Fed Raises Rates: Impact on Student Loan Debt Varies
On December 16, 2015, the FOMC took action “to raise the target range for the federal funds rate to ¼ to ½ percent.” Debate of assumed outcomes and potential unintended consequences has been the subject of concern for some time with speculation running the gauntlet of possibilities.
The rampant rumors surrounding the student loan market is perhaps due to the fact that Federal loans account for a “93%” stake in the “$1.27 trillion student loan market.” The priority concern to students is, however, more granular focusing in on the correlation between the Fed’s plan to normalize monetary policy, both in the short- and long-term, and the subsequent impact to personal finances.
For instance, students most affected by FOMC’s decision are individuals with variable or adjustable rate agreements. Meaning “interest rates on those loans fluctuate based on a market rate”, such as LIBOR, causing changes to monthly payments and bottom-line loan balance. This is concerning because “sustained increases to the core federal rate could end up costing customers [student debtors] thousands of dollars in increased interest payments over the life of the loan.”
Student debtors with fixed rate agreements, on the other hand, are relatively unaffected because the agreement is “locked…for the life of the…loan.” Meaning, these financial arrangements are not subject to change absent mutual agreement or, perhaps, default on payment (check contract language for conditional clauses that would alter the agreement substantially in the event of payment default).
Student debtors wanting to refinance – fixed, variable or some combination thereof – can still find options that are both manageable and decrease total expenses. However if rates continue to rise in 2016 locking in a low fixed rate now could prove to be very wise as future options may become more limited.
For current students, those taking out loans to finish paying for college, you might benefit by pausing to reassess industry opportunities – job growth potential, compensation, etc. adjusted for area of residence – to confirm with reasonable judgment projected total debt truly offers a profitable investment opportunity in future years versus a lifetime of student loan obligations.
For example, avoiding tech startups (in the context of a shrinking or contracting industry) that prefers rewarding talent with an imbalance of stock options to base salary is probably best because, as Mark Cuban stated recently, “unless the company gets lucky, employees lose.” How disappointing would it be to invest years of your life in helping a startup rise to stardom only to experience its demise and then, to add insult to injury, you default on paying your student loans (because long ago your adversity to risk tolerance lead you to sacrifice earned pay for the prospect of future riches) resulting in the levy of various financial penalties, or worse – bankruptcy?
In summary individuals holding adjustable rate student loan debt are wise to revisit their respective situation relative to the Fed’s recent increase in the federal funds rate. Keep in mind if the Fed bumps “rates two, three, or four times by the time your loan reaches its next adjustment, you could be in for a whopper of a payment increase.”