How Much Should You Borrow For A College Degree? The price of college is increasing nearly eight times faster than wages. This means that overpaying for an education is becoming increasingly disastrous. It also points to the fact that paying your way through college the way your parents did is no longer realistic.
According to the National Center for Education Statistics, the average cost per year at a public four-year university was just over $19,000 for the 2015-2016 academic year. The number balloons to nearly $40,000 for a private university.
These totals include tuition, fees, room and board. An average four-year degree can run from $76,000 to $160,000. But that’s just the average. The full cost of attending New York University this year, including room and board, is just under $70,000, meaning the four year course for a freshman will easily top $280,000.
When you realize that having a high debt burden can mean having to choose between saving for retirement or paying off student loans, it’s easy to see that overpaying for college can set you back financially for many years. Compounding the problem:
there’s a good chance that young Americans will earn less than their parents did, which stands in stark contrast to our expectations that each generation will be better off than previous ones.
College Is Still Correlated With Higher Earnings
Still, according to a study by the Federal Reserve Bank of New York, attending college is still worth it. That doesn’t mean, however, that paying more to go to college means you’ll earn more when you graduate.
If I were to walk up to you on the street and offer to sell you a pack of Skittles for $10, you’d call me crazy and walk away. Within a matter of seconds you are able to calculate the perceived value of the candy and how much you’d be willing to pay for it.
But when it comes to college, the calculations go out the window, and students sign loan paperwork without asking questions.
A college education is one of the largest investments you’ll make in your lifetime. It needs to be treated as an investment. The good news is that I’ve created an easy rule of thumb to help you determine how much you should borrow to go to school.
If you have parents, grandparents, or scholarships that are covering the cost for you to attend college, then consider yourself extremely lucky. For everyone else, you have homework to do.
How To Calculate How Much You Should Borrow For A College Degree
When it comes to borrowing money to pay for school, you need to think about the burden that monthly payments will put on you upon graduation.
When you are thinking about all of the fun you’ll have in college, the football games, and interesting courses, it’s easy to forget about life after graduation. But it will come quickly, and if you don’t plan wisely, it could affect the rest of your life.
To calculate how much you should borrow for college, see the following rule of thumb.
Rule of Thumb: Your Salary Should Be 1.5x Larger Than Your Student Loan Balance
Total Student Loans = Projected Graduation Salary / 1.5.
In other words, take your expected salary after graduation and divide it by 1.5. You should strive to keep your total loan balance below this amount.
This means you should be looking at a specific set of possible careers when you enroll in school. If you don’t know what you want to study, then working and saving for school while you figure it out might be a more prudent choice.
Mathematically, this rule of thumb limits your monthly payment to roughly 12% of your after-tax take-home pay.
We calculated this assuming a 5.05% interest rate on your loans (which is the interest rate on Direct Federal Student Loans as of this writing), a standard 10-year repayment, and 30% in taxes and payroll deductions from your paycheck.
The reason that 12% is a reasonable target is that it will leave you enough of your income to pay for your housing, living, and other daily expenses while giving you breathing room and the ability to save for retirement.
If you end up borrowing more to complete your studies, you’ll have to cut back in other places to keep the payments manageable. That could mean living at home with your parents for a couple of years after graduation or working while in school.
To save money, consider taking the first year or two of coursework at a local community college, and then transferring to a four-year college or university.
The System Is Designed To Lend You Potentially More Money Than You Can Repay
Student loans are unique. With a mortgage, car loan, credit card, or any other type of debt, the lender evaluates your ability to repay before extending credit. That’s not true with student loans.
And while applying for loans is a standard part of a financial aid application for many universities, the reality is that many graduates are not prepared to pay them off upon graduation. Universities have fine-tuned the process for their students to apply for and receive student loans.
These processes pay little attention to starting salaries or expected post-graduation incomes. The schools aren’t making sure that you take out an appropriate amount of debt based on your expected future earnings. You will need to do this yourself to make sure you aren’t overpaying for a college degree.
Whether you are only beginning to think about going to college, or ready to sign the paperwork for student loans, remember that while student loans are easy to get, they can be very difficult to pay off. This means that getting a good value out of an education is as important as ever.