Is history about to repeat itself? There are some striking similarities between the private student loan market and subprime mortgage industry. A new report from the Consumer Financial Protection Bureau (CFPB), provides more evidence for the comparison.
“Student loan borrower stories of detours and dead-ends with their servicers bear an uncanny resemblance to problematic practices uncovered in the mortgage servicing business,” said Rohit Chopra, student loan ombudsman for the CFPB who authored the report, in a prepared statement. “Consumers deserve clarity, not chaos and confusion.”
The report analyzed roughly 2,900 complaints, comments and other submissions and input from borrowers since March of this year. With student loan debt crossing the $1 trillion milestone earlier this year, and private student loans accounting for more than $150 billion of that, another crisis could be on the horizon. There are at least $8 billion of private student loans in default, representing more than 850,000 individual loans, according to the report.
“It's hard to predict when the student loan meltdown could occur, but if the bubble explodes, the consequences will be devastating for the economy,” says Howard Dvorkin, author of Credit Hell. With 40 percent of households headed by an individual under 35 having student loan debt, the economy is already feeling some of the effects. Census data reveals that 6 million young adults ages 25-34 lived with their parents in 2011, and the National Association of Realtors estimates that young adults made up only 27 percent of all home buyers in 2011, the lowest share in the past decade. With onerous student loan debt, many students have failed to launch because they can't afford the rites of passage to independence.
According to Glenn Reynolds, author of The Higher Education Bubble says, “Bubbles form when too many people expect values to go up forever. [They] burst when there are no longer enough excessively optimistic and ignorant folks to fuel them. And there are signs that this is beginning to happen where education is concerned.”
Here's a look at the similarities between the subprime mortgage industry and the private student loan market:
1. Good intentions gone bad. Society puts a high value on the two objectives – education and home ownership. “A college education is a path to life success just like home ownership is a path to financial stability. In reality, some people aren't suited for it,” says Ken Lin, founder and CEO of educational website, CreditKarma.com.
2. Misleading Interest Rates. Lin says both industries have artificially low interest rates. “With mortgages it was to stimulate home ownership, in student loans it was to promote education,” says Lin. However, “What students don't know is that the interest rates on these loans will increase dramatically over the years, so a $30,000 loan can become $50,000 due to changing interest rates,” says Dvorkin. Interest rates on private student loans can be anywhere from 5 percent to 18 percent.
3. Lack of Scrutiny. Both industries didn't have a great litmus test for qualification, says Lin. “In mortgages we were supposed to make sure people have good credit and can pay the loan back. We know [how] that ended. In student loans, the students are supposed to pass aptitude tests, but for-profit universities are basically letting anyone into these loan programs. When people aren't qualified for the product, we have lots of issues,” says Lin.