The Student Loan Situation

As the amount of student loan debt continues to balloon, there is growing national attention on this subject, with attempts to better educate potential borrowers. However, there is clearly a need to further improve and assist prospective college students and their families to make informed financial decisions about the true cost of higher education.  With student loan repayment terms extending up to 25 years (and 30 years for consolidated loans), the long-term effect of this debt on students and the future of our nation is concerning.


RiskSpan’s Data and Analytics team has developed an analytical tool that allows users to compare the debt load from an undergraduate education to the future incomes of a particular school and major’s typical graduates. RiskSpan’s view of student debt is purely financial. The tool projects income based on statistics about the specific college or university and degree (major) to be obtained, and projects debt based on the amount to be borrowed and interest rates. The output is the Student Loan Debt Payment Due-to-Income (DTI) ratio upon graduation. It is imperative that students and parents understand these metrics to make an informed decision when selecting a school and major.

Student loan debt outstanding (federal and private) is about $1.3 trillion.  Federal student loan early default rates appear to have been fairly steady over the last three years, in the 11% range.  In 1989-1990, the federal student loan two-year national cohort default rates were in the 20% range, so a three-year cohort default rate of 11.3% just reported by the U.S. Department of Education in September 2016 looks good. 

However, this single cohort rate does not tell the whole story.  The three-year national cohort default rate is for a particular group of students who enter repayment in a given year.  It does not reflect the total number of borrowers in default across all cohorts.  The total number of federal student loan borrowers in default is at a historical high.  

Additionally, recent studies by the GAO and the Federal Reserve show that outstanding student loan debt among lower income and older students has grown in recent years. RiskSpan finds this concerning. Lower income borrowers will struggle to pay back loans.  Older borrowers may not have the career opportunities or longevity to pay back all they owe and may be helping fund their own children’s education.  The U.S. Department of Education reports lifetime default data that show student loan default rates are significantly greater than the three-year national cohort default rates (in the high teens range).

The picture is worse for “for-profit” private higher education institutions. For-profit higher education institutions three-year cohort default rates are in the low 20% range.1 For-profit schools see two to three times the default rates of public and private institutions. In September 2016, the ITT Technical Institute – a for-profit institution – closed, after restrictive actions by the U.S. Department of Education. While the Consumer Finance Protection Bureau and the U.S. Department of Education are working hard to reign in the previously free-flowing federal student loans to for-profit schools, the defaults to date will flow through the federal student aid system, ultimately costing the U.S. Taxpayer.

Student Loan Payment-to-Income Ratio

The graph to the right shows the growth rates of student loan debt outstanding (principal plus accrued interest) and median income of workers 25 years and older with a degree from undergraduate up to doctorate. From a base year of 2006 and a starting point of 1%, we calculate the cumulative percentage growth rate in all outstanding mean and median federal student loan debt per student (as the growth in the mean represented by the orange line) at 53% or nearly 7% compounded annual growth rate per year. This growth appears to be driven in part by a 48% increase in tuition & board costs at higher education institutions from 2006-2015.2

In contrast, the growth in median income (blue line) was calculated to be a cumulative 15% or 3% compound annual growth rate per year (with 2009 Income growth being negative). Cumulative growth in student loan debt, whether we use median or mean debt, exceeds cumulative growth in median income.3

Higher Education Bubble

The Wall Street Journal recently reported that student loan payments have been in the range of 3-4% of income for the past two decades (referring to research by the Urban Institute and Brookings Institution).4,5 Some economists say the crisis is not as bad as portrayed because income growth has been sufficient to pay more typical amounts (median amounts) of student loans and that a few outliers (very high debts) negatively skew the average results. While these are valid points, these conclusions are based on past performance and as we now know from the mortgage crisis, analysis of past performance and ignoring tail risk does not necessarily predict future results.

Current conditions are weak.  Around 40% of student loan outstanding debt is currently in default, delinquency, or in a permitted non-payment status. Furthermore, more and more students are pursuing education beyond undergraduate degrees, obtaining more student loan debt.  Are these students seeking higher degrees because undergraduate degrees are losing value?  Will graduate degree and professional/doctorate degree holders earn sufficient income to keep payments at 3-4% of income?   While recent student loan default rates have been flat to down, these lower default rates may be due, in part, to the increasing use of income-based repayment plans, term extensions, payment caps, and ultimate loan balance forgiveness, which could serve to defer defaults and losses to a future period.  Only time will tell if these initiatives actually help improve defaults and losses or not.   This ballooning debt will have to be paid or the losses covered!  The question is: By whom and when?   

RiskSpan is committed to continuing to utilize data to bring attention to those indicators that are most important, and to be a part of the national conversation about student aid through our clients and industry affiliations. RiskSpan will continue to explore student loan issues and trends in our blog series.  We welcome your comments and ideas for further study and discussion.  Our next blog will explore the similarities between the mortgage bubble and student loan bubble.

[1] The most recent U.S. Department of Education three-year National Cohort Default Rates are for the federal fiscal year-end 2013.  The Department started reporting the three-year cohort default rate in 2012 to replace the previous two year cohort default rate.  Congress mandated the switch from two-year to three-year default rates because the three-year rates are thought to be more indicative of true default rates. The Department defines cohort default rates as “the percentage of a school’s federal student loan borrowers who enter repayment within the cohort’s fiscal year (denominator) and default (or met some other specified condition) (numerator) within the cohort default period”, which is the federal fiscal year begins Oct 1 and ends on Sept 30th of the following year. (U.S. Department of Education, Federal Student Aid, Cohort Default Rate Guide).

[2] Table 330.10, Average Undergraduate Tuitions, Fees and Room and Board….”, U.S. Department of Education, National Center for Education Statistics.  (Table prepared in December 2015).

[3] Some may argue that comparing median income to average debt overstates the difference between income and debt, and that growth rates for median debt outstanding would be lower. This is a valid argument.  We used average debt outstanding because we found that averages were more consistently reported than median debt.  However, if we assume median debt is half the average, the growth in debt is the same.  We could have eliminated tail risk as represented by the small percentage of high dollar loans which would have brought the growth rates in debt down, but we chose not to because those loans still factor into total debt outstanding which will ultimately have to be repaid.  

[4] Brown Center on Education Policy at Brookings, “Is a Student Loan Crisis on the Horizon” June 2014

[5] Wessel, David, “Student Loans Don’t Call it a Crisis”, The Wall Street Journal, October 12, 2016, refers to research by Chignos, Matthew of the Urban Institute and Akers, Beth of the Brookings Institution.