Student Debt, Disrupted: How Fintech Is Disrupting the Student Loan Industry College life is supposed to be an enjoyable journey. As you step into your new social circle and explore newfound opportunities, you will eye lucrative professional avenues. Graduating with student...

College life is supposed to be an enjoyable journey. As you step into your new social circle and explore newfound opportunities, you will eye lucrative professional avenues. Graduating with student loan debt is the last thing you'd want, but that's how the reality stands! Around 69% of US graduates leave college with a student loan debt.

With the cost of higher education shooting up, financing your college can be challenging. While the government sets federal loan rates, you may even be paying higher interest on private loans. The end result is you graduate with zero savings. Isn't it pretty dangerous for your long-term planning? Student loan debts can delay your retirement goals no matter how much you earn through your side hustle or job while in college.

This need not be the case for financially resilient students who have already started counting on fintech lenders. If you have been seeking a possible solution with an alternative source of college funds, it's time to understand the fintech lending models. Fintech has been disrupting the student loan industry, challenging private banks and easing up loan disbursals for students.

How menacing does student loan debt look?

Financial experts habitually advise individuals to be debt-free early in their lives. On the contrary, student loan debts can mess up your long-term planning and even delay life events like marriage or raising a family. Let's take a look at these figures that tell the story.

• In 2021, federal student loan borrowers had an average debt of $37,338.
• Private student debt looks even more menacing at $54,921 per individual.
• For a bachelor's degree, students borrow more than $30,000 on average.
• More than 45 million Americans are now in student loan debt, of which 92% have federal debt.
• Even after 20 years after getting enrolled in college, around 50% of borrowers owe $20,000 each to lenders.

How can student loan debt affect your financial planning?

Most borrowers fail to realize the long-term implication of student debt on their financial planning. Graduating with debt can derail your long-term plans and even prevent you from attaining financial independence. You might have to sacrifice your plan to purchase your property before marriage or continue living with your parents for a few more years.

• Given that a college education happens to be a prerequisite for better financial stability for most students, it's easy to accumulate debt. This debt has a ballooning impact, which manifests in society at large.
• Over 20 years, the average student loan borrower ends up paying $27,000 just on interest.
• On average, you need to repay $503 on account of your student loan debt.
• Student loan obligation prevents millennials and Gen Z from trying and making any savings. The debt burden further balloons to lower levels of income accumulation compared to previous generations at a given age.

Financial hurdles also affect the credit score in case of defaults or late payments. This makes it further challenging for students to get access to loans. Besides, red marks on the credit report make future loans expensive. This implies they would end up paying higher interest rates on real estate mortgages or car loans.

Federal student loans and their shortcomings

There's no denying that the federal government has approached the critical problem of rising education costs by strategizing financial aid. However, is this strategy adequate to bail students out of the loan burden?

You need to repay your federal loans unlike scholarships or grants, which are virtually free funds. Whether you defer your payments or drag the loan on for 25 years, your obligation remains a burden.

Federal funds fall miserably short

You also have access to aids, which can be need-based or non-need-based. Loans and work-study programs are not the solution: they partially ease up your cash flow to finance your college education. By far, students heavily count on federal and public loans to cover the majority of fund requirements.

While the federal government helps students avail of college education, it doesn't consider the credit risk. Regardless of your ability to repay, you may qualify for federal loans. However, have you strategized the ideal repayment plan to clear off your federal loan debt and walk off to embrace financial independence?

No repayment assessment

As a lender, the federal government doesn't consider your ability or willingness to repay the loan. Most importantly, the government has enough money to lend, which automatically keeps the debt burden mounting.

Considering the financial stability of an 18-year-old, is it logical to expect timely repayments? Eventually, the very nature of federal loans and the lack of financial literacy among the borrowers lead to a debt burden.

The situation worsens for college drop-outs. They find it challenging to get student loan debts forgiven by filing for bankruptcy.

Forgiven debt invites tax

It's easy for college students to end up with heavy debts, given that there's no mechanism in place to evaluate their repayment ability. Federal loans are not disbursed on the basis of credit score or income.

The income-driven repayment plan requires you to pay 10% of your disposable income. While this might be seemingly manageable, the interest rates keep mounting. So, if you drag the loan for 25 years, the interest may exceed the monthly principal repayment. Even if you manage to get the debt forgiven, you end up paying a hefty tax. Remember, the authorities would treat forgiven debt as your income.

Private student loans and their low approval rates

While public loans account for just 8% of student loans, US citizens currently have a massive debt burden of $130 billion to private lenders.

The shortcomings of federal loans and their capping system prompt students to count on private lenders. Mostly, private lenders help students manage their living expenses and associated college expenses at a higher interest rate.

With private loans, you need to get a co-signer or your guardian to apply along with you. The bank evaluates their credit record before granting the loan. Incidentally, more than 90% of private student loans require parents to co-sign.

The problem arises with the eligibility of parents holding a below-par credit record. In case they had missed repayments, defaults, or even a high debt-to-income ratio, qualifying for the loan turns out to be challenging. In case a private lender declines the loan owing to a poor credit record, how do you plan to manage your expenses?

Can fintech come to the rescue?

The inception of fintech companies and their generous loan disbursal approach has been a game-changer in the student loan industry. With innovative business models such as peer-to-peer lending and flexible repayment terms, fintech firms are challenging legacy banking institutions.

From easy approval of private student loans to seamless refinancing, fintech firms have designed a plethora of affordable products for students. For instance, refinancing federal or previously existing private loans through fintech firms brings you some strategic benefits:

• Lower-interest loans, particularly for refinancing direct unsubsidized (6.54%) and direct PLUS (7.54%) loans
• Lower monthly repayments if you decide to refinance for a longer tenure
• The ability to consolidate multiple high-interest loans into a single loan with lower interest

Thanks to smart algorithms, fintech companies are better poised to evaluate the repayment capacities of students based on their major and industry trends. Thus, fintech firms are choosy while shortlisting their borrowers. Fintech firms are disrupting the student loan industry with attractive interest rates and instant approval.

How is fintech making a difference in the education loan industry?

Top fintech companies have already brought about some disruptive innovations to make a visible difference in the student loan industry. As the name suggests, fintech companies offer financial services while leveraging sophisticated technologies.

Big data, smart algorithms, smartphone apps, and machine learning-backed technologies empower these companies to streamline the loan-approval process. Unlike legacy infrastructure, they use data-oriented online platforms for operations. With lower human interference, fintech firms manage to slash operational costs. Thus, they pass on these benefits to borrowers in terms of lower interest rates.

Merit or future-income-based lending eases up finances

Unlike traditional private banks that largely disburse loans based on credit history, fintech firms have developed the merit or future-income-based lending model.

College students hardly develop a decent credit record to qualify for loans without a co-signer. Addressing this crisis, fintech players have devised smart mechanisms to evaluate the repayment capability or probability of the borrower to repay the debt based on future income prospects.

Fintech players have trained algorithms to evaluate variables such as the institution's reputation, major, GPA, graduation date, industry trends, and salary expectations. In the process, they develop a realistic repayment model that suits most candidates. The model assumes that once the candidate graduates and finds employment during post-graduation, they will repay their debt first.

This approach results in a higher rate of loan approvals. Whether you need a student loan or a debt consolidation loan, qualifying through these online platforms is easier than ever.

Endnote

As fintech companies continue to evolve, students find a ray of hope in planning their finances and alleviating the loan burden. With further technological advancements, higher competition, and consistent efforts of fintech giants to address students' pain points, you can be the master of your finances.

Fintech has been a disruption in the student loan industry, and for a good reason. With a financially resilient stance, students can deal with college debt like a pro.

The benefits of counting on these virtual platforms include the following:

• A streamlined loan application process and more efficient approval systems
• Competitive rates of interest, which often turn out to be lower than traditional lenders
• Flexible repayment options customized to the needs and financial circumstances of individual borrowers

FAQ

How is traditional finance different from fintech?

The approach of fintech companies in leveraging technology makes them different from traditional lenders. Thus, they manage to streamline the application and borrowing process. Fintech companies offer student loans at competitive interest rates, besides providing flexible options for repayment. Using digital tools on online platforms, they simplify the borrowing process.

Can all types of borrowers qualify for fintech student loans?

A wide range of borrowers can access fintech student loans. These include current students, students with no credit history, and recent graduates. The lending criteria, as well as the current financial circumstances of the borrower, determine whether they would qualify for loans from fintech companies.

What are income-share agreements (ISAs)?

Fintech companies often disburse student loans based on Income-share agreements (ISAs). This alternative financing mechanism allows you to receive a loan in exchange for a percentage of your projected future income. ISAs typically don't charge interest, unlike traditional loans. Rather, you must repay a fixed percentage of your income once employed. Fintech companies would receive this payment for an agreed tenure. Based on your income level, you also enjoy flexible repayment structures.

How does AI help fintech companies process student loans?

Fintech firms largely depend on AI-powered loan matching algorithms. Considering their respective financial profiles, they can efficiently match lenders with suitable borrowers. These algorithms are trained to consider parameters such as loan requirements, income, credit history, and future income. Accordingly, these systems generate personalized loan recommendations. Besides, AI-powered digital finance management tools help students gain better insights. Thus, they can plan their loan repayment schedule based on their repayment capacities.

Are there any risks associated with fintech student loans?

While considering the benefits, it's easy to overlook some of the common risks of fintech loans. You might face concerns over data security or privacy unless you borrow from a reputable lender. Besides, you must carefully scrutinize the loan terms, such as potential penalties and fees or repayment obligations.

Featured Image Credit: Photo by Thanh Nhan; Pexels; Thank you!

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