As high school seniors receive their college acceptance letters and financial aid packages, be sure to tell your clients to think twice about co-signing student loans or taking out PLUS loans to finance their children's education.
With college expenses reaching new heights — check out New York University's $71,000 price tag, for instance — it's natural for parents to have a knee-jerk reaction at the idea of their child shouldering even a portion of the expense. So when the financial aid award letter comes in, those parents may notice that they can help out by signing up for a PLUS loan. These loans allow parents to borrow up to the cost of attendance, less any other financial aid that the child receives.
If your client is seriously considering one of these loans to help foot the bill for a child's education, you might want to tell him or her to back away from the student letter. This is one of those scenarios where it's OK for your client to tell his or her child “no.”
“Learn to say 'no,' and send your child to a less expensive school,” Mark Kantrowitz, president of MK Consulting and expert on college financing, said.
“A lot of schools include PLUS loans in the financial aid award package,” he added. “The argument is to make the family aware of it as an alternative to private student loans, but sometimes it blurs the distinction between grants and loans.”
HAZARDS OF PLUS LOANS
Snares abound for parents who are eager to take on additional debt in the name of sending their children to their dream school.
“One of the things that parents don't really know is that they don't qualify for the income-based repayment options that a student would qualify for,” Tony Aguilar, founder of Student Loan Benefits, a platform that aims to integrate student loan repayment into workplace employee benefits.
Students who take out direct federal loans themselves are eligible for programs that ease their repayment schedule.
The Pay-as-You-Earn plan allows borrowers to reduce their monthly payments so that they're 10% of that individual's discretionary income. Income-based repayment entitles borrowers to make monthly repayments equivalent to 15% of their discretionary income if they're not new borrowers on or after July 1, 2014. New borrowers after that date can make monthly payments that are equal to 10% of their discretionary income. Finally, there's the income-contingent repayment plan, where debtors pay the lesser of either the equivalent of 20% of their discretionary income or what they would pay on a repayment plan with a fixed payment for 12 years, adjusted based on income.
PLUS loans made to parents aren't eligible for Pay-as-You-Earn or for the income-based repayment program.
They are eligible for income-contingent repayment plans if they are consolidated under a direct consolidation loan.
Don't forget the fact that interest rates are much lower for students. Direct Stafford loans for undergraduates have a fixed interest rate of 4.66%, and there's a loan fee of 1.072%. PLUS loans for parents, meanwhile, have a current interest rate of 7.21%, which is fixed, plus loan fees of 4.292%.
Finally, the government can garnish Social Security benefits of those who fail to repay.
Parents may blanch at the idea of their children taking on the student loan debt themselves, but that's the better route when it comes to flexibility in repayment.
“Students have so many more options,” Mr. Aguilar said. “They start out with lower salaries, the payments are lower and they have more flexibility.”
ALTERNATIVES TO TAKING ON MORE DEBT
Mr. Aguilar has seen parents make repayments on behalf of the children who took out the student loans in the first place.
This way, “[The parents] are paying for the loan, but they get the flexibility of the repayment options,” Mr. Aguilar added. “For the student, if they're coming out of school and making payments on time, it helps them build credit early if the student doesn't have the income to pay for the loan.”
Be aware that cosigning a loan with a child is also a risky proposition: Parents still have to pay the loan if their child is unable to pay, and late payments by the child will ding the parents' credit history, Mr. Kantrowitz said.
Instead of being dazzled by the award letter, parents ought to calculate the net price of going to school: That's the complete college cost — tuition, books, room and board — less the amount of free aid received in the form of scholarships and grants, said Mr. Kantrowitz. And don't forget the tax credits: There's the American Opportunity Tax Credit and the Lifetime Learning Credit.
Finally, if all else fails, just say “no.”
Thomas Brooks, founder of Alliance Financial Services and College Funding Advisors, regularly talks about college funding with parents who are grappling with sky-high tuition in the $60,000 to $70,000 range, plus the reality of sending two to three children to college within a five year stretch.
Instead of mortgaging their retirement to send their children to their dream schools, many of those parents are sending their children to community colleges for the first two years. After that, the students can transfer their credits to a prestigious college, thus reducing their loan burden.
“The parents just have to say, 'Look, for the sake of all three of you, we have to be realistic about this,'” Mr. Brooks said.