Walking Away From Your Debts: Financial Advisors' Daily Digest

by: SA For FAs

Summary

A survey of student debt defaulters foreshadows a large-scale crisis.

Brad Zigler discusses alternative weighing schemes.

John Cochrane describes bitcoin as an electronic version of gold.

Of the numerous sources of household debt, I confess that the one that has me most worried is a type of debt that is nearly always labeled "good" debt, i.e., student loans. This type of liability is considered good because it is characterized as an investment in one's future - in human capital - rather than mere consumption. The reason why I dissent on this particular issue is because I view such debt as consumption - in four, five or six years of partying - rather than in acquiring a trade or profession. I realize that many students are serious about their education - it's just that so many are not.

So, it was with alarm that I read this new survey of student loan defaulters by The Student Loan Report. It's alarming enough that 43 million young Americans are bearing $1.4 trillion in student debt. I also never liked the idea of the government federalizing in 2010 what were once loans from private lenders, meaning that the taxpayer is now on the hook for any massive defaults that ensue. But in addition to all that, this survey takes us into the mind of those who default on their loans, and as one would expect, it's not a pretty picture.

The good news, from the point of view of the report's author, is that most of these student loan defaulters (59.6%) are not blaming anyone else for their misfortune, but rather place the blame squarely on themselves. I am less sanguine about this finding because a) a still large 40% managed to find primary fault in the government, their college program, their loan servicer, their parents or others; and because b) responses to other questions paint a picture of apathy (over a quarter of survey respondents don't think it likely they'll get out of debt) - a sense of throwing up their hands and saying "oh well" rather than doing something about the problem.

For example, student loan borrowers who have defaulted seemed woefully and apathetically ignorant of their obligations. Most (87.2%) didn't know how many months needed to pass before they were in default (9 months is the correct answer) - so while they may blame themselves, they nevertheless do not exhibit a sense of responsibility for their debt. The survey also shows that a third of the defaulters polled never made a single payment on their student loans. How's that for the old college try? Not inconsistent with this, about half never received a degree anyway, so they got the worst of both worlds - the burden of debt without the potential benefit of a degree.

There's much more that could be said about this illuminating survey, but I'll conclude with my main reason for concern. The top reason cited for failure to make payments was not having enough money to do so (77.8%). And that is happening eight years into an economic recovery with the Dow at an all-time high, which prompts the worry: What happens when the economy turns south decisively? In the last crisis, these debts were by and large held by private lenders, but as mentioned, that debt is a taxpayer liability today. And what we saw in the last crisis, which started in the housing market, was that borrowers (of mortgages) simply refused to pay. Some couldn't, and others wouldn't.

When these homeowners found out their homes were worth less than the value of their mortgages, many just walked away and sent back the key to their lender. What will happen when millions of students come to find in the next economic crisis that their degree was worth less than the cost of their tuition?

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