The Changing Economics of Student-Loan Debt: How to Pay It Off and Startup
President Obama may soon sign into law a new student-loan bill that reduces rates for brand new borrowers. But the rising cost of college will surely continue to hit students where it hurts: Their future.
College students who funded their education with borrowed money, left school in 2011 with an average $26,600 in student-loan debt, up 5 percent from $25,250 in 2010, according to the latest report from the Project on Student Debt at The Institute for College Access & Success.
Saddled with such a hefty debt load, many young entrepreneurs might put off or even forgo starting up, as launching and failing may put them in an even worse lurch. For those who proceed, they're forced to juggle heaping monthly payments with the costs of starting a business. It’s a challenge some shy away from, but there are routes millennials can take to startup without student-loan debt wrecking their companies.
Here are four ways young entrepreneurs might approach eliminating or reducing their debt loads:
1. Income-Based Repayment: One way to handle high-cost student loan debt is to get rid of it entirely. In 2011, the president announced an executive action that expanded the Income-Based Repayment, or IBR, option for low-wage earners (like startup entrepreneurs) with federal student loans. The "Pay As You Earn" plan allows many students to cap their monthly loan repayments at 10 percent of their discretionary income and possibly have their loans forgiveness after 20 years of responsible repayment. Previously, the program capped federal-student loan payments at 15 percent of a person's discretionary income and forgave loans after 25 years of on time payments. While borrowers may pay more interest over time, an IBR can help reduce your minimum monthly payments, which can help free up capital to put toward a startup.
2. Deferment or forbearance: There’s less flexibility with private-student loan debt, says Rohit Chopra, the Consumer Financial Protection Bureau’s student loan ombudsman. Though minimum-monthly payments on private loans can be deferred through forbearance, interest continues to accrue on any unpaid debt. Forbearance isn’t an ideal option, says Chopra. But he adds, it’s often the best one available to young entrepreneurs.
Paige Brown went this route when she graduated from Vanderbilt University’s MBA program in 2010. The then 27-year-old set out to start a business while carrying a whopping $60,000 in student-loan debt. By opting to defer $20,000 in private-student loan debt, Brown says she was able to manage her other loans and launch the online hotel reservation service Dashbell.com in 2011. “I think other people were more worried about my student-loan debt than I was when I started the business," says Brown. "You have to accept the debt is there and don’t let it stop you from doing what you want to do."
3. Debt consolidation and a pay-off plan: Many college graduates choose to bundle their debts into one loan that requires a single (and potentially lower) monthly payment. Tufts University graduate Melissa Pickering consolidated $46,000 in student debt. Since 2005, Pickering worked as a mechanical engineer for Disney her first three years out of school, during which time she made minimum monthly payments of $389. In 2010 she put her entire savings into launching iCreate, a technology education company that manufactures interactive software for K-12 students. Three years in, the company is continuing to grow, and Pickering, 30, is on track to complete her 30-year student debt payment plan on time.
When crafting a payoff plan, Scott Gerber, founder of the Young Entrepreneur Council, recommends startups look into self-employed assistance programs offered by their state. Some local groups may also offer financial aid to support entrepreneurship in their community. But also, he suggests pragmatism: “I think the first thing when you’re starting a business straight out of college shouldn't be, ‘Who am I going to get money from?" It should be, rather, ‘How am I going to start and sustain this business with the money I already have?”
4. Defaulting: Student-loan debt is notoriously difficult to eliminate. Even so, some entrepreneurs try to default. This is a course best left untried, as those who default on a federal-student loan can have their wages garnished without a court order and are subject to the IRS withholding any income tax refunds they would receive until the debt is paid off. Creditors typically notify the credit bureaus when a customer defaults on a student loan. Long-term effects of such negative information landing on someone’s credit report include difficulty qualifying for auto loans, home mortgages and credit cards with decent interest rates.
To stave off the fate, experts say it's crucial for young entrepreneurs to be able to recognize if their startup is failing and act accordingly. Rather than funnel more money to keep a sinking business afloat, Gerber says “it’s best to cut your losses and then pick yourself back up and try again.” It’s not worth the risk of defaulting on a student loan, he adds.
How are you dealing with student-loan costs and your startup? Let us know with a comment.
Daniel Bortz is a freelance writer based in Washington, D.C. He's written about personal finance, careers, small business and entrepreneurs for publications such as Money magazine, CNNMoney.com, TheFiscalTimes.com, USnews.com.