For the past several years, I have warned of the major policy flaws in the various Obama-era income-based repayment plans for Federal Direct student loans. This month, a new CBO study requested by Senate Budget Committee Chairman Mike Enzi (R-WY) and Senate Health, Education, Labor, and Pensions Committee Chairman Lamar Alexander (R-TN) documents the explosive growth in the use of this repayment option and its future cost implications for taxpayers and borrowers.
Explosive Growth Since 2010 Government Takeover
The new report shows that income-based repayment plans are now projected to cost federal taxpayers more than $200 billion over the next decade. Most of this cost will be for loans made to graduate students, who are more likely to use an income-based repayment option than undergraduates. In 2010, only 6 percent of graduate student loan borrowers used income-based repayment. In 2017, that number had grown to 39 percent with outstanding loans represent 56 percent of the Direct graduate loan portfolio amount in repayment. In comparison, 24 percent of undergraduate borrowers used income-based payments (up from 10 percent in 2010) but they only represent roughly one-third of the undergraduate loan volume in repayment.
Income-based Repayment Increases Students’ Overall Borrowing Costs
Federal income-based loan repayments currently have a very liberal payment requirement. Under the law, the Education Department excludes all income below 150 percent of the Federal poverty guideline, and the monthly payment is then based on percentage of the remaining discretionary income, as low as 10 percent.
In 2020, this means a borrower earning $40,000 per year would only be required to pay no more than $173 per month if they were single without dependents, $118 per month if they were a single parent of 1 or married with one child, or $61 per month if the borrower was married with one child -- regardless of how much they actually borrowed. Compare this to the $345 per month that the typical borrower with $30,000 in undergraduate loans would pay over 10 years or $266 per month over 15 years under traditional fixed payment plans.
Thus, a borrower’s income-based payments often don’t cover the interest accruing on their loans, a sharp contrast to the former Federal Family Education Loan (FFEL) program, which required a minimum payment that was the greater of $50 per month or the amount of interest due on the loan. As a result, many current student loan borrowers’ balances are growing rather than going down over time because their income-based payments are not covering the accruing interest. This unpaid interest is being added to the amount they originally borrowed despite the fact they are making monthly payments.
CBO found that of the borrowers making income-based payments in 2012, over 75 percent owed more than they originally borrowed in 2017.
Income-based Repayment is Costly to Taxpayers
According to the CBO report, the Federal government is projected to lose 16.9 cents on every dollar of loans to borrowers who make income-based payments, in contrast to earning 12.8 cents on every dollar to borrowers who pay under fixed monthly payments. Most of this cost difference is projected to come from the forgiveness of loans made to graduate students, who can currently borrow up to the full cost of their education – including tuition, books, travel, and living costs.
The current income-based payment plans forgive outstanding loan balances after 20 or 25 years, depending on the plan, and as little as 10 years under the Public Service Loan Forgiveness plan for those working in the public and non-profit sectors continuously for 10 years.
CBO projects that over 80 percent of the loan amounts that will be forgiven over the next decade will be for graduate school borrowers. This amounts to $167.1 billion, or roughly 56 percent of the amount projected to be disbursed to graduate students during the next decade.
One staggering statistic from the report shows that graduate borrowers who borrowed the highest amounts (top 20 percent) will receive forgiveness on average more than $118,000 per borrower. Compare this sizable Federal subsidy to the current average Pell Grant of $4,250 awarded to the neediest undergraduate students.
Initial Congressional Reaction
Senate Budget Committee Chairman Mike Enzi (R-WY) reacted to the report stating that it “confirms the explosive growth of income-driven repayment plans is unsustainable.” He added that “any system that lends more than is repaid will ultimately become a liability to American taxpayers” and noted “the significant majority of the benefits of these programs are going to forgive graduate student loans” raised concerns over whether Congress was “targeting limited federal resources appropriately.”
A copy of the report is available
here.
The McKeon Group understands the nuances of the political, policy and budget processes in higher education. We can help you craft workable, sustainable policy solutions on student loans or other matters. Contact me at jeffandrade@mckeongrp.com for more information.