Research of the Week: 16 Million Americans have Negative Net Worth

Surprisingly enough, it’s not caused by high interest rate credit card debt.

Are your finances broken by negative net worth?When you try to get a picture of where American consumers stand today, different statistics each tell a different story. For instance, there’s been a 50% decrease in personal bankruptcies since 2005. Foreclosure actions have also dropped to their lowest level since 2005. Still, just because Americans aren’t bottoming out, it doesn’t mean they’re effectively staying afloat either.

A new study from the Economic Policy Institute shows that while Americans may think they’re just getting by, in fact they’re actually falling behind. That’s because over 16 million households currently have negative net worth.

What is net worth?

Net worth is a measure of financial health that compares your assets with your liabilities (debts). As financial equations go, this one is pretty straight forward:

Net worth = Assets – Liabilities

You total up all of your assets, then subtract your total debt. Assets include things like home equity, retirement accounts, valued antiques or art, investments and even your checking and savings accounts. Liabilities are any debt you owe minus what you’ve paid off; for example, the remaining balance on your mortgage and auto loans, along with credit card debt.

The higher your net worth, the better you’re doing overall. Basically, if you have a high net worth and start to struggle, you can sell off some assets to recover quickly. A low net worth means you have nothing in the tank if you run into trouble.

The cause of the current net worth negativity

During the Great Recession a large number of Americans fell into negative net worth for a few reasons:

  1. When the real estate market collapsed, property values fell. Homeowners faced situations where they owned homes that weren’t worth the remaining balance on the mortgage.
  2. When the stock market crashed, many people’s 401(k) and IRA retirement accounts lost funds rapidly. You had Baby Boomers in a panic because their retirement savings disappeared seemingly overnight.

However, once the real estate and stock markets recovered, most of households recovered positive net worth, too. Analysts thought that the number of Americans experiencing negative net worth would decline, much like falling rates in bankruptcies and foreclosures.

That didn’t happen. So, the Economic Policy Institute’s data experts dove into the numbers. The source of negative net worth turns out to be from an entirely different source. It comes from student loans. Roughly 14% of American households have negative net worth and most of those cases involve high levels of student loan debt.

Education is priceless, but the debt is costly

Student loans are a unique type of debt. For federal loans, things like credit score and income are not factors that the lender considers during approval. That makes it easier to qualify for loans, since the lenders based approval on need. On the other hand, this often puts people in a situation where they owe more than they can afford to repay.

In addition, although an education is invaluable, it’s not an asset. Even with a car that depreciates in value, you have an asset you can eventually sell. The thing you gain from a student loan is education that’s intended to earn a higher income. However, if you don’t get that higher income immediately after graduation, you can get stuck. Deferment may keep your loans out of default, but you still owe the money.

This can be a big problem in your life. You can’t qualify for major loans like a mortgage because the lender says you already have too much debt. Additionally, your debt level is so high that it completely offsets any savings or other assets you may have. This is the exact situation faced by 16 million households in the U.S. today.

Finding a path to positive net worth

“If you have student loans, you have to prioritize repayment as much as possible,” encourages April Lewis-Parks. “Find a federal repayment plan with the largest payments you can afford. Even if lower payment options exist, these only keep you in debt longer and make it harder to get ahead.”

Borrowers with federal student loans can use one of 5 federal repayment plans. Each plan offers different advantages. Three plans tie your monthly payments to your income level and family size so you don’t struggle. The other two pay off your debt as quickly as possible, but with higher payments each month.

“Don’t take a plan with low payments just because it’s easier on your budget,” Lewis-Parks continues. “You may have more disposable income, but you’re not doing your finances any favors. Also remember that you can switch plans at any time. So, if you try out a plan with higher payments and start to struggle, you can change plans.”

For more information on student loan debt consolidation and repayment, visit Consolidated Credit’s Student Loan Consolidation Guide.