How much student debt is too much?

Learn things that must be consider while taking a student loan. Like calculation of loan payments and plan how to use debt to income ratio to overcome debt. To know how much student loan is too much.

Updated by Gowtham Ramesh on 10th October 2019

Student Loans are make-or-break kind of deals. If one makes only calculated decisions before choosing to finance their college education using student loans, repayment of debts should not be an issue. Your college degree might completely depend on financial aid, whether it is through loans or some other form of aid. These aids have helped many students achieve their goals and dreams, which they would not have been able to without it.

On the other hand, many students take loans without fully acknowledging its potential impact on their future, their careers, and their overall livelihood when repayments hit them. They consequently fall into a never-ending loop of one debt after the other. Some cases go as extreme as borrowers having to file bankruptcy.

In this article, we will discuss the various steps that you could take in order to avoid these situations, along with the factors that should not be ignored while looking at financial aid and how much student debt is too much.


List of contents


Main sources of debts

Among the many Financial Aid options that are presented to college students in the United States of America, scholarships and grants are the most difficult to get. You either have to fall under some financial-need category, be extremely capable to crack scholarship tests or have astonishing academic records. As a result, the next best option turns out to be student loans. The majority of the financial aid for college students is from student loans.

Students have the option to choose between Federal loans and private student loans. Federal Loans have lower interest rates and better features, but the loan amount could be limiting and insufficient to cover all expenses. Ultimately, many students seek for private student loans on top of their federal loans to cover up everything else that federal loans fail to cover.

Even though students are frequently advised not to seek for personal loans, it is another available option and many students do take them. You must remember that any kind of student loan taken is an investment in your future. Invest only the amount that is required, no more or no less.

What to know when taking the loan?

When you're undertaking a loan, you may be thinking that after completion of your degree, the wage you'll be receiving should be sufficient to pay off the loans. However, it may not always be true. When you're provided with the loan, it is expected of you to know and understand how much student loan debt is too much.

You must ask questions to yourself such as can you afford your monthly expenses while paying the student loans, and even if you fall into debt, can you afford it? If yes, then you can make a plan and opt for a student loan.  


Statistics of student debt

Statistics show that in June 2014, America had over 7 million people whose loans fell into default. There lies a staggering $1.2 trillion debt on student loans alone and it has been increasing at an alarming rate.

It was reported that in June 2018, the total amount of student debt in America reached $1.52 trillion with more than 44.2 million debtors. It averages to $36,390 debts per debtors. The median of these debts is calculated to be around $10,000 to $25,000 while 98% of debtors owed more than $10,000.

The amount has increased to $1.56 trillion in June 2019 with total borrowers increasing to 44.7 million. It is calculated that about 11.4% of these borrowers are in delinquencies or default. These statistics should be taken as a warning sign to be careful while stacking up your debts as a student.


Understand your debt

The first step to taking care of your debt as a student is to understand the debts that you have. It will help you avoid many unnecessary burdens that you might have to bear now and later in the future.

  • Be thorough with the terms and the contract of your loans or debts

  • Your interest rates can be changed - lower interest rates may still accrue higher interest amount if the terms of the loans are long

  • Debts amount lower than your annual income can be managed over 10-year terms

  • Understand the repayment plans and choose the ones that favor you in the long run

  • Be aware of forgiveness or discharge programs that you might be eligible for

  • Your debt-to-income ratio should be kept below 8%

  • Never allocate more than 20% of discretionary income to the student loans

You can head to The Bureau of Labour Statistics Occupational Outlook Handbook which is a great online platform to check average salaries of careers over time. It will help you decide the amount of debt you can manage.


Federal loan over a private loan

The Federal Government has been providing Federal Loans to undergraduate, graduate and postgraduate students for a very long time. These loans also extend to parents of dependent students.

The low-interest rates of these loans are commendable, ranging between 5.05% to 6.6%, depending on the type of loans. Compared to private student loans that can have interest rates typically starting around 3% if you have an excellent credit score, which can go as high as 15%, these federal loans are undoubtedly better.

Federal Loans also provide multiple plans for repayment depending on borrowers’ financial situations, such as the Income-Driven Repayment Plan where borrowers make monthly payments from a percentage of their income.

Apart from these, it comes with unmatched benefits such as forgiveness and discharge of loans under certain criteria. All these features are meant as a protection for borrowers which cannot be found in private loans.

However, the main drawback of Federal Loans is that the amount of the loan is very limited and may fail to cover the expenses of the students apart from the tuition fees. In such cases, students may opt for private student loans but limit their loan amount to the left-over amount from federal loans.


Debt reduction strategies

If your debt is already a burden in your day to day life, you need to take actions to relieve yourself off of it. At this point, your options may be very limited already. However, every small step will count as a relief. The following list consists of actions that you can take to reduce your debts over time.

1 - Part-time job - Working on a part-time job is a must for college students who are in debts. It can help you afford your monthly payments and provide some relief. 

2 - Scholarships and Grants - Consider scholarships and grants for further studies instead of seeking for more loans. It can be a better opportunity as it doesn't have to be paid back.

3 - Refinancing and Consolidation - Consolidation of Federal Loans can be done which will combine all of your loans into one. Refinancing can be done for both private and federal loans where a private lender pays off your existing loans and provide you with a new one with a lower interest rate. It can help you reduce debts over time 

4 - Forgiveness and Cancellation - These programs are total relief of debts for eligible debtors. If you're working in the public sector, you can opt for loan forgiveness. Loans can be canceled in certain situations such as closing down of school and more.


Tips to know before borrowing loans

Here are a few tips that you must keep in mind before you decide to borrow any kinds of loans.

  • Look for cheaper alternatives between schools to get degrees

  • Research for expected salaries after completion of college

  • Don't borrow more than what you can make in the first year

  • Estimate your monthly payments and never let it exceed 10% of your monthly income

  • Always go for the shortest repayment terms as it will ultimately help you to pay a lesser amount of interest over the life of the loan

  • Make use of all the resources from the federal financial aid through parents and as students before going for private student loans

  • Never exploit any of the financial aid you are presented with

  • Never take financial aid amount more than required

  • Have a thorough discussion with your family if needed

  • Parent borrowers should not exhaust all loans for their first child - consider the bigger picture for every sibling who might also need financial help in the future

  • There will always be several risk elements that will come up over time - do not neglect them


Conclusion

To answer the question 'how much student debt is too much debt?', we must consider the financial situation of every student on a case-to-case basis. A debt of a certain amount can be a burden to one student while some other students may manage to handle the same amount of debt without any inconvenience.

For example, let us consider two students A and B. Both A and B earn $40,000 a year and have similar debts which impose a monthly payment of $400 per month. A has two other siblings that he has to support while B doesn't. Consequently, having $40,000 debt may not turn out to be too much for B while A struggles to pay for the debts and support his siblings at the same time.

The takeaway of this example is that you are solely responsible to manage the amount of debt that you impose on yourself as a student. Even debts that require monthly payments lesser than $100 dollar can still be too much if your financial situation is not stable. 

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FAQ's

  How much should my debt to income ratio be?


It should be maintained below 8%.

  Should I only go for federal loans?


Although federal loans are more attractive, they only cover the tuition expenses and not anything else. First exhaust usage of all the federal loans available to you and then consider other options of financial aid.

  What is a reasonable amount of student debt?


The amount of debt can vary from person to person based on the personal financial situation. But a reasonable amount of debt is defined as one which can be paid back within 10 years after graduation.

  Which debts should I pay off first?


You should always try to pay off bad debt first. Bad debt from a financial perspective is to pay off your highest rated bad debt first, that is the debt with a high-interest rate.

  Does paying off a loan early hurt credit?


Paying off early will not damage your credit score, but if you keep the loan for its full term and make payments on time then you can help you improve your credit score.