Exodus Into Longevity

Can Debt Derail An Otherwise Sound Retirement Plan?

Three strategies for reducing damage from student loan debt

by Marcia Mantell, RMA®, NSSA®

Ms. Mantell is the founder and president of Mantell Retirement Consulting, Inc., a retirement business development, marketing & communications, and education company supporting the financial services industry, advisors, and their clients. She is author of “What’s the Deal with Retirement Planning for Women,” “What’s the Deal with Social Security for Women” and blogs at BoomerRetirementBriefs.com.

These days student loan discussions abound in Washington and around kitchen tables across America. They focus on student borrowers and how to handle the $1.7 trillion dollar debt problem.

Surprisingly, one group of student loan-holders is missing from the conversation: parents. Including parents who are nearing retirement. Millions are managing college loans with years of repayments and tens of thousands of dollars to go.
The CARES Act suspended loan repayments and temporarily reduced interest rates to 0% for 46 million Americans. This relief is ending. Beginning February 1, 2022, many of these borrowers, including parent borrowers, must restart their loan payments.

Parents Paying For College

Information on the numbers of parents who borrow to pay for college is scattered. Sallie Mae/Ipsos issued a report, How America Pays for College 2021, with the following statistics:

  • Some 11% of parents pay tuition and expenses with federal PLUS loans.
  • 18% of parents use private loans available from banks, credit unions, and financial institutions.
  • 6% of parents choose home equity lines of credit.
  • And for smaller amounts, or to set up monthly installments, credit cards come in handy for 8% of parents.

All options carry high interest rates and many have upfront fees. With the exception of the federal PLUS loan program, many do not offer relief if payments become unaffordable. A significant concern as income may drop substantially in retirement.

Raiding IRAs and Retirement Plans is Common

Unfortunately, many parents also raid their IRAs or 401(k)s for qualifying college expenses. Parents can withdraw from a Traditional IRA without the 10% early withdrawal penalty but will owe ordinary income tax. Roth IRA contributions can be pulled out for any reason. And, most employer retirement plans offer loans or hardship provisions that parents use to fund college.

From the Sallie Mae/Ipsos report, parents are trading in their future retirement funds for their children’s college payments in 2021:

  • 16% of families withdrew money from an IRA, up 2% over 2020.
  • 6% of families took loans from their employer retirement account, down 1% over 2020.

In total, almost one-quarter of parents use retirement money that they are unlikely to replace. That results in reduced account balances and lost compound interest. And, this option backfires with loan defaults and restrictions from making future contributions.

A parent’s desire to fund their children’s future cannot be underestimated. But the damage to their retirement can be crippling.

Outstanding Debt Especially Hurts Older Clients

The amount of money parents owe on student debt is nothing short of staggering. Over 2.3 million parents 62 and older collectively hold $93 Billion in Federal loan obligations—an average loan size of $39,000. Looking deeper, 29% of these parents owe between $40,000 and $280,000+. Their average outstanding loan amount is $105,000.

Parents between 50 and 61 should be in their “super save” years for retirement. Instead, a whopping 6.3 million have outstanding Federal student debt with an average $43,000 owed. Fully one-third of these parents owe more—to the tune of $102,000 on average.

Any client with $100,000 outstanding student loan debt pays over $1,100 per month (assuming this year’s average PLUS loan 6.28% interest rate and a 10-year repayment schedule).

Federal data only tells part of the story. Millions more parents have outstanding debt from other avenues. All in, problems continue to compound against retirement readiness. Client may:

  • Stop or delay savings into their retirement accounts.
  • Miss catch-up contributions in employer plans and IRAs.
  • Carry high-interest debt into retirement.
  • Max out credit cards and damage credit scores.
  • Miss out on valuable Health Savings Accounts.
  • Attempt to offset loan burden with less-than-ideal investment strategies.

And, unbeknownst to many, Social Security benefits may be reduced to collect delinquent debts owed to the Department of Education.

Parents between 50 and 61 should be in their “super save” years for retirement. Instead, a whopping 6.3 million have outstanding Federal student debt with an average $43,000 owed...

The situation for many clients is truly bleak. While there are few options after the damage is done, there are strategies advisors can offer.

3 Strategies to Offer

Strategy #1: For clients who already carry college debt

Betsy Mayotte, President of TISLA –The Institute of Student Loan Advisors, Plymouth, MA (https://freestudentloanadvice.org/) shared this insight: “I get emails every week from parents who are 57 or 68 and saddled with student debt. They thought they were making good decisions for their child’s education, but that was decades ago. Now they face the reality that retirement will be delayed. Some of the emails are heartbreaking.”

If a client took out Parent PLUS loans, there are options financial advisors should bring to the table, Mayotte suggests:

  • The Income-contingent repayment (ICR) plan is available for most federal student loan borrowers. While more costly than other options for the student borrowers, it does offer a possible relief valve. Repayments are capped at 20% of discretionary income, which may be lower once a client is in retirement. After 25 years, the remaining debt is forgiven.
  • The Public-Service Loan Forgiveness program may apply to parents who work for government or most non-profit employers. The criteria can be tricky, but worth the effort to have remaining loan balances forgiven after 120 payments.
  • Disability discharge if a parent becomes disabled. Federal loans, but not many private loans, carry an “out clause” if the debtor becomes disabled. If your client becomes eligible for Social Security Disability Insurance or becomes unable to work due to physical or mental impairment, they may qualify to have the balance of the loan forgiven.

Advisors can find more information about these parent loan repayment and forgiveness programs, and others, on the TISLA website. Mayotte also offers a student loan boot camp designed for financial advisors. 9 hours of CE is available to CFPs, but all advisors may attend. Check the website for upcoming dates and use discount code FOB for $100 off.

Strategy #2: For clients with high school students

For clients with children on the cusp of entering college, make a compelling case about retirement implications if parents are considering loans. Nancy Paul, founder of The Institute for Financial Literacy in College Planning (https://www.finlitinstitute.com/ ), Westlake Village, CA, reminds her clients, “There’s no borrowing option for retirement.”

Paul believes every family should know the full range of financial options available. “Finding the all-in costs of college should be easier and more transparent than it is. And it’s critical to know all the possible options available for paying for college early in the process. Unfortunately, that is simply not the case.”

Financial advisors can make a significant difference for their clients by employing key planning techniques, including:

  • Laying out college costs and debt considerations. Use any online college repayment calculators to show the size of monthly repayments.
  • Mapping out the impact to the client’s retirement savings strategy if they are considering pulling money from retirement accounts. Show the significant drop in ending value for their future retirement.
  • Discussing other options – family help, student employment, lower-priced colleges, scholarship searches, etc. – instead of tapping their IRAs.

Learn more about helping clients afford both college and retirement. Nancy Paul’s programs created for financial advisors may be part of the solution. See https://www.nancypaul.com/ for more information.

Strategy #3: For clients with hopes of sending their young children to college

These are the easiest clients to work with. They have 10 or more years to save for college. Advisors already have 529 plans in their arsenal. The new pieces to add to the discussion from early-on include showing more real numbers:

  • Illustrate meaningful growth of a parent’s retirement account by continuing to increase contributions each year.
  • Display the repayment schedule on parent loans if they don’t save enough for college in advance.
  • Put other strategies on the table now rather than later. Might they downsize their house? Sell a vacation home or turn it into rental property? Clear other consumer debt aggressively and reroute those payments into college savings?

Bottom Line

None of these strategies are happy discussions. But they are critical to have. Mayotte talks to older parents who carry student debt every week. “They call looking for any possible solution to lighten their debt load. The repayments are crushing their cash flow and making retirement either impossible or not at all what they were hoping for.”

Financial advisors can and should get ahead of the retirement vs. college conundrum. There are options if you start early enough. Stay abreast of the deals going on in Washington. And continually look for ways to help your clients navigate an increasingly expensive path to both college and retirement.