Lender Life


A College Credit Crunch

Today’s big tuition debt is delaying the next generation of borrowers

By Phil Britt

Total college tuition loan debt nationwide sits at a staggering $1.2 trillion, according to the Consumer Protection Financial Bureau, and it’s ballooning larger while college costs continue rising faster than the rate of inflation. This big debt load for the next generation of consumers and borrowers has caught the attention of legislators and the banking industry due to the debt’s potential long-term effect on the economy and on the banking industry.

Outstanding student loan debt has grown more than 4.5 times since 2003, according to Federal Reserve Bank of New York data. According to the Department of Education, which now provides the lion’s share of student loans with the Department of Housing and Urban Development, 71 percent of students leave college with an average of $29,400 in debt, and many students incur far more than that. In addition to the debt they’re shouldering, many of today’s college loan borrowers are burdened with loan interest rates that will continue to accrue until the loans are paid in full.

In sum, that’s a heavy burden for the next generation of consumers, homebuyers and entrepreneurs and, by extension, the overall future credit demand and the economy.

A structured-debt hurdle

Paul Schaus, president of CCG Catalyst in Phoenix, estimates these private loans to be at $165 billion. In his testimony in June before the U.S. Senate Committee on the Budget, Rohit Chopra, the student loan ombudsman for the CFPB, points out that the Federal Reserve’s Federal Open Market Committee and the Financial Stability Oversight Council both say the high tuition debt could dampen overall future household consumption.

71 percent of students leave college with an average of $29,400 in debt, and many students incur far more than that.

A report by the Harvard University Joint Center for Housing Studies points out that student loan debt has resulted in lower credit scores and less income available for mortgage down payments for the millennial generation. It has risen to its highest levels during the last four years, according to figures from the Department of Education and the CFPB. As of 2010, the most recent figures available, 39 percent of households of individuals 25-34 had student loans, up from 26 percent in 2010, and double the amount from 1989.

Millions of adults have joined the ranks of the low-income population, the report says, and many younger adults continue to live with their parents. In 2013, half of those ages 20-25, one-fifth of those ages 25-29 and almost one in 10 of those ages 30-34 lived at home. This could change once millennials get a few years beyond graduation, though it likely will take longer for them than in previous generations.

However, while more millennials continue to live with their parents than previous generations, that trend is expected to delay, but not permanently sidetrack, this generation from moving out on their own, according to the Harvard report. About more than one million younger consumers each year for the next decade are likely to leave home to start living independently, financially and otherwise. Yet many millennial consumers likely will continue to have far higher debt-to-income ratios and less discretionary income with which to save for a home down payment.

However, a recent Goldman Sachs report predicts that the sheer size of the millennial cohort will drive increased demand for housing and housing finance. And while life events that drive housing demand such as marriage (today’s average marriage age is 30, up from 23 in the 1970s) and having children are delayed for this group, millennials still have strong expectations of becoming homeowners, the Goldman report says. However, some research indicates that young homeowners increasingly prefer the tradeoff of buying smaller multi-family homes to live near their work in urban centers.

Nevertheless, access to credit, particularly whether today’s tight credit standards will ease, will be a pivotal factor influencing this younger generation’s ability to purchase homes in the next few years. Other prominent factors creating headwinds for them are their lagging incomes relative to inflation and home prices, and a shortage of affordable entry-level homes.

Creative financing needed

Though student loan debt can’t be ignored, its potential drag on the economy isn’t the entire story. Schaus sees a lifetime of delayed independent living, retirement and other lifestyle decisions being postponed by millennials. But he also points out that earlier generations have graduated from college with their own economic challenges. For example, while outstanding debt of younger adults was far lower a generation ago, so was their income.

For baby boomers, owning a home was an important element of the American dream, Schaus says. Millennials, however, saw the bottom drop out of the overheated housing market during the 2008 housing market crash, and housing values still haven’t returned to previous values. So renting, not home ownership, has become the predominant trend among younger consumers and families.

However, citing a bank whose average customer is 68 years old now, was 68 a decade ago and was 68 two decades ago, Schaus predicts the millennials will catch up to replace today’s baby boomers as the next generation of borrowers. He recommends that banks closely study and monitor current millennial customers to determine how and when they can become profitable borrowers. Auto loans and credit cards could be first borrowing steps for these consumers, before home mortgages.

Chopra adds that while today’s student loan debt will be an economic drag in many ways, it also provides a potential opportunity for community banks to provide other credit options to refinance and restructure many existing loans and debt. So, while the $1.2 trillion figure is daunting, he says, creative banks have an opportunity to mitigate the effects of the debt safely, an opportunity for community banks to establish lifelong relationships as the trusted financial provider for the next generation of consumers.

Phil Britt is a financial writer in Chicago.