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Student loan debt undermines mortgage lending

The rising amount of student loan debt is a startling figure. But probably more startling is the effect it could have on the overall economy. Should we call it the “student debt bubble”?

“We should all be concerned about young Americans burdened by excessive student loan debt,” said Rohit Chopra, the student loan ombudsman, at the Consumer Financial Protection Bureau. “Every dollar of interest and fees is one less dollar to save up for milestones that aren’t just important to us as individuals, but for the entire economy.  If the current trends persist, we’ll see few people able to reach their dream of buying a home, starting a family, and living a comfortable retirement.”

What are these “milestones”? An article out Friday from AOL’s Daily Finance describes the plight of overly indebted recent grads that are unable to qualify for mortgages. Even if the student lands a job that pays well, banks are still wary of giving mortgages to young people in a lot of debt and little work history.

This creates a toxic situation in a world where the average student graduates college with more than $25,000 in student loans and probably don’t have a job that pays well, given that unemployment for those aged 20-24 is double the national average, and 30% of those that are employed are working in a job that doesn’t even require a degree.

There are many reasons for banks to take a chance on these young professionals. Giving them a mortgage to buy a starter home allows those who have outgrown their homes to move out and buy a new one, and having lots of new buyers on the market would certainly go a long way in clearing up the empty properties that have accumulated on the market.

But, the bitter taste left by the thousands of people that defaulted on their mortgages and the $25 billion settlement that followed the crisis has made taking the risk pretty unappealing.

For now, it seems like those grads with big educations and equally big loan balances will have to stay in their rentals. The sad fact is, many grads won’t be very successful paying off those loans.

Figures from the U.S. Department of Education show that nearly 14% of student borrowers default within three years of making their first payment – an average that is skewed by the stunning 25% default rate of those that attended for-profit colleges. The rate 10.8% for those that attended public schools, and a lower 7.6% for those that attended private nonprofit schools.

Given those figures, it may not be surprising that banks aren’t willing to give mortgages to recent graduates. And tips like saving for a down payment and “doing what you can” to establish good credit are useful, they don’t address the needs of the 14% of borrowers who are having trouble just making payments on their student loans. 

So, students also need to focus on the options available to them for managing their debt. A 2007 federal law lowers payments for federal student loan borrowers based on income and their amount of debt, and the Consumer Financial Protection Bureau (CFPB) just opened their Student Loan Complaint System, which gives students a single resource for making complaints about private student loans – which typically don’t carry the same amount of protections as federal ones – instead of trying to plead their case to a splattering of government organizations.

The CFPB has also launched several online tools for those having trouble figuring out how to pay back their student loans, including a repayment assistant that can help “point students in the right direction.”

Lastly, schools need to do a better job informing students of the loans they are taking out. Financial aid offices often brush over educating students about their loan options and their implications, instead focusing only on grants, school funded financial aid and scholarships. But none of those are as complicated or as potentially harmful. 

In the new landscape of ever more expensive college educations, its imperative that students not only understand how important their schooling is, but also what they are getting themselves into if they choose to pay for it with loans. Otherwise, we could be headed into the student debt bubble faster than we think.

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