Financial Capability and Informal Bankruptcy: Comparing Student Loan Holders and Non-Holders

Abstract

Purpose: The purpose of this study is to examine the association between financial capability and informal bankruptcy, especially among families in which the respondent and/or spouse borrowed student loans to fund their own education and families that did not have such loans.

Design/methodology/approach: US nationally representative data were employed. Three family types were used, families with student loans borrowed to fund respondent and/or spouse's education and education was completed (type 1 holders) or not completed (type 2 holders), and families that did not borrow student loans for respondent and/or spouse's education (non-holders). Informal bankruptcy was measured by being insolvent and late in debt payment for 60 or more days. Financial capability was measured by both an index and its various components. Multivariate logistic regressions were conducted to examine associations between financial capability and informal bankruptcy.

Findings: Generally, financial capability was negatively associated with informal bankruptcy, and student loan holders were more likely to be informally bankrupt than non-holders. However, such negative associations were statistically significant for type 1 holders and non-holders but insignificant for type 2 holders. Two desirable financial behaviors (information search and online banking) reduced the chance of informal bankruptcy for type 2 holders.

Research limitations/implications: First, cross-sectional data cannot establish a causal relationship. Second, findings using data from a single country may not be generalized to other countries.

Practical implications: Financial service professionals should help loan applicants evaluate the necessity of borrowing. Banking professionals can use the findings to develop products to meet different consumer needs. Financial educators should target different groups with different strategies in financial capability education. Policymakers should develop policies helping student loan holders complete education funded by student loans.

Originality/value: This study examines factors related to informal bankruptcy, providing insights to warning signs of bankruptcy. This study explores the potential effect of a new factor, financial capability, on informal bankruptcy, filling in a gap in the bankruptcy literature. This study recognizes differences in informal bankruptcy among various types of families and examines the different effects of financial capabilities on informal bankruptcy for different types of families.

Keywords: Bankruptcy, debt delinquency, financial capability, insolvency, informal bankruptcy, student loan