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Financial Cool-Aid
http://www.savingforcollege.com/articles/financial-cool-aid

Posted: 2013-07-10

by Joseph Hurley

Financial Professional Content

Subsidized Stafford loans used to be a sweet deal for aid-eligible college students. Payments were deferred during the college years at a 0% interest rate, and repayment after college carried a fixed interest rate of only 3.4%.

Well, the deal isn't so sweet any more. As of July 1 the post-college interest rate jumped from 3.4% to 6.8%. Here's what you need to know when talking to clients wondering about what's going on and how the rate change will affect them.

  • Pre-existing student loans are not affected by the rate hike. The new interest rate of 6.8% applies to subsidized Stafford loans taken out for the 2013-14 school year. It's interesting to note that unsubsidized Stafford loans (for students who cannot demonstrate financial need through the FAFSA) also carry a 6.8% interest rate. The primary advantage of being need-eligible is that interest is effectively waived until after graduation.
  • Something will probably be done to change the situation. Several different proposals were advanced in Washington prior to the rate hike taking effect. Although partisan politics make it difficult to reach consensus, intense pressure directed at Congress and the President to come up with a "solution” will likely result in a new interest-rate formula. Any such law will likely be made retroactive to July 1, 2013.
  • Stafford loans are not as important in financing college as many people believe. For instance, the most that a dependent student can get in subsidized Stafford loans for the freshman year in college is $3,500. Another $2,000 in unsubsidized Stafford loans can be taken out. Many parents use federal PLUS loans to pay the college expenses that are not financed with Stafford loans, and PLUS loans carry an interest rate of 7.9%. How attractive is a PLUS loan at 7.9% when home equity loans can be obtained by many families at lower cost? I recommend the article "The Federal Parent Rip-Off Loan" by Kevin Carey for further insight into PLUS loans.
  • If they can avoid it, your clients should not want to see their children or themselves taking on massive debt for college. For most, avoiding loans during the college years requires that they save for college now, while the child is still young. If you want to demonstrate this concept to your clients, try out the 529 Savings Vs. Loans Calculator on Savingforcollege.com. I just did, running the numbers for a 5-year old, and using all the calculator's other default settings. It tells me that the total amount of monthly contributions needed to pay for a four-year degree is $114,973. But if I had no college savings, and paid for college completely through loans, my total loan repayment would come to $257,360. How's that for a persuasive argument in favor of saving for college?

Financial Professional Content

Subsidized Stafford loans used to be a sweet deal for aid-eligible college students. Payments were deferred during the college years at a 0% interest rate, and repayment after college carried a fixed interest rate of only 3.4%.

Well, the deal isn't so sweet any more. As of July 1 the post-college interest rate jumped from 3.4% to 6.8%. Here's what you need to know when talking to clients wondering about what's going on and how the rate change will affect them.

  • Pre-existing student loans are not affected by the rate hike. The new interest rate of 6.8% applies to subsidized Stafford loans taken out for the 2013-14 school year. It's interesting to note that unsubsidized Stafford loans (for students who cannot demonstrate financial need through the FAFSA) also carry a 6.8% interest rate. The primary advantage of being need-eligible is that interest is effectively waived until after graduation.
  • Something will probably be done to change the situation. Several different proposals were advanced in Washington prior to the rate hike taking effect. Although partisan politics make it difficult to reach consensus, intense pressure directed at Congress and the President to come up with a "solution” will likely result in a new interest-rate formula. Any such law will likely be made retroactive to July 1, 2013.
  • Stafford loans are not as important in financing college as many people believe. For instance, the most that a dependent student can get in subsidized Stafford loans for the freshman year in college is $3,500. Another $2,000 in unsubsidized Stafford loans can be taken out. Many parents use federal PLUS loans to pay the college expenses that are not financed with Stafford loans, and PLUS loans carry an interest rate of 7.9%. How attractive is a PLUS loan at 7.9% when home equity loans can be obtained by many families at lower cost? I recommend the article "The Federal Parent Rip-Off Loan" by Kevin Carey for further insight into PLUS loans.
  • If they can avoid it, your clients should not want to see their children or themselves taking on massive debt for college. For most, avoiding loans during the college years requires that they save for college now, while the child is still young. If you want to demonstrate this concept to your clients, try out the 529 Savings Vs. Loans Calculator on Savingforcollege.com. I just did, running the numbers for a 5-year old, and using all the calculator's other default settings. It tells me that the total amount of monthly contributions needed to pay for a four-year degree is $114,973. But if I had no college savings, and paid for college completely through loans, my total loan repayment would come to $257,360. How's that for a persuasive argument in favor of saving for college?

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