The student loan crisis is a hot topic of conversation in Washington because many of us, 45 million of us to be exact, are hitting the road with student debt totaling $1.6 trillion. We often break out our pink piggy bank that says Student Loans to pay off our debts. But sometimes we fail and they follow us everywhere.

So how did we get here?

The History of Student Loans

To fully understand student loans, we need to go back and find out where they came from. So I interviewed Melanie Lockert. Lockert is an award-winning author who fought her way out of $81,000 in student debt.

locker: “Even though student loans were originally created as part of the National Defense Act, there was this idea that we need to become an educated society and we can create student loans as part of that. Lyndon B. Johnson later created the Higher Education Student Loan Act in 1965 to make it more accessible to all. Since then there have been many different changes in the student loan landscape.”

Privatized Student Loans

It sure did. Richard Nixon founded Sallie Mae in the 1970s in response to the high demand for higher education. The program used US Treasury Department funds to buy government-backed student loans from banks so they could lend more. But in 2004, Sallie Mae was privatized, meaning it can now make student loans that aren’t guaranteed by the federal government and carry much higher interest rates. A number of other private lending companies soon followed, bringing us to where we are today.

Borrowers have two loans to choose from. Federal loans, which are government-backed loans with lower interest rates. And there are private loans that are not guaranteed by the government, with much higher interest rates.

locker: “You know, there’s always a recommendation that you should take out federal student loans first because they offer solid and bountiful benefits to borrowers. They have fixed interest rates, they have income-based repayment.”

However, federal loans have lower limits than private loans. Students can only borrow up to $12,500 annually for a total of $57,500. However, the average tuition is $35,720 per year. Getting federal loans can be like getting a $25 gift certificate to Prada, so you need another gift certificate.

Why private student loans are bad for you

This is where these private loans come in. They typically use these to cover everything federal loans couldn’t. They’re a bit of a last resort given their aggressive repayment schedule and fees. The amount you can borrow varies by lender. But usually you can’t withdraw more than your school’s total attendance cost. Interest rates on personal loans are much higher and start accruing immediately and don’t stop until paid in full. And within credit there is an even broader range of credit.

locker: “So there are subsidized loans that cover part of the interest during the school years. It is usually needs-based. There are unsubsidized loans that don’t cover your interest.”

For a subsidy loan, you have to prove your financial need. There are lower borrower limits and interest is paid by the Department of Education. With unsubsidized loans, you do not have to prove that you are in need. There are higher borrower limits, but interest accrues while you’re enrolled and you have to pay it back.

locker: “And so if you make a payment of $500 or even $900, but $300 of it earns interest, you don’t have that much left over from your capital balance. And whatever you don’t pay in interest, it capitalizes on your principal balance, which means it adds to the principal balance and you’re basically paying interest on interest, which is why you see those situations where student loans reach skyrocketing insane amounts and it feels impossible to keep going.

The daunting cocktail of private lenders spurring institutions to raise tuition, mixed with wages that have been relatively flat over the years, is a major reason it’s so impossible to get ahead. In 1978 it was possible to earn enough money to get through a year of college by taking a summer job that paid minimum wage. Today, it would take a minimum-wage worker a full year to cover annual state tuition at a public university.

I’m never gonna pay these damn loans back, am I?

locker: “As we’ve seen over the last 10, 20 years, tuition has skyrocketed far more than inflation, far more than other sectors, and that’s how we created this bubble that we’re in right now, when it ideal for student loans would be help people afford college and you could get a great job, graduate and pay it back. But we have created an unsustainable situation with student loans in the student loan market.”

This unsustainable situation has caused an average of 15% of student loans to default, meaning they are past due.

locker: “After 270 days, i.e. if you are in arrears, your loans are due immediately. And the government has a number of ways it can try to make that happen. They can garnish your wages by up to 15% and also your social benefits
security payments.

But if you default on private student loans –

locker: “It’s a slightly different process. Your lender could potentially sue you. And all that aside, your credit will go down. Thus, your credit score will go to the bottom. And while that doesn’t seem like a big deal, your credit score is used to approve a home, mortgage, or car loan.”

And unfortunately, marginalized communities are feeling the brunt of these consequences more than anyone else. 2019 New York Federal Reserve data shows that the dropout rate for black students is now about 17.7%, compared to 9% for white students. This is due to a number of factors, including discrimination in the job market, which contributes to black graduates earning a significantly lower rate of return on their degree.

locker: “There are many of you who know of communities of color that have higher student loan borrowing rates. There is also a higher failure rate. And I think a lot of that has to do with everything else that we see. So there is the wealth gap between the generations. There is the racial wealth gap. So you know that when people of color are already making less, they’re not passing on as much wealth. You won’t have enough money to pay for college.”

All hope is not lost

While student debt hurts the economy, makes it harder to plan for retirement and worsens existing inequalities, all hope is not lost.

locker: “You know, debt is not a death sentence. And you are not alone and you are not a credit.”

For the first time in recent history, student loan debt and helping borrowers was discussed in Washington. And we might be closer to some kind of student loan forgiveness than ever before. But talking is cheap and student loans are not. So what do we do?

The burden is not on the borrower to fix the problem. It’s up to the labor market to refine its antiquated notions of what qualifies you for a job. It’s up to the government to legislate to protect borrowers and work to tie a school’s finances to the outcomes of its students.

Until American society moves away from the school of thought that higher education is a commodity, demand will continue to rise, and so will our debt.

Common Cents is a financial show that gives answers to everything schools haven’t answered. Watch more episodes of Common Cents.

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