College loan debt has become a red-flag issue rivaling that of home mortgage debt a half-decade ago. Ironically, the White House, like Congress, in the haste to avert disaster, might create it. President Obama’s Fiscal Year 2014 budget includes a plan to expand participation in the Income-Based Repayment program, which is designed to assist eligible persons going through a partial financial hardship to stay current on federal student loans. At present, the program forgives outstanding debt for borrowers who make 20 years of timely payments – 10 years if they work in the public or nonprofit sector. But eligibility is limited to borrowers approved since October 2007. The Obama plan would extend forgiveness to those who took out loans before that. And it would render debt tax-exempt. It’s a sweet deal – except to taxpayers.
National Legal and Policy Center twice has examined in detail the student debt issue in recent months (here and here). Like amnesty for illegal immigrants, it’s an issue guaranteed to intensify over the next several months. According to time-series data released last week by the Federal Reserve Bank of New York, total outstanding student loan debt at the close of First Quarter 2013 reached an all-time high of $986 billion. That’s up from $966 billion for Fourth Quarter 2012. More significantly, it’s almost quadruple the figure for First Quarter 2003. What makes the most recent quarter especially disturbing is that overall consumer debt declined by a combined $110 billion from the previous quarter. Almost all of that drop in total debt is attributable to mortgage repayments, and is now down to a level not seen since 2006. The Fed report also showed that fully 43 percent of Americans under age 25 carried student debt during 2012, up from 25 percent in 2003, and that the average debt load among borrowers in 2012 was $20,326, up from $10,649 in 2003. Moreover, the 90-day (or more) delinquency rate by the end of First Quarter 2013 was 11.2 percent, down from 11.7 percent the previous quarter. That’s encouraging news, but to keep things in perspective, 11.2 percent is still well above the 90-day rate of 6.0 percent for overall debt.
In the face of such indicators, lawmakers on Capitol Hill have come out with proposals to alleviate student debt loads while presumably maintaining high lending standards. This April, NLPC took a long and critical look at Senate and House legislation (S.114, H.R. 532) introduced this winter. This proposal, led by Sen. Dick Durbin, D-Ill., would authorize discharging outstanding privately-underwritten student loans in bankruptcy court. Yet that’s just one of the higher education financing bills now being pitched. Consider:
Three Republican senators – Tom Coburn (Okla.), Richard Burr (N.C.) and Lamar Alexander (Tenn.) – in April unveiled a proposal called the Comprehensive Student Loan Protection Act (S.682). The measure would require all new Stafford, Graduate PLUS, and Parent Plus loans in a given academic year be set to the U.S. Treasury 10-year borrowing rate plus three percentage points.
This month, Rep. John Kline, R-Minn., chairman of the House Committee on Education and the Workforce, introduced legislation, the Smarter Solutions for Students Act (H.R. 1911), which, among other things, would: 1) tie student loan interest rates on both subsidized and unsubsidized Stafford loans to the 10-year Treasury note, plus 2.5 percent; and 2) calculate graduate and parent PLUS loans using a formula based on the 10-year Treasury note, plus 4.5 percent.
Sen. Elizabeth Warren, D-Mass., also this month, introduced the Bank on Students Loan Fairness Act, which would set the interest rate on certain new student loans at 0.75 percent, the rate currently offered by the Federal Reserve to big banks, during July 1, 2013-June 30, 2014. Warren intends her bill to counter a pending hike, set to kick in this July 1, from 3.4 percent to 6.8 percent on graduate and unsubsidized undergraduate Stafford loans. This temporary measure, she emphasizes, would buy time to develop long-term legislation.
That brings us to President Obama’s proposal to expand the Income-Based Repayment (IBR) program. Though it went into operation on July 1, 2009, IBR predated the current administration. Congress created the program during the Bush years as part of the College Cost Reduction and Access Act of 2007. A complement to still-operative Income-Sensitive Repayment and Income-Contingent Repayment plans, Income-Based Repayment places a ceiling on monthly payments on federal student loans. Originally, payments were limited to 15 percent of household discretionary income (i.e., after taxes and basic living expenses), adjusting for family size, regardless of the outstanding balance. If the borrower makes 25 years of on-time payments, any remaining balance is forgiven. But Congress, as part of the Obama’s health care overhaul of 2010, reduced the payment-to-income ceiling to 10 percent. The legislation also reduced the maximum repayment term to 20 years for persons employed in the private sector and to 10 years for those employed in the public or the nonprofit sector. These changes were scheduled to go into effect in July 2014, but an eager Obama, by executive order (“Pay as You Earn”), moved up the start date to December 2012 and expanded the pool of eligible participants to those receiving loans as far back as October 2007. These changes, admitted the White House, would add another 1.6 million participants. The maximum loan size likewise is high. At present, undergraduate student loans are capped at $57,500; graduate student loans have no limit.
If all this looks expensive, that’s because it is. According to the U.S. Department of Education, the roughly 400,000 current IBR borrowers can expect to average a forgiveness of $41,000 per loan through 2021. That comes to about $16.4 billion, part of which would be covered by interest payments. But a study released late last year by Barclays Bank concludes that’s a tiny part of the real picture because it doesn’t take into account the likely explosion in future participation. The report, titled “Student Loans: An Educated Mess,” calculates that the government underestimated the eventual total cost of its student loan programs by $300 billion during the decade 2010-20. The Income-Based Repayment program, under the new rules, accounts for a staggering $235 billion of that sum. Based on data provided by the Federal Reserve Bank of Kansas City, the Barclays study projects over half of all borrowers will be eligible for the program, far higher than the Education Department estimate of 6 percent. Barclays argues that as the program has become more attractive, and as the department has become more aggressive in marketing and advertising it, Income-Based Reduction will become the program of the first choice. Even the nonpartisan Washington, D.C.-based New America Foundation, chaired by Google Chairman and former CEO Eric Schmidt, a close friend of President Obama, has expressed concern. The new IBR program, the foundation cautions, “is a large-scale tuition assistance program masquerading as a safety net, especially for graduate students who can take out federal loans to finance the full cost of their educations without limit.”
Expanding program eligibility even further would seem the height of fiscal recklessness. Yet the current administration wants to do just that. Specifically, President Obama wants to make the program retroactive to include all active federal student loans, not just those dating back to October 2007. He also wants to make forgiveness of outstanding debt tax-exempt; at present, the tax code treats loan forgiveness as taxable income. Abraham White, communications associate with the Washington, D.C.-based Left-leaning nonprofit, Campus Progress, part of the Center for American Progress, thinks the idea will work. The proposal, he said, “ensures that monthly payments are affordable” and “creates a reasonable pathway to paying off their debt.” Rep. Tom Petri, R-Wisc., the second-highest ranking member of the House Committee on Education and the Workforce, by contrast, thinks disaster looms ahead. “I think of it as a ticking time bomb,” he remarked. If and when Barclays, not to mention the Congressional Budget Office, come out with cost projections of the White House proposal, we should have a much better idea of what sort of explosion will follow.
There is a larger context here. President Obama is seeking to make college as universal an experience as possible. On a practical level, that means cost to the borrower or his/her family ought to be no obstacle. While the president, to his credit, has spoken out on the need for colleges and universities to hold down costs, such words are contradicted by his rhetoric elsewhere. The White House web site, for example, reads: “Higher education is not a luxury. Earning a post-secondary degree or credential is a prerequisite for 21st century jobs, and one that everyone should be able to afford.” As college in this view is a moral entitlement, the means to pay for it, if unavailable to a student’s family, by definition must come from somewhere else. And that means the general public. The administration and other supporters always can rationalize the extra cost as an “investment” that renders education “affordable.” Obama in particular tends to see the issue through the prism of his own experiences. Last August, while on a campaign swing at Capital University in Columbus, Ohio, Obama justified boosting higher education subsidies this way: “I’m only standing before you today because of my chance my education gave me. So I can tell you, with some experience, that making higher education more affordable for our young people – it’s something I’ve got a personal stake in.”
Rhetoric such as this is built more on sentiment than common sense. While many rewarding careers require a college education, many don’t. And either way, someone has to pay the bills. College education is a privilege, not a right. Unfortunately, many members of both major parties see it as a right. President Obama’s proposed changes to the federal Income-Based Repayment program should be seen as part of a larger effort to transform higher education into an entitlement. And just as Medicare and Social Security are politically untouchable entitlements for older adults, college education may become that for younger adults.
Easing burdens on hard-working, financially-strapped men and women starting out in their careers seems an appealing and decent thing to do. Unfortunately, there are downsides that too often get pushed aside in the debate. They can be seen in the explosive growth in household debt and in high rates of loan defaults. Colleges and universities, meanwhile, knowing students are covered by the American public, continue to raise their tuition and fees more so than otherwise. Such is the legacy of moral hazard as applied to higher education.