A Loan in the Dark

The rhetoric and reality of the student loan forgiveness debate

Student loan forgiveness has been a political football for what feels like many years now. While the idea started in progressive circles, it has become more mainstream recently. With a Democratic administration and Congressional majority, the prospects of substantial student loan forgiveness have perhaps never been more likely. The media has played a role in convincing us that student loan forgiveness is likely, but they’ve been slow to discuss the wide-ranging implications it’d have on our collective economic wellbeing.

To set the table on the impact of student loan forgiveness, any cancellation of debt would be an immediate addition to our federal deficit. Our government, which is funded by our country’s taxpayers, would realize a reduction of its receivables. With a reduction of receivables, our country would need to tap another funding source: the taxpayer base.

With that in mind, let’s look at wholesale debt forgiveness first; in other words, what would happen if student loan debt was completely forgiven? While this is unlikely, it would result in a very small portion of student loan borrowers receiving an incredibly outsized benefit. According to the Brookings Institution, 14% of borrowers owe more than half (52%) of all outstanding student loan debt. And while those borrowers enter all types of professions, many enter lucrative careers that’d allow them to pay back their debt in relatively short order.

On the other side of this mathematical phenomenon, 18% of the smallest student loan borrowers hold about 1% of the total debt. They owe less than $5,000 each, so they either took out very small loans or were very disciplined in paying down their higher balances.

Apart from the disproportionality dynamic, there would be other downstream impacts. How would education be funded in the future? Why would any parent save for their kids’ college again if they knew their kids’ educational loans would be forgiven? Would the government reinstate student loans for the next generation after forgiving student loan debt for prior generations? What happens to the taxpayers that paid off their debt…would they receive a check? Are there income phaseouts?

Next, let’s consider a different approach: forgive the same amount for each borrower; in this case, let’s assume $10,000 of forgiveness. Many borrowers would have their debt forgiven entirely, including the aforementioned 18% of borrowers with less than $5,000 owed. For others, $10,000 of forgiveness wouldn’t even be “a drop in the bucket,” like this teacher with $303,000 in student debt.

With the same amount forgiven for each borrower, where would the student loan refinancers be left? They refinanced their debt to improve their chances of paying it off quickly. Would they get relief if the original loan was federal? What message would the politicians be sending? Who would facilitate this process and how much would it cost the taxpayers in administrative costs? And if we open Pandora’s box with the $10,000 of forgiveness per student, does it become $10,000 of forgiveness per year? As Milton Friedman so aptly stated, “Nothing is so permanent as a temporary government program.”

Needless to say, there would be significant impacts. Discipline is critical in all financial endeavors and sending the message that your fellow taxpayers will pay your debt is concerning, though not unprecedented, as seen in corporate bailouts. While much of the federal government’s student lending is questionable in nature (i.e., a student’s major and income potential is not considered), a borrower ultimately made the decision to take on those loans to improve their job and income prospects.

No matter the result this debate, the same fundamentals of disciplined financial planning should be applied. If some or all student loans are forgiven, borrowers that come away with a financial windfall should be thoughtful and responsible. They should seek to reduce other debt and invest in appreciating assets. They should turn a fortunate break into a foundation for greater financial independence in the future. If nothing is forgiven, borrowers should be disciplined in steadily reducing their debt load. In addition, they should seek advice on how to increase investment assets while reducing their debt. Different circumstances, but the same advice.

For parents, this debate is a reminder of the importance of talking to your child(ren) about financial discipline—and equipping them with the guidance that will allow them to manage debt and assets responsibly. As far as educational expenses go, students should be diligent about exploring scholarships and grants, finding modest housing arrangements, and taking courses in high school that count as college credits.

If you signed or will be co-signing on a loan, make sure you understand not only your obligations as a co-signer, but your obligations as a parent who can use this as an opportunity to pass along hard-earned financial wisdom. That might turn be the best education of all—and it won’t cost you (or them) a dime!


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