The Savage Truth on Money by Terry Savage

This is the season for families to take on the burden of student loans, as acceptance letters arrive. But be sure to do the calculations of the overall loan repayment burden so you know the true cost over your lifetime.

There are several websites that will help you compare and calculate financial aid packages. At SimpleTuition.com and at Finaid.org, you can calculate the true, long-term burden of that aid offering. And when you see the total cost of your education, including interest, you might reconsider the possibility of living at home for the first two years and attending community college.

It's not your imagination that student loans have become a government rip-off of the younger generation and their parents. Still, over a lifetime, the benefit of a college education in total earnings remains significantly higher for college grads than those who drop out or stop their education at high school. Your challenge is to manage the cost of that reward.

There is more student loan debt outstanding — $1 trillion — than credit card debt! And the government is making a huge profit on it — an estimated 36 cents on every loan dollar.

Here's the real shame: The government gets to borrow for 10 years paying less than 2 percent interest on U.S. Treasury notes, while students must pay 6.8 percent interest on the loans they get from the government!

The government is ripping off college students, leaving them with a burden of debt that averages $27,000, and for many exceeds $100,000, while they are forced to pay above-market interest rates.

Students will spend so much time and pay so much interest getting out of student loan debt that most will never be able to afford to buy a home. Today's homebuyers can get a 3.5 percent, 30-year fixed-rate mortgage. But today's students may never get to take advantage of today's low mortgage rates because the government demands twice that rate to pay off their student loan debt.

And to make things worse, there is no way to default on a student loan. These loans are not discharged in bankruptcy and will follow today's students into their old age, when government will dock their Social Security payments for outstanding loan balances.

Here are the facts: Rates on unsubsidized Stafford Loans (which accrue interest while the student is in school) are 6.8 percent. On July 1, 2013, rates on subsidized Stafford Loans (which don't accrue interest until graduation) will jump from the current 3.4 percent back to 6.8 percent. And rates on parental PLUS loans are an astounding 7.9 percent. All are fixed for the life of the loan.

Yes, there are options to defer payments and an income-based repayment plan for those who get low-paying jobs, but the burden of these high-rate loans hangs over them for a lifetime, like a mortgage that can't be refinanced or foreclosed.

Student loans weren't always such a bad deal.

On Feb. 8, 2002, President Bush signed legislation changing the interest rates on education loans from variable rates to fixed rates for new loans issued after July 1, 2006.

Before the student loan repayment formula was changed seven years ago, the student loan interest rate changed every July 1, based on the Treasury bill auction rate set at the end of May, rounded up to the next quarter percent. That would put today's repayment rate at 0.25 percent.

That's not a typo! Today's graduates would be paying less than a quarter of one percent in interest under the old formula. And they each had a one-time chance to lock in the repayment rate for the life of the loan.

If the old formula were still in effect, students would save a fortune in interest — and could go on to put their education to more productive use for themselves and the economy.

Here's an example of the student loan burden.

Let's use a federal student loan debt of $31,000 — which is the maximum that can currently be borrowed in Federal student loans over a four-year college career. And let's assume a 10-year repayment schedule. And just to be fair, let's not use the "old formula" which would have the loan repaid at a 0.25 percent. Instead, let's use the rate the government pays today on 10-year Treasury notes, and round it up slightly to 1.75 percent.

— At the current repayment interest rate of 6.8 percent, the monthly payment on that loan would be $356.75. And the total repaid over 10 years would be $42,809.33 — of which $11,809.33 is interest.

— At a rate of 1.75 percent on that student loan, the monthly payment would drop to $284.63. And the total repaid would drop to $34,155.68 — of which the total interest would be only $3,155.68.

Today's students would save a fortune in interest if they only paid the same rates that the Treasury pays to borrow for 10 years. And since federal student loans are now made directly by the government, and the government will get repaid on those loans eventually (even if they have to deduct the amount from your Social Security payments in your old age), don't you think they should charge a more reasonable rate?

Restoring student loans to market-based rates, with a lifetime cap, is something politicians on both sides of the aisle should be able to agree upon. But that won't happen until students — and their parents — get organized to press their case, just like other lobbying groups. In the meantime, borrow carefully so your education can pay for itself. That's The Savage Truth.

Terry Savage is a registered investment adviser and is on the board of the Chicago Mercantile Exchange. She appears weekly on WMAQ-Channel 5's 4:30 p.m. newscast, and can be reached at www.terrysavage.com. She is the author of the new book, "The New Savage Number: How Much Money Do You Really Need to Retire?" To find out more about Terry Savage and read her past columns, visit the Creators Syndicate Web page at www.creators.com.

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