Student debt and defaults surge

[Editor's note: We got so much response from this story that we wrote about it here.]

When Robert Applebaum graduated from Fordham Law in 1998, he took the public-interest job near to his heart: assistant district attorney in Brooklyn, N.Y., at a salary of $36,000 – despite law-school debt of $75,000. He took five years of forbearance on the loan. Bad move. Mr. Applebaum’s indebtedness today stands at $96,000, even though he fled the job he loved for the higher-paying private sector in 2003. “It’s like having a mortgage, but without the house,” he says of monthly payments just under $500. At that rate, the debt won’t be fully paid for two decades.

Student debt in the United States has surged in recent decades, with outstanding federal student debt now topping $500 billion. The share of young adults carrying some educational debt has almost tripled since 1983, according to economist Ngina Chiteji.

At the same time, defaults are on the rise. Between 2006 and 2007, the proportion of borrowers who were supposed to enter repayment for the first time and who instead defaulted went up – from 5.2 percent to 6.9 percent, according to a Department of Education report last month. That percentage is the highest in more than a decade. And the 2008 and 2009 default rates are likely to be much higher.

Some help is on the way. Sallie Mae, America’s largest lender to college students, announced last month a loan type that students start paying while still in college. The early jump on interest payments means that balances can be paid off an average of nine years earlier, with a savings of 40 percent over the life of the loan, the company says. Some provisions of a 2007 education law set to take effect this summer will also reduce interest rates on some federal loans and place others on income-based repayment plans.

President Obama’s budget, meanwhile, proposes to expand federal loan programs and tax breaks.

Applebaum and others, however, are pushing the government to go further, advocating student debt forgiveness. But they face an uphill climb. Historically, Washington hasn’t taken up their cause, and many economists don’t see it their way, either.

“I’m sure that all people wish they did not have to borrow to go to college,” says Dr. Chiteji of Skidmore College in Saratoga Springs, N.Y., who has studied indebtedness among the young. “We’d all like the things we want to be free to us.... [But] the costs of college have to be borne by someone in society, and there’s a strong economic argument for having that ‘someone’ be the student.”

Most young-adult debt profiles haven’t yet reached horror-story status. In fact, young people’s overall indebtedness as a proportion of income has not changed much since the 1960s, according to Chiteji’s research.

There is an important difference between then and now, though. Mortgage debt used to be virtually the only major debt held by young people. Now, their debt load is much heavier on schooling.

And student debt can be extremely difficult to discharge, even in bankruptcy court. (Click here to see how one former grad student did it.) That’s partly because of a crackdown on defaults following a record default rate of 22.4 percent during the 1990-91 recession.

The difficulty of discharging student loans is one reason that Applebaum has launched his efforts. If student debt is forgiven, he argues, the economy will be stimulated. That would free a great many people to buy homes and cars, he says.

Applebaum is building a student-debt advocacy organization, and in January, he started the Facebook group “Cancel Student Debt to Stimulate the Economy,” which has mushroomed to 160,000 members as of early April.

Now, more than a few members of Applebaum’s Facebook group are wrestling with the question: How much is a good education – especially a private, liberal-arts education – really worth?

In 2004, Brian Kraus graduated from Cornell College in Mount Vernon, Iowa, with a double major in business and economics and sports management – and with $50,000 of mostly private student debt. Now, he’s a customer-support manager at a Denver telecommunications firm, and he’s making monthly loan payments of just over $500. In a few years, on his payment plan, he expects the amount he owes each month to rise near $1,000.

“I signed for [the loans] and I believe in paying them, and I will do so until I can’t do it anymore,” says Mr. Kraus.

He realizes that, in a tough economy, many won’t sympathize. But, he says, “If our debts were paid – and I do believe they need to be paid rather than just forgiven, or else we are causing more issues for the loan companies – then think about the amount of money that could be directly infused into the economy.”