STUDENT DEBT MAY DESTROY MILLENIAL RETIREMENT

Many senior citizens still have student loans. Could that also be what the millennial generation’s future looks like?

I hope not.

If you read the previous post, you know that student debt is costly now. And what it does to retirement for the millennial generation will be an even bigger problem in the future.

THE HOUSING PROBLEM FIRST

The symptoms of financial stress are already here. A recent article noted that student debt is damaging the ability of millennials to purchase homes now.

That is what I have heard too, but not from studies. I hear it from my kid’s young adult friends. One told me,

“Look, I just have given up trying to buy a house. That is just a dream, and it is not going to happen. Maybe my parents could do that, but for my friends and me it is impossible. Saving a down payment? How am I going to do that? There is no way.”

That is not how it is supposed to be, especially while working at a well-paying job as she does.

After all, early in your career is the time to purchase the dream of the white picket fence, the small trendy downtown digs or the modest first home.

Instead, many millennials face the reality of a lifetime renting, or must put off the dream of home purchase until after the student debt is paid off. Of course, many defer loans and put off paying now. The loan balances just get larger—and the goal of home ownership gets farther away.

Now, failure to purchase a home is not always bad. And choosing to rent is not always a poor decision. For many renting is a practical way to deal with lifestyle and job issues. However, it is not the path that most of the financially successful follow.

Why? Three financial benefits happen from buying a home. Purchase:

1. Removes some uncertainty from one of the three main life expenses (food, housing, and transport)

2. Fixes the land rent portion of housing cost (but not other costs).

3. Provides increasing equity in an asset that may later be used for retirement expenses.

And that brings me to the pivotal issue: retirement.

THE RETIREMENT PROBLEM LATER

The more money you put away early in your 20’s and 30’s, the more money you will have for retirement. I mean, a LOT more. And right now many millennials are spending any extra money they have paying for their loans instead of saving for the future.

There are two main reasons why saving early in a career helps:

–any money at any time helps

–any money set aside early compounds longer–and that has a massive positive effect over time.

According to Money, starting to save 8.8% (including a company match) at age 25 puts you on a solid path to retire at 65. If you wait ten years until age 35 to start saving, it must be at about twice the rate (16%+) to achieve the same final result.

When a major financial advisory firm published guidelines that showed 30-year-olds should have a year’s salary saved, the social media scorn was overwhelming. The argument was that no one is doing that, and the result was unachievable (it is a good thing I did not write those guidelines; I think many of the targets are too low).

And it is true that we are not achieving retirement goals. About half of those under 25 do not participate in their 401k plans at work. Those that do are saving a paltry 5.3%.

Now, I understand that there is scorn for the millennial scorners. One Australian Billionaire suggested that millennials could get ahead by not ordering avocado toast as much — such a helpful guy.

And I do not agree with that point of view either. I think the millennial generation is being screwed. Yes, it is true that their college degrees position them for higher paying jobs—until you factor in debt. Yes, they could do a better job saving–and so can their parents and grandparents who heap criticism on them. Add to that the odd times we live in: nearly everyone is employed, and only a few are making money.  Almost eighty percent of families are one paycheck away from a major financial problem.

However, MMH is not about criticism. It is about solving problems. So, let’s see how the math looks.

FINANCIAL IMPLICATIONS

Student loan repayment siphons off income during the exact period retirement contributions matter most.

Let’s take a typical student. On average they graduated with $37,000+ in debt in 2016.

So, let’s suppose the student loan interest cost is around 6% and that the repayment period is ten years. That works out to about $400 per month. In turn, that is a cost of about $5,000 per year.

Big deal, right? Well, yes, because the expense comes at the WORST possible time.

What happens if that same expense was put into a retirement account instead? According to a prominent advisory firm, if you put away that $5,000 per year at age 25 for that same ten year period at 7% compounded interest, it would total about just under $100,000 by the end of 10 years.

But that is not the whole story. If the same person never contributed another dime at the end of 25 more years, they would end up with over $600,000 at age 65.

The shocker is when you compare that to someone who paid student debt for ten years and then contributed $5,000 per year to retirement starting at age 35-65. The person who started saving at 25 would have more money, even if they contributed nothing after age 35.

The moral? Savings early in a career are exceptionally valuable for retirement. Compound interest makes the difference.

And, of course, the example I gave illustrates a typical situation. However, a lot of student debt is far worse than the $37,000 example. Add to that; some students have very high loan interest rates too. For some professions such as medicine and law, debt in the hundreds of thousands of dollars at graduation is not uncommon. Some friends of ours have two sons in the medical profession. They owe approximately $250,000 and $500,000 each. In both cases, the interest rate on their loans is higher.

WHAT TO DO

First a complaint: as far as I am concerned some of the individuals who pushed unnecessary student loans are on a par with those who decided to put candy flavors into vapor cigarettes.

After all, they are going for the same high school market. It is only the dependence and addiction that are different.

Whew. Ok, I feel better now, having spewed that venom out, but that does not help you if you are broke. And let’s face it that is what many former students are. Broke. Broke in spite of a good job and a reasonable salary.

Being broke, for most, does NOT mean that bills go unpaid. However, if the trade-off is paying the bills versus saving for retirement, consider yourself broke. The reason: significant expenses are coming as you get older, but you will have no resources to deal with them.

It is a bit like buying a car but having no money in the bank for gas or repairs.

Unfortunately, there are no easy, painless answers.

I know that from experience because I faced a similar situation in my own life. I was not broke but realized that my future obligations were going to be massive—far beyond what I expected to earn or manage at my level of earnings at the time. And no one was going to help me. So I did what I would advise anyone to do:

1. Immediately dealt with the present–I had to face that reality and control those things that I could. There is an excellent article about the array of possibilities here.

2. Faced that unpleasant future, and took actions to estimate the expense, and then and prepare for it.

In the case of student loan holders, the unpleasant future is embodied by uncertain housing finance and even less certain retirement.

If that unpleasant future belongs to you, take a look at the article I just provided a link to. After you have taken actions to create some savings, the next question is: should you save for a home or a retirement if you can’t do both? As was pointed out before, the two issues are indirectly related.

A personal financial adviser is called for when priorities conflict with one another. Hire one if you need to. You see, even experts are split on this issue, and much depends on the client’s situation. An excellent article by a well-respected blogger describes the trade-offs here.

Most advisors lean toward saving for retirement if only one goal is attainable. The reason: renting expense may not be ideal, but retirement expense is inevitable.

If you are lucky, you get to grow old. Just be prepared for when that happens.

Disclaimer: consult with a financial professional before taking any steps outlined here. Not all advice may be suitable for your circumstances or investment style.

Photo credit: JiNKY Lim: Silhouette of Sadness

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