When a young person who has student loans dies unexpectedly, the sad situation may be compounded by student debt falling on the shoulders of the parents.
While federal student loans have a provision that discharges the debt if a borrower dies, private student loans are a different story.
Private lenders such as financial institutions are under no obligation to forgive student debt.
In addition, student-loan debt is nearly impossible to discharge in bankruptcy, and any co-signers are held responsible for the funds.
“We don’t see enough parents considering this scenario,” said Bill Stevens, a vice president at Penn Mutual insurance company.
One recent high-profile example was California couple Steve and Darnelle Mason, whose 27-year-old daughter Lisa died five years ago from liver failure.
The couple took in their three grandchildren and assumed $100,000 in student-loan debt that their daughter had accumulated attending nursing school.
With late penalties and interest over the past five years, the balance has mushroomed to $200,000. The private lender refuses to forgive the debt, according to news reports.
The chance of someone in their 20s dying is low. According to the Commissioners Standard Ordinary Mortality Table, produced by the National Association of Insurance Commissioners, the odds of a 27-year-old dying are less than 1 percent.
“It’s about as likely as a house burning down. But that’s what insurance is for — the unlikely event,” Stevens said.
Nationally, total outstanding student-loan debt has reached a staggering record high of $1.3 trillion, and college graduates who borrowed for bachelor’s degrees granted in 2012 had an average student-loan debt of $29,400, according to the Oakland, Calif.-based Project on Student Debt at the Institute for College Access & Success.
The majority of private student loans require a co-signer. According to a report by the Consumer Financial Protection Bureau in April, nearly 90 percent of private student loans in 2011 were co-signed.
However, the largest private lender in the student-loan marketplace has taken the lead in giving parents some relief in worst-case scenarios.
Sallie Mae introduced a product in 2009 called the Smart Option Student Loan, which automatically forgives a student loan if the primary borrower dies. Sallie Mae offers a lower rate on this loan if a parent or some other creditworthy person co-signs.
Loans that predate 2009 are not covered by the forgiveness policy. Sallie Mae could still choose to forgive the loan, but is not required to do so.
Persis Yu, a staff attorney for the student-loan borrower-assistance project at the Boston-based National Consumer Law Center, said as things currently stand, borrowers and co-signers do not have many rights when it comes to private student loans.
“We think there should be greater protections for co-signers and private borrowers in general,” she said.
“A number of companies do offer discharge rights if the borrowers die. But co-signers may still be on the hook. Unfortunately, a lot of co-signers don’t know what they are getting into when they co-sign student loans.
“Ideally, there should be some kind of relief for borrowers in that situation,” she said.
“It’s an issue many people are sensitive to. It’s a tragedy when a child dies, and for a parent to be stuck with the lingering student-loan debt is salt in the wound.”
For now, a life-insurance policy is the best option for parents, according to Curt Knotick, CEO of Accurate Solutions Group, a financial advising firm.
“A life-insurance policy with a death benefit of the total student-loan debt on the child would help insure that in a tragic event such as the loss of a child, the debt would be paid in full,” Knotick said.
“Parents could focus on what is truly important at that time, which is the family. They would not have to think about the financial hardship the tragedy created.”