Framing the Student Loan Problem
Part of our investment discovery process at Loup is to identify large problems, define the problems in our structure of cost/convenience/moral, figure out the best way to solve the problem, then find the companies doing it. We plan to regularly write about problems we identify as part of our 99 Problems series.
Student loan debt is a huge problem and a huge opportunity. In the US, there is currently $1.5T in outstanding federal student loan debt among 45 million borrowers. 10% of the outstanding debt, $150B, is over 90 days delinquent or in default. Over the next four years, this number is projected to reach 40% (Brookings).
Here are a few of the problems we’ve identified related to the student loan space.
Borrower convenience in figuring out the optimal repayment plan. Paying back your loans is easy for borrowers with high-paying jobs and stable incomes who can just set up an autopay. However, most borrowers, particularly those newly graduated, don’t have this luxury. For that segment of borrowers, it’s hard to figure out the optimal repayment plan based on their unique circumstances. Current income, future income, family size, location, and living expenses all play a role in determining the right repayment plan. Borrowers are left to figure this out on their own without much guidance from the federal loan servicers. Circumstances change over time and borrowers aren’t sure if/when they should change their plan. Often, borrowers remain on the same repayment plan without understanding the long-term consequences. Products that succeed in this category must focus on ease of use and saving borrowers time.
Borrower cost of loans with higher-than-necessary rates. Companies like SoFi, Earnest, and Common Bond offer student loan refinancing and private student loans. While this helps borrows save money over the course of their loans, the products and services offered are typically limited to a small percentage of student loan borrowers that they deem “Henry” (high-earning not rich yet). According to NerdWallet, the average approved SoFi borrower has an income of $130,000 and a credit score of 766.
Refinancing can make sense for high earners, but it can remove federal provisions that benefit borrowers. If a borrower keeps their student loans with a federal loan servicer, they are able to adjust their repayment plans to one of the four income-driven repayment options, apply for forbearance when appropriate, and even have certain pathways to loan forgiveness. If a borrower refinances with SoFi or another company, they give up these protections in return for a lower interest rate.
Borrower cost of negatively amortized loans. Half of all loan borrowers (48%) have loan balances that are negatively amortized — monthly loan payments aren’t enough to cover interest payments. (Federal Reserve Bank of New York Consumer Credit Panel). If you adjust and remove borrowers currently in school, the number is closer to 39%. Borrowers with negatively amortizing loans are costing themselves more in the long run by extending the life of their loans and the amount of interest they pay. Many borrowers could sacrifice current comforts for future peace of mind by paying more for their loans today, but often don’t understand the impact that their discretionary spending has on their long-term financial health. Products that understand a person’s income and spending habits via bank data can help push borrowers toward more responsible repayment habits.
Employer cost of employee retention, productivity. Student loan debt negatively affects employee retention (ASA, EBRI) and productivity (Lockton), so employers are experimenting with student loan payments as an employee benefit. There are certain ways for employers to make these payments with pre-tax dollars, but it remains unclear and complicated for employers to navigate. Recently, Chegg announced a plan to help pay off employees’ student loans.
The solutions to these problems will differ depending on what companies are trying to solve, but winners are likely to follow current fintech trends:
- Millennial inspired design/branding
- Mobile first
- Dynamic customer service
- Wins customers without spending on traditional marketing
We expect to see more activity in the student loan space over the next few years given the magnitude of the problem. Whoever the winners end up being, it’s a problem worth solving.
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