt.

Let's start with mortgage debt first.

My wife and I are in the process of buying a new home, and it has been a fascinating process - we bought our current home in 2008, so understandably a lot has (and should have) changed. To qualify for a home loan, we have to pass a credit check, have substantial evidence that we can afford the home and the home has to be appraised at or above the value that we are planning to pay.

This process makes sense. What is the likelihood that we can and do repay the loan? Is the home worth what they are offering to pay? Mortgage debt is a long-term commitment, so banks (and buyers) need to be very cautious about how they answer both of these questions. It was largely ignoring the importance of these two basic questions that led to the mortgage crisis in 2009.

Let's talk credit cards.

That same year, Congress passed the Credit Card Accountability Responsibility and Disclosure Act of 2009 to "amend the Truth in Lending Act to establish fair and transparent practices related to the extension of credit under an open end consumer credit plan, and for other purposes." CardRatings.com provides a pretty simple explanation of the act. Click below if you want to read the whole thing.

The Credit Card Act of 2009 consists of five titles:

1. Title I: Consumer Protection - offers protection for credit cardholders against increases in fees and interest rates, as well as unclear and unduly short notifications about changes. Credit card companies are now required to take into consideration new applicants' "ability to pay" before approving that applicant for new cards.
2. Title II : Enhanced Consumer Disclosures - revises and expands requirements for mandatory minimum payment disclosures a creditor must provide, such as payoff timing, penalties and renewals, as well as prevention of deceptive marketing of credit reports.
3. Title III: Protection of Young Consumers - prohibits extensions of credit to consumers under the age of 21 unless the consumer has submitted a written application that meets specified requirements. Requires underage applicants to have a cosigner, such as a parent, legal guardian, spouse, or any other individual over the age of 21 who has the means to repay debts incurred by the consumer in connection to the account. 
4. Title IV: Gift Cards - amends the Electronic Fun Transfer Act to declare unlawful legislation governing prepaid and gift cards, as well as gift certificates.
5. Title V: Miscellaneous Provisions - instructs the Comptroller General to conduct a study on the use of credit by consumers, interchange fees, and their effects on consumers and merchants. 

So now let's talk about student debt.

There are federal and private student loans, but as of 2019 44.5 million student loan borrowers owe $1.5 trillion. Roughly $1.4 trillion is owed to the US Government. (I'll avoid waxing poetic on why the Federal Government has passed sweeping regulations on the industries that they dot profit from, but have avoided the same regulations on the areas they stand to profit...)

To get a loan for a house (or car, or anything) you have to prove that the item is priced at, below (or sometimes reasonably close to) it's current market value. Then, once you get the loan, the creditor must follow a strict set of guidelines that ensure the borrower isn't taken advantage of, or deceived. If we didn't rely on appraisals, and banks were willing to award loans for any amount the consumer asked for, I shutter to think what would happen to housing prices in our area, and subsequently our economy when that inevitably corrects itself. (We were upside down on our house from 2009 until just within the last few years.) I can't help but think that this is a leading cause to higher education outpacing general inflation over the last 20 years.

If you look at the monthly student loan statements that come to our house, you won't see any of the consumer protections that were outlined in the Credit Card Act of 2009 either. If it's good for the goose...

I know this isn't a perfect plan and I'm half writing this post to spark some debate/discussion, but here's my initial thoughts:

1) Before a loan is granted, there needs to be an appraisal done on the university (think neighborhood comps) and degree (the house you want to buy) that a student wants to receive. I'm not saying that students shouldn't be able to study whatever they want, but it would be irresponsible for a lender to award a $200k loan for a degree that has an average annual salary of $40k per year.

• Consumer Finance Protection Bureau recommends no more than 43% debt to income. That means a person making $40,000 per year shouldn't have loan payments exceeding about $1,400 per month. (The monthly payment on that $200,000 student loan at 4.5% interest over 30 years is more than $1,000 per month itself.)

2) ALL debt statements should include a table like the one below, regardless of if it's federal or private, or for credit card debt, hospital, automobile, mortgage or student loans.

I'm not convinced of the long-term value of free college tuition for all or even the forgiveness of current student loan debt (those debates will long play out during the election cycle), but I am 100% certain that we need to be smarter about how and when we, and those we care about, take on student loan debt.