Going At It A-Loan

Not the Way to Fund Your Education

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The 2007-8 Financial Crisis inspired sobering realizations, most notably with respect to my own financial ineptitude. About twenty-five years ago I started college with no professional skills or family financing, and an empty wallet (Age: 18, Year: 1985). So I took out loans to cover both the schooling and a little post-graduate trip to Europe. $45,000 in loans later I wound up in a fairly cush engineering job trying to pay it all back (Age: 23, Year: 1990). Five years along that dead-end path and I decided to go back to graduate school with about $12,000 in outstanding debt (Age: 28, Year: 1995). And then finally – after five more years, two technical masters degrees, and an additional trip to Europe – I reentered the workforce to the tune of about $45,000 in student loan debt yet again (Age: 33, Year: 2000). [See: "Insightful Student Loan Calculations" at the end]

Ask not why someone with advanced mathematical ability would do this to himself once, let alone twice. Suffice it to say that none of my undergraduate jobs or graduate assistantship stipends paid all the bills, especially when it came to saving up for extended overseas adventures. The simple truth is that I was absolutely convinced back then that I could outrun the shockwave of my own destruction – that I was essentially bulletproof enough to contain the damages from such a large debt load. And although this may sound like the logic of an adrenaline junkie or gambler rather than that of an engineer – everything actually was in my favor. Besides graduating into what I considered to be a booming tech economy, I’d racked up plenty of marketable academic and work experience.

As such, I found a job right away at a high-tech manufacturer that designed and produced capital equipment for the microelectronics industry. The company made a large variety of automated machinery, from high-speed laser drilling and scribing systems to electronic component inspection and processing tools. Some of the technology was so advanced that it looked like science fiction. The laser systems, for instance, were designed to cut complex holes and patterns into all different types of circuit materials for computers and cell phones. In fact, these same systems were fundamental to the processing of a host of common electronic components. And the company’s customers were all high-tech manufacturers, which essentially made it a part of the high-tech infrastructure that fueled high-tech. As far as I could tell I was totally set and ready to resume the march once again toward financial freedom.

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Unfortunately my timing and career choice could not have been worse. By January 2001 (my starting date) the Dot-com collapse was in full swing… and so too was the demand for high-tech electronics, and thus the capital equipment that processed all of it. Technology spending all but ended as the NASDAQ Composite Index free-fell into the abyss. At home we’d heard rumors for months that company sales were down, and it started to show in the growing torrent of layoffs and on production floors. These were the first internal signs that the tech-bubble itself had actually imploded. Then, at the end of August 2001, my company formalized what I coined as the employee extinction program when it announced a series of ‘cost reduction and containment’ measures. Oddly alarming was how this news coincided with the year’s September 11th attacks. Along with reorgs, 40% of the workforce was to be laid off. And since the process was already in full swing, that left about 30% outstanding. The headcount dropped from the recent peak of about 1400 employees to 850. And it wasn’t just full-time staffers that got axed, but all 200 of the temps as well. So instead of losing about 550 employees, it ended up being upwards of 750! It was as if someone took a shotgun and blew holes throughout the corporate structure. Pieces of corporate identity and memory flew everywhere and then evaporated just as quickly. Those that got laid off found themselves amongst the droves of unemployed professionals from other high-tech firms. For some it would take up to two years or more to find jobs in the sector again. And for those of us that were still working… we just worked that much harder to cover the gaps.

In hindsight I feel like it would have been better to get laid off. If you were on that list you simply lost your job. But if you weren’t, you absorbed another job or two in addition to the one you were already doing. After a while the design engineers were designing and building prototypes and production-ready parts, testing them and writing all documentation, installing them into the systems, and then troubleshooting and repairing everything that went wrong on the production floors, regardless of whether it was design- related or not. It was utterly insane. For every person they canned, we ended up with more work. Evidently – and take note here – management figured that design engineers also had the skills of the project managers, builders, manufacturing engineers, test engineers, and tech writers and could therefore do all of it if needed – especially considering that we were on salary and would essentially work overtime for free! And so we did.  The good news was that we weren’t as expendable as everyone else. The bad news was that we suffered terribly for it. Unfortunately – and take note here as well – I had student loans to pay and didn’t see that I had much of a choice but to hold on tight and work my ass off. In the absence of such a significant debt I would have probably just quit, thrown my stuff into storage and looked for a different job. And if nothing came up – just live on someone’s couch and ride the whole thing out with the Wii and TV. I’m only half-joking here.

At any rate – while the rest of the tech sector recovered in 2003, the threat of impending layoffs at home continued to loom more ominously. By some stroke of absurdity we were de-listed from the NASDAQ by a reprehensible accounting scandal. First the CEO had an actual stroke (as opposed to the aforementioned figurative one), and was replaced by the existing CFO. Then the new CFO discovered his predecessor’s book cooking. Then the Board of Directors replaced the rogue executive with an interim chief. Then we got de-listed. And then – in an even more surreal twist of fate – I began feeling the acute pain and drain of a spinal tumor that wouldn’t be discovered until almost a year later. By the time things were finally turning around in 2004 I was on my way to the hospital for cancer treatment. The whole experience was like hitting a brick wall and then getting sandwiched into it by that ‘shockwave of destruction’ I mentioned earlier.

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Getting rid of my student loans has been akin to taking on a pack of vampires. They’re nearly impossible to kill. Every time the economy went south I’d stop paying extra in order to shore up against uncertainty. And all that did was to prolong the suffering. There was always something screwing with job security. If it wasn’t the high-tech crash it was the accounting scandal, and if not that then my health or something else… like, for instance, the recent 2007-8 Financial Crisis. And regardless of how much savings I’d accumulate, most never found its way back to those damned loans like it was supposed to. A while back I even tried to consolidate at a lower interest rate, but couldn’t since all of my loans were through a state-sponsored program (from my home state) rather than the Fed. While everyone else reconsolidated their Federal Staffords at between two and four percent, I was calling around trying to understand why mine didn’t qualify. And when they finally did? It was only within the confines of the program. This meant that I didn’t have access to federal rates and had to lock in at around 5.8%. And in so doing the loan conditions were, shall we say, less accommodating. For instance – where my individual loans had a permanent disability provision, my consolidated loan didn’t. If I’d stuck with the originals, all would have been forgiven when I ended up on permanent disability. Imagine the help that would have been! Even the provisions for deferment/forbearance were less generous. I knew what I was giving away during consolidation back then – but seriously – who on God’s green earth would ever guess that I’d be groping desperately for both of these provisions some day?

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All told – I’ve made virtually every mistake possible here, all based on educated gambles that I’d have the time, marketability, and health to cover my debts. I was wrong on almost all accounts. But like every reasonably young adult, it was time itself that I misjudged the most. Ten to twenty years (typical loan terms these days) is a long assed time in the scope of things. And statistically speaking, the chances of being embroiled in some sort of financially destructive setback goes way up across an expanse like this. Imagine something like a divorce, lawsuit, extended job loss, debilitating car accident, or health crisis like mine. The probability of this kind of thing happening to you or a close relative at least once by the time you’re 40 is nearly 100%.  You might balk at this, stating that your capabilities and choices are sound enough to lead always to safe havens. But it’s not just your decisions and actions that count here. You’re interacting with a world of possibility, and much of it is slated against you financially.

Just look at the big picture. Here, for example, is what a recent Associated Press article had to say about the possibility of an unmolested and healthy economic recovery:

The Standard & Poor’s 500 lost 55 percent of its value from October 2007 to last March. Even with the recent bounce back, it remains 32 percent below its peak.  And with three-plus months to go, it has been a lost decade. The S&P began [the year] 2000 at 1,469 and is now 27 percent lower. This decade trails only the 1930s as the worst in the modern investing era, and not by that much. Losses this decade have averaged 3.2 percent annually, compared with 5.3 percent a year in the ’30s.  The market turmoil has lengthened careers and delayed retirements…

The consumer is tapped out. Even as their stock portfolios begin to recover, consumers are left with deflated home values and debts piled up during the boom years. If they spend less and save more for years, as many predict, corporate profits may be sluggish and stock gains muted.  The U.S. economy will be wrestling for years with the effects of the [2007] Great Recession and the record amount of government debt it spawned. That could lead to higher taxes.  At the same time, a share of global wealth is gradually shifting to markets in developing countries, especially China and India. [LINK]

Another recent article from PRI’s The World gives some perspective on just how fast competing economies like China are moving. And although the crux of the article is about China’s struggle to reach a level of peak innovation potential, I have no doubt (unlike so many others) that their pursuit here will be fully realized:

China has grown beyond recognition in the past sixty years: an agricultural society transformed into a land of skyscrapers and cell phones. The population has more than doubled. The country’s GDP has grown nearly 80-fold. Chinese officials say what the country used to produce over a whole year can now be done in single day. Sometime next year, China could become the world’s second largest economy…  [LINK] [LINK]

Yet another discusses the graduate unemployment rate, and what the future likely holds for emerging technical graduates as they compete against an ever-increasing wave of highly competent, lower-wage equivalents from other countries:

For the first time in record keeping history, the unemployment rate for those with 4-year degrees or higher has passed the 4 percent mark.  Keep in mind that in the United States, only one in four has a bachelor’s degree or higher.  We tend to think of this group as largely immune, but in deep recessions like this one, a college degree no longer protects you from the fluctuations of the market…  [LINK]

In an apples-to-apples comparison, the US still confers more four-year engineering degrees than India, and its gap with China is less than half of what other reports suggest.

ENGINEERING                       US *             INDIA          CHINA
Bachelor’s Degrees                 137,437        112,000        351,537
Associate Degrees **              84,898        103,000        292,569

*    US Figures adjusted to reflect more inclusive measures used by India.
**  (Or equivalent) Three-year diplomas in India; short cycle degrees in China.  [LINK]

Even after adjusting lower, we can see why things will remain tough.  The globe is hyper competitive now.  Many entering college now face the challenge of examining what they want to do with their lives but also, dealing with the economics of a new financial age.  A college degree was never a guarantee of a job or career security and this will only become a stronger rule in the future.  [LINK]  [LINK]  [LINK]

This wouldn’t seem too earth shattering if it weren’t for the executives that stand vocally behind it.  According to a recent New York Times Op-Ed piece with Thomas Friedman, Paul Otellini (Intel’s chief executive) had the following to say about the situation.

While America still has the quality work force, political stability and natural resources a company like Intel needs, said Otellini, the U.S. is badly lagging in developing the next generation of scientific talent and incentives to induce big multinationals to create lots more jobs here.

“The things that are not conducive to investments here are [corporate] taxes and capital equipment credits,” he said. “A new semiconductor factory at world scale built from scratch is about $4.5 billion — in the United States. If I build that factory in almost any other country in the world, where they have significant incentive programs, I could save $1 billion,” because of all the tax breaks these governments throw in. Not surprisingly, the last factory Intel built from scratch was in China. “That comes online in October,” he said. “And it wasn’t because the labor costs are lower. Yeah, the construction costs were a little bit lower, but the cost of operating when you look at it after tax was substantially lower and you have local market access.”

These local incentives matter because smart, skilled labor is everywhere now. Intel can thrive today — not just survive, but thrive — and never hire another American. Asked if his company was being held back by weak science and math education in America’s K-12 schools, Otellini explained:

“As a citizen, I hate it. As a global employer, I have the luxury of hiring the best engineers anywhere on earth. If I can’t get them out of M.I.T., I’ll get them out of Tsing Hua” — Beijing’s M.I.T.

It gets worse. Otellini noted that a 2009 study done by the Information Technology and Innovation Foundation and cited recently in Democracy Journal “ranked the U.S. sixth among the top 40 industrialized nations in innovative competitiveness — not great, but not bad. Yet that same study also measured what they call ‘the rate of change in innovation capacity’ over the last decade — in effect, how much countries were doing to make themselves more innovative for the future. The study relied on 16 different metrics of human capital — I.T. infrastructure, economic performance and so on. On this scale, the U.S. ranked dead last out of the same 40 nations. … When you take a hard look at the things that make any country competitive. … we are slipping.” [LINK]

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If nothing else, all indicators point to a more complex and interconnected world economy. And it’s likely to become one whose stability depends largely on a host of new and unpredictable variables. Just imagine the decisions of billions rather than millions of highly leveragable consumers across a vast array of government and corporate regulatory structures, and you’ll get a sense for how possible and often we could be dealing with financial crises in the future. In fact, in the sliver of time this article was written, another financial meltdown actually occurred – this time in Dubai – which invoked a renewed sense of panic about crisis impact potential.

The crisis began last week when Dubai stunned global investors by announcing that the quasi-sovereign Dubai World would not be able to make payments on time for some of its $60 billion in debt… [LINK]

On Tuesday, investors again rushed to unload shares of Middle East companies expected to bear the brunt of a possible downturn in the region’s economy amid Dubai’s growing debt crisis. The sell-off came even as the government-owned investment giant, Dubai World, said it is making strides in renegotiating its troubled real-estate debt…

Global markets have been gyrating since Dubai World stunned investors last week by announcing plans to hold off paying its short-term debt. Emerging markets and Asia were hard hit last week, but bounced back in recent days as investors appeared to decide for now that Dubai’s problems will remain contained. [LINK]

This idea of recurrent, interdependent disasters is only reinforced by a recent financial crisis report. With respect to the 2007-8 collapse, Carmen Reinhart and Harvard Economist Ken Rogoff write,

The global nature of the crisis will make it far more difficult for many countries to grow their way out through higher exports, or to smooth the consumption effects through foreign borrowing. In such circumstances, the recent lull in sovereign defaults is likely to come to an end. As Reinhart and Rogoff (2008b) highlight, defaults in emerging market economies tend to rise sharply when many countries are simultaneously experiencing domestic banking crises.  [LINK]  [LINK]  [LINK]

Pair this with their predictions (below) about the possibility of an unmolested, healthy economic recovery, and you may now correlate large loan debt and longer payoffs with a recipe for disaster.

Broadly speaking, financial crises are protracted affairs. More often than not, the aftermath of severe financial crises share three characteristics:

  • First, asset market collapses are deep and prolonged. Real housing price declines average 35 percent stretched out over six years, while equity price collapses average 55 percent over a downturn of about three and a half years.

 

  • Second, the aftermath of banking crises is associated with profound declines in output and employment.  The unemployment rate rises an average of 7 percentage points over the down phase of the cycle, which lasts on average over four years. Output falls (from peak to trough) an average of over 9 percent, although the duration of the downturn, averaging roughly two years, is considerably shorter than for unemployment.

 

  • Third, the real value of government debt tends to explode, rising an average of 86 percent in the major post–World War II episodes... In fact, the big drivers of debt increases are the inevitable collapse in tax revenues that governments suffer in the wake of deep and prolonged output contractions, as well as often-ambitious countercyclical fiscal policies aimed at mitigating the downturn.

An examination of the aftermath of severe financial crises shows deep and lasting effects on asset prices, output and employment. Unemployment rises and housing price declines extend out for five and six years, respectively. On the encouraging side, output declines last only two years on average. Even recessions sparked by financial crises do eventually end, albeit almost invariably accompanied by massive increases in government debt.  [LINK]

And if all of this doesn’t terrorize you into making the connection, recent news from the Washington Post about student loan default issues finally should:

With wages depressed and housing and health-care costs high, even those who can keep up with their monthly student-loan payments are stretching their education loans out for decades. How bad is it? Go to StudentLoanJustice.org and read the stories of “victims” living under crushing student loans. Also go to http://www.defaultmovie.com and watch the poignant trailer from “Default: The Student Loan Documentary.” The feature-length film chronicles the stories of borrowers who, years after leaving school, are trying to repay loan balances that have ballooned to two or three times the amount they borrowed. For so many, the heavy borrowing is unsustainable, and there are a number of efforts underway to call attention to the student-loan sinkhole. [LINK]

I can’t stress this enough. If anything goes wrong in your life – anything serious at all – you’ll be stuck with those loans forever. Time is not on your side when it comes to large loan amounts.

In the end, it really comes down to something pretty simple. There’s a new form of slavery in the world and it’s based on credit and loan debt rather than anything substantial or corporeal. The more loans and the longer the terms, the longer the indentured servitude. Lending institutions know the odds these days regarding your ability to pay off large-sum long-term loans early, let alone on time. They know that there’s always a life-altering event waiting around every corner to slow you down. And to a certain extent they’re counting on it. It’s not that they want you to go broke to the point of defaulting – just to the extent that it drags everything out.

Indentured servitude… there are reasons why people aimlessly follow jobs across the country like nomadic tribesmen. And it’s not just to chase promotions or because they’ve got mouths to feed. It’s also because of the relentless pressure from outstanding debt obligations. Many people are working ridiculously hard in places they dislike just to avoid credit damage, default, or even bankruptcy. Consider this before borrowing anything, let alone student loans. Because with a car loan you can at least sell the car to resolve the debt. Same usually goes for a house. But there is nothing left to sell once you’ve taken on student loan debt. For these you’ve already traded cash for future earning potential. It cannot be undone. And if the loans are large enough you’ll end up selling off your entire future and it’s earning potential. In this way debt equates directly to slavery, because until it’s paid off you’ll be a slave to situations like these:

  • “I can’t possibly tell the boss what I really think because I can’t afford to lose this job. Bills to pay man!”
  • “I’ll work weekends or travel overseas again without pushback because I don’t want to rock the boat right now.”
  • “I could look for a different job, but who’s gonna pay what I make here? Things are rough all over these days.”
  • “Id really hate this job if I wasn’t so worried about losing it.”

With that, I leave you with one last excerpt from (1) a recent Washington Post article, (2) relevant links to other useful articles (3) some insightful student loan calculations, and (4) what I would consider to be a realistic post-graduate budget… which is what I’d also consider to be a miserable failure.

College-educated workers have steadily become more vulnerable to economic downturns since the 1980s, as employers have resorted to cutting middle managers and older workers who may be more expensive. Older and more educated workers lost their jobs at a higher rate during the recession of the early ’90s than in the recession of the early ’80s, although younger, less-educated workers still had the highest rates of job losses, according to research by Princeton University economics professor Henry Farber…

Corporate headhunters said employers can afford to be pickier than they were even just a few months ago because of a surge in qualified candidates.

“The job seekers we’re seeing have stronger qualifications than we’ve seen in recent years based on advanced degrees, universities, and certifications and the reputations of the employers they’ve worked for,” said Steve Kerrigan, east regional managing director of the Mergis Group, a national recruiting firm based in Fort Lauderdale, Fla., that specializes in placing engineering, accounting and finance and other professionals. It’s a job market that favors more experienced workers over recent graduates.  [LINKS]

It’s also a job market that favors (1) increased responsibility and workloads for the same pay, or (2) lower pay for what were formerly the same positions and workloads, or (3) trading down into lower ranked positions at lower pay and potentially higher workloads.

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Interesting/Relevant Articles:

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Insightful Student Loan Calculations:

Aside from loans, there’s one other great way to lose a lot of potential savings. You just need to quit working and go back to school full-time. Combine a lack of income with additional debt-making, and you can generate massive liabilities in short order. For the sake of simplicity I’ll apply a flat 7.25% interest rate to everything. The calculations below are for a five-year term, during which I was engaged in full-time graduate studies while continuing to borrow. Notice how substantial the interest becomes here, isn’t it?

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Using a simple interest calculator:  Webmath.com’s  Personal Finance Calcs.
[Applies a flat 7.25% annual interest rate in all calculations for the sake of simplicity].

The table below shows what I should have done instead. A good employer would provide a continuing education program that reimbursed employees for accredited courses. So while gaining additional invaluable work experience, I could have done the same with coursework… for free. And if the company provided a 401K matching program, they’d add a set percentage to my account each month based on the size of my own monthly retirement contributions… which means I’d likely have even more invested in retirement savings at the end of five years (provided the market was cooperative). Following this logic to conclusion, I’d avoid amassing my current debt altogether. On a lower-tier engineering salary of $50,000 these could therefore have been the numbers:

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(1) With Respect to my Retirement Contributions: If my pre-tax 401K contributions were set at 10% of gross income, then $5000 would go into my retirement account each year, leaving $45,000 in taxable income. Even if my 401K contributions were invested in a conservative money market fund, I’d still have more than $25,000 in retirement savings at the end of five years, plus anything that I’d allocated during the previous five years.

(2) With respect to the $45,000 in taxable income: At an estimated 15% tax rate (state plus federal), my net income would drop to about $38,250. And if I managed to save $6,500 of this per year, I would have about $32,500 in savings within five years.

(3) With respect to the $32,500 in savings: $7,500 of the $32,500 could then be used for closing costs, and the remaining $25,000 as 10% down on a $250,000 house – a good potential and tangible investment.

(4) With respect to my outstanding student loan debt of $12,000: I could have continued to pay about $500/month and had it paid off in a little over two years. Or I could use some of my savings to pay it off rather than allocating for a house. Either way it would have been gone within the first two years, well before I likely contracted cancer.

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A Realistic Post-Graduate Budget:

Prior to having children, here’s what a realistic post-graduate budget might look like. This example is for a married couple, with one as an entry-level engineer and the other a teacher. If nothing else you’ll get an accurate sense for both the magnitudes and number of expenses you’re likely to accumulate.

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Note how easy it is to estimate monthly payments for a host of basic loans. I’ve used a single EXCEL formula for everything. Just click on INSERT, FUNCTION, and then select PMT. The formula asks for the following information for the PMT(Rate, Nper, Pv, Fv, Type) function:

  • The RATE:  The interest rate per period for the loan.
  • The NPER:  The total number of payments for the loan.
  • The PV:  The present value. Total amount that a future series of payments is worth now.
  • The FV:  The future value. Cash balance you want to attain after last payment is made.
  • The TYPE:  Payment at the beginning of the period is 1, at end is 0. (Not used here).

Below are a list of additional expense types that are often forgotten. Breaking these distributed debits out by month (below) shows exactly how much extra is owed per month, leaving little room for surprise. Follow this by a short list of unscheduled, but predictable yearly debits and you’re finally done.  See – that wasn’t so difficult.   :-)


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What’s Left At The End of the Year, Barring Other Unforeseen Expenditures:

  • ($5482 – $4488) = $994 per month, leaving a total of $11,928 per year.
  • $11,928 – $4,105 – $3,500 = $4,323.

With the loan amounts listed above you’ll have very little wiggle room here, even on $86,000 per year! Removing loan debt (like the student loans) would provide another $950 per month, yielding an additional $11,400 in savings per year. Sum total savings would then grow to $15,723. Since basic financial planning suggest saving up to 15% of your post-tax yearly income, here’s how much you should be stashing away each year:

  • $65,785 * 15% = $9,868 (only accounts for two months of expenses if something goes wrong)

Finally – besides maximizing savings and keeping a substantial emergency fund, other sound financial planning principals include the following: Limiting the use of credit cards; determining your risk tolerance and diversifying your investments; and taking the systematic path to wealth rather than trying to shortcut it.

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3 responses to this post.

  1. What’ll really be funny is if I get some of the calculations wrong after broadcasting ineptitude about student loans. If you find anything like that, do tell…

    Reply

  2. Greetings! Very useful advice in this particular post!
    It’s the little changes that will make the greatest changes. Thanks for sharing!

    Reply

  3. Thanks for your input :-)

    Reply

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