Student Loans Won’t Kill Housing Recovery

Student Loans Won’t Kill Housing Recovery
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I’ve heard so much about “students drowning in debt” and that it would kill any housing rebound we would see that I was obliged to look into it.

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Student Loans Won't Kill Housing Recovery

Before we get started I need to set some parameters because conversations like this always get into “who’s side you are on” and the message you try to deliver gets shouted over. So….

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1- I think college costs are abhorrent
2- I think Ivy League schools having 20B endowments and charging 45K/yr for education is loan shark slimy
3- I think is Obama had any balls he would attack this like he attacks the banks/investors/anyone else with money with his “shared sacrifice” drivel
4- I think the explosion in “Financial aid” to schools (that is who gets the money,the student is just simply a transfer mechanism) without caps on tuition increases is 100% directly  responsible for out of control tuition inflation.
5- I agree the program is a mess

Now we know where I am starting this little adventure from.

But the question we are asking here is whether or not student loan debt is going to kill the housing rebound.

Here are the current numbers from the Fed. I ignore the “total student debt outstanding” as there will always be more as more people go to colleges each year is greater than the # of payoffs.

Let’s look at the average student loan debt  per borrower:

Capture4108 450x420 Student Loans and Housing

$24K. But that really does not mean anything unless we put that in context as to what it costs the student each month. This site says the average debt is $26K so I’ll split the difference and go with $25K. The typical term is 10yr at ~6.8%. That means a student with $25k in debt pays ~$287/month for ten years.

Capture750 622x420 Student Loans and Housing

Now, we should note that there are plenty of options for the student to reduce that payment by as much as 50% per month should they want to:

Types of Repayment Plans

The repayment plans are as follows:

Standard Repayment. Under this plan you will pay a fixed monthly amount for a loan term of up to 10 years. Depending on the amount of the loan, the loan term may be shorter than 10 years. There is a $50 minimum monthly payment.

Extended Repayment. This plan is like standard repayment, but allows a loan term of 12 to 30 years, depending on the total amount borrowed. Stretching out the payments over a longer term reduces the size of each payment, but increases the total amount repaid over the lifetime of the loan.

Graduated Repayment. Unlike the standard and extended repayment plans, this plan starts off with lower payments, which gradually increase every two years. The loan term is 12 to 30 years, depending on the total amount borrowed. The monthly payment can be no less than 50% and no more than 150% of the monthly payment under the standard repayment plan. The monthly payment must be at least the interest that accrues, and must also be at least $25.

Income-Contingent Repayment. Payments under the income contingent repayment plan are based on the borrower’s income and the total amount of debt. Monthly payments are adjusted each year as the borrower’s income changes. The loan term is up to 25 years. At the end of 25 years, any remaining balance on the loan will be discharged. The write-off of the remaining balance at the end of 25 years is taxable under current law. There is a $5 minimum monthly payment. Income Contingent Repayment is available only for Direct Loan borrowers.

Income-Sensitive Repayment. As an alternative to income contingent repayment, FFELP lenders offer borrowers income-sensitive repayment, which pegs the monthly payments to a percentage of gross monthly income. The loan term is 10 years.

Income-Based Repayment. The College Cost Reduction and Access Act of 2007 introduced income-based repayment as a more generous alternative to income-sensitive and income-contingent repayment, starting on July 1, 2009. Unlike income-contingent repayment and income-sensitive repayment, it is available in both the Direct Loan and FFEL programs. Income-based repayment is like income contingent repayment, but caps the monthly payments at a lower percentage of a narrower definition of discretionary income.

All six plans are available for student loans, but only the first three plans are available for parent loans.

Loan Term for Extended/Graduated Repayment

For extended and graduated repayment, the following chart shows how the maximum loan term depends on the amount borrowed.

Loan Balance Maximum Loan Term
Less than $7,500         10 years
$7,500 to $9,999        12 years
$10,000 to $19,999   15 years
$20,000 to $39,999  20 years
$40,000 to $59,999  25 years
$60,000 or more        30 years


Further depending on where you go to school, your debt load varies tremendously:

•Among all bachelor’s degree recipients, median debt was about $7,960 at public four-year institutions, $17,040 at private not-for-profit four-year institutions, and $31,190 at for-profit institutions. (Source: College Board)

Now, I’m not sure where you live but cutting that $287 in half the $145/month is not going to affect my ability to buy a house. That comes to far less than two nice dinners out a month for the wife and myself. If I wanted the house bad enough, I could easily skip them or go w/cheaper alternatives.

Now, we all see the news stories of the Art History/Sociology/Ancient Religions major who racked up 60k in student loans while in school and now is having trouble paying them back. I would chalk that up to the stupidity of the student and not project that outcome to all college students. If you are getting a Sociology degree you may want to explore the State University path rather than a Private University at 2x-3x the cost. Common sense has to prevail at some point. Mon and Dad, just because Junior loves the school isn’t a reason to saddle them with huge debt for a low paying career. Wake up.

Folks will point to the delinquency rate as a reason for concern. Now, I hope it comes at no surprise that for-profit institutions have the highest average 3yr default rates at 22.7%, public institutions follow at 11% and private non-profit institutions at 7.5% for the ’09-’12 years. We should also note the 3yr default rates ’09-’12 are down from the ’08-’11 data set. We need a little history here when it comes to defaults. here is the data:


We are nowhere extreme levels and in fact we are still below the last decent recession we had on ’90-’91 and we’ll just ignore the near 20% default rates of the 80?s (charge off rules changed).  Here is an interesting observation. Defaults spike to over 20% during the last recession ’90-91 and rose slightly during the .com bust in 2000. That has to beg the question. Do recessions and its effect on housing lead defaults? If it does that we have to discount to dire effects people are predicting for housing now due to defaults.  In fact, now that housing is coming back, we should expect to see default rates falling which, for the three years series (above) we are. Now it is too early to get hard data for 2012, when housing actually started to rebound but I would bet that we saw an evening of defaults for 2012 (if not a decline) and we will see further improvement in 2013.  The point here is people may be think the tail is wagging the dog.

We’ve also see  countless stories of people with 65K in student loans as if this is the norm but the reality is that only about 10% carry balances of over 40K and only .5% go over 100K. Fortunately for them most of them are call Dr. and Atty so they tend to have income streams to cover it.  I’ll even take it a step further. If Joe Smo has a car payment, credit cards, a mortgage and student loans, if he is short in a given month, what payment gets missed? The one that has no effect on his daily life, the student loan.   That does not mean it will go into default. In fact, lets look at Sallie Mae from Q1 2013:

First-quarter 2013 private education loan portfolio results vs. first-quarter 2012 included:

  • Loan originations of $1.4 billion, up 22 percent.
  • Delinquencies of 90 days or more of 3.9 percent of loans in repayment, down from 4.4 percent.
  • Loans in forbearance of 3.4 percent of loans in repayment and forbearance, down from 4.3 percent.
  • Annualized charge-off rate of 3.0 percent of average loans in repayment for both the current and year-ago quarters.
  • Provision for private education loan losses of $225 million, down from $235 million.

3% charge offs. For those wondering that is consistent with 2012 results which were the lowest levels since 2008 (pre-crisis). So, yes, it appears that borrowers make the economically rational decision to skip a student loan payment when things are tight but there is no evidence that the loan is eventually charged off meaning borrowers eventually resume making payments.

Are college costs too high? YES. Do too many kids have debt they should not have because of it? YES.

But be careful, I think people are projecting the last few years out infinitely and assuming trends we have seen in this area continue to accelerate in a negative way.  They did it when they assumed banks would never heal. They did it when they assumed housing would not rebound for another 2-3 years (MOST people felt this way) .

Before people get all up in arms, yes, this is something we need to be concerned about and like most gov’t programs (social security, medicaid etc) if left unchecked it WILL become a huge problem.  But, the more I dig the more I am becoming convinced it is nowhere near the  looming disaster it is being made out to be.  Let’s wait a couple years. If housing continues its rebound and defaults keep rising and charge off start to rise, then we have an issue. The data at this point as I see it just does not back that thesis though.

The cost on a monthly basis for the average student does not prohibit buying a home and is more than compensated for by the excess income/job prospects they will enjoy.

Now, since I pointed to the problem, what are the solutions?:

1- Index tuition to area of study. Everything else we buy is based that way (homes,cars,vacations are not all one price), why is education? Why do engineers and social workers pay the same for something they will surely have different economic outcomes with?

2- Institutions that exceed the CPI in tuition increases see a freeze in aid for incoming students…this way current students are not affected

Simple, do that and the problem is a long way towards being healed. Now, some will yell, “you can’t fix prices”. Well, you can set terms you want your institution financed with gov’t money. If they do not want to be held to these rules, simply do not offer/accept Federal dollars. If you want to accept Fed $$ for a sociology major, you can’t charge them the same tuition as a computer programmer who will likely make 3X the annual income.

Of course, sadly there is NO WILL to do something like this in DC now….

By: valueplays

Updated on

Todd Sullivan is a Massachusetts-based value investor and a General Partner in Rand Strategic Partners. He looks for investments he believes are selling for a discount to their intrinsic value given their current situation and future prospects. He holds them until that value is realized or the fundamentals change in a way that no longer support his thesis. His blog features his various ideas and commentary and he updates readers on their progress in a timely fashion. His commentary has been seen in the online versions of the Wall St. Journal, New York Times, CNN Money, Business Week, Crain’s NY, Kiplingers and other publications. He has also appeared on Fox Business News & Fox News and is a contributor. His commentary on Starbucks during 2008 was recently quoted by its Founder Howard Schultz in his recent book “Onward”. In 2011 he was asked to present an investment idea at Bill Ackman’s “Harbor Investment Conference”.
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