Evaluation of Vice President Biden’s
Student Debt Proposals
Vice President Biden has recently introduced a plan to make college more affordable, reduce student debt and assist overextended student borrowers. Some key aspects of his plan are as follows
· Provide up to two years of free tuition at community college for all students including undocumented and part time students. Federal government would pay ¾ of the subsidy and state government would pay ¼ of subsidy.
· Double the maximum allowable Pell grant.
· Create a new Public Service Loan Forgiveness program that would provide $10,000 in loan forgiveness per year for up to 5 years.
· Make several changes to the Income Based Replacement Loan Program including — reduced payment percentage, automatic enrollment in program, and tax-free discharge of student debt.
My view is that the programs offered by Vice President Biden will assist some low-income people obtain access to higher education. However, the proposal for free community college could reduce the number of students from low-income households obtaining four-year degrees.
Vice President Biden’s proposals do little to reverse growth in tuition and college debt at four-year colleges or the number of households experiencing financial problems because they are overextended with student debt. Moreover, the proposed modifications to the Income Based Replacement program does little to fix a fundamentally flawed program and will fail to provide necessary debt relief to overextended students.
Comments on Free Community College:
There are many potential benefits from expanding subsidies to community colleges.
Community colleges are a good lower-cost option for many students who might not otherwise try higher education. Community college subsidies can provide remedial courses at low cost to students who are not ready for a four-year university. Community colleges provide technical vocational programs that are often not available at four-year colleges. A community college subsidy is highly progressive because people who attend community college make less money than people who attend four-year college. This subsidy creates a path for a potentially lower-cost four-year degree for people who transfer from a two-year school to a four-year school.
The Vice President is recommending expansion of a program that is already being adopted in many states. Average cost of community college is lower than average cost of four-year public colleges. Around 20 states have already adopted tuition free community college. The revenue sharing proposal in the Vice President’s proposal will likely lead to revenue gains for states, which have already adopted free community college because under the proposal the federal government will take up ¾ of the cost of a program already funded by the state.
There are significant potential problems associated with a student debt strategy that prioritizes additional assistance to community colleges and does not address increased costs and increased debt levels incurred at four-year colleges.
The Vice President’s proposal will further increase the relative price of four-year programs to two-year programs. This proposal will result in a situation where many highly qualified students from lower-income and mid-income households must for economic reasons attend a two-year community college rather than a four-year university. This outcome will reduce upward mobility and opportunities for highly qualified students in lower-income households.
Many students who enter a two-year university plan to obtain a four-year degree. Some students start their higher education at a two-year college, transfer to a four-year college and obtain their degree with less debt than students who started higher education at a four-year college. This is a difficult process, which does not always succeed.
One study found that 60 percent of community college students in California who planned to obtain a four-year degree were unable to transfer.
Another recent study found that only 13 percent of students who start community college obtain a four-year degree after six years and only 42 percent of students who transferred received a bachelor’s degree in six years.
We don’t have data comparing the amount of time spent in school and ultimate debt at graduation for people who start higher education at a community college and obtain a four-year degree from a four-year university to people who start higher education at a four-year college. The cost of four-year degrees for people who start at two-year colleges and transfer may be a lot higher than we realized if schools deny transfer credits and people fail to graduate in a timely manner.
Many community colleges do not have the same ability to prepare students for highly competitive fields like medicine and law as comprehensive four-year colleges.
Concluding Thought on Free Community College Proposal:
The proposal to make community college free has some merit and could help some people. My concern is the increase in the relative price of two-year colleges to four-year colleges will reduce opportunities for students in low-income households and increase both income and wealth inequality. The way to fix this potential problem is to simultaneously reduce the price of community college and the first year or two of four-year colleges.
Comments on Expansion of Pell Grants:
The primary purpose of the Pell Grant program is to assist lower-income students. Almost two thirds of Pell Grant recipients reported household income less than 150 percent of the federal poverty line. Around one quarter of parents of Pell grant recipients own a home compared to over half of non-recipients. Around 7 percent of families of Pell grant recipients have investments or a business greater than $10,000 compared to around 19 percent of non-recipients. It would be very difficult and expensive to redesign this program to assist the large number of middle-class people who are currently taking on large student loans.
The federal poverty line is $16.4 k for a family of two and $20.8 k for a family of three. It is unlikely that a student from a family making around 300 percent or 400 percent of the poverty line would qualify for a Pell grant either under current law or the proposal offered by Vice President Biden.
Some analysts have reported low graduation rates for Pell grant recipients; however, on-time graduation is associated with household income and the receipt of a Pell grant may increase the on-time graduation rate after accounting for household income.
Funds for the Pell grant program must be allocated by Congress and could be reduced when Congress changes its annual budget or in response to negotiations over the debt limit. The doubling of the maximum allowable Pell grant does not protect the program from the annual budget process.
Concluding Thoughts on Proposal to Expand Pell Grants:
Pell grants have helped students from low-income household obtain access to higher education. It is hard to understand how the expansion of this program would mitigate the much more expensive problem of reducing debt burdens for student borrowers from middle income households.
Senator Warren essentially want to make all four years of public college free or debt free. There is a ton of room for a compromise proposal somewhere between the visions offered by the two candidates. I recommend consideration of a program offering increased assistance for first-year students. Go here for an article arguing the first year of college should be free.
Comments on a new public service loan program:
The discussion over a new public service loan forgiveness (PSLF) program needs to start with the recognition that the current program is in disarray.
The PSLF program, enacted during the Administration of George W. Bush, was designed to discharge student loans for people in public service jobs after 120 payments. The first cohort of enrollees have begun applying for loan discharges. However, only around 1 percent of discharge applications have been successful for a variety of administrative reason.
Some loan discharge applications were refused on grounds that the student borrowers were not enrolled in the Income Based Replacement (IBR) loan program, a requirement of the PSLF program. Other loan discharge applications were rejected because it was retroactively determined that the applicant’s position was not covered by the PSLF program. It is difficult to understand how so many people could have participated in a loan forgiveness program for a decade only to have their application rejected.
The Biden proposal to redesign the loan forgiveness program to provide a smaller amount of debt relief after a shorter period of time makes sense. Long term loan discharge programs lock applicants into specific jobs even when their skills might be better used elsewhere. The shorter period for partial loan discharge reduces both the likelihood that an application will be rejected and the problem of locking a person into a particular position.
Concluding thought on a new PSLF program:
A new PSLF program would be much simpler than the existing program. One potential program could provide a 0% interest rate for three years, amortize the loan over ten years and discharge the maximum of $10,000 or 80 percent of the qualified student loan balance after three years.
Entry to the PSLF program should not be linked to enrollment in an income contingent loan program.
Comments on the Income Contingent Loan Proposal:
Income Contingent Loan Programs link student loan payments to household income and provide for an eventual discharge of the unpaid loan balance. The programs are complex and difficult to administer. Many student borrowers are enrolling in the program and the Department of Education estimates these programs will be costly to taxpayers.
The largest income driven loan program favored by the Obama Administration is called the Income Based Replacement (IBR) loan program. Key features of the current IBR program include:
· Loan payments of 10 percent of income for income over 150 percent of the federal poverty line
· $0 payments when income is lower than 150 percent of FPL
· The maximum payment under the IBR program is the standard payment on a 10-year loan.
· Government payments of monthly interest for up to three consecutive years if the IBR payment does not cover monthly interest under the 10-year repayment plan
· No capitalization of interest when income is less than 10 percent of disposable income
· Remaining balance on the loan is forgiven after 20 years,
· Facilitates eligibility for public loan forgiveness for student borrowers employed by public service organizations.
Some Issues with the Income Based Replacement Loan Program include:
· The initial decision to take out IBR, made when the student enters the workforce may not be the best option long term. Some student borrowers who choose the IBR option can end up paying more over the life of the loan compared to other options.
· Only students with chronically low levels of income receive substantial debt relief.
· Under current rules, discharged loans are taxed as ordinary income creating a new debt for the student borrower.
· Married households must generally file separate returns to obtain full advantage of the IBR program. Separate returns can lead to higher marginal tax rates for the spouse with the higher income and loss of considerable tax deductions. Marriage status and impact on financial relief obtained from IBR often changes over time, which complicates the decision to take out an IBR loan.
· Loan servicers have made it very difficult for students to enroll in the IBR program. A report written by the Consumer Finance Protection Bureau found that millions of student borrowers are not able to obtain debt relief from IBR and other programs because of resistance to these programs from loan servicers. The GAO concluded that the Department of Education needs to do more to make borrowers aware of this program.
· The IBR program creates an incentive for some people to borrow more than they otherwise would and could result in some people borrowing more without repaying more.
Budget officials are concerned about the potential cost of the IBR program. Around 28 percent of direct student loans are now Income Based Replacement loans. The lifetime cost of loans originated in 2014 from the IBR subsidy is around $11.0 billion. The cost estimates for other origination years should be comparable.
My sense is that fears that the IBR program will be costly to the Treasury are probably exaggerated. Many students will fail to successfully receive a loan discharge either because of failure to make timely payments or a screwup by the loan servicer.
Many of the changes recommended by Vice President Biden to the IBR program are probably not going to be implemented and might have little impact. The creation of a new IBR program for new graduates and the existing IBR program for people with loans already in repayments increases the likelihood that loan servicers will make mistakes when processing applications.
There already exist multiple Income Contingent Loan programs with different sets of rules. The Obama Administration reduced the payment percent compared to older versions of the Income Based Replacement program. The Trump Administration wants to increase the payment percentage. I don’t support automatic enrollment in IBR because people who are capable of repaying their loans in a short period of time should be incentivized to do so.
It is interesting that Vice President Biden now supports congressional action that would stop taxation of discharged loans. The IRS during the Obama Administration ruled that student debt discharges should be fully taxed. The Treasury at that time could have ruled that loan discharges were exempt from federal tax. I doubt anyone would have standing to sue and challenge such a ruling.
Concluding Thoughts on Proposed Changes to the Income Based Replacement Loan Program:
There are two main problems with the IBR program. First, there are major hurdles preventing people from obtaining debt relief due to the failure of loan servicers to process IBR applications. Second, it is impossible for applicants to IBR programs to determine if it is their best option when they enroll in the program because their income changes over their career. These problems are difficult to fix and are not clearly addressed by the Vice President’s proposals.
My view is that the IBR program is unworkable and should be replaced by alternative mechanisms to provide debt relief. One approach would provide debt relief by eliminating interest charges after 15 years of payments. Under this approach, people would still have an incentive to pay off their loans in 10 years to reduce total payments and repayment amount would be larger for people who borrow more than for people who borrow less.
A second approach involves providing priority to student debt over other consumer loans in chapter 13 bankruptcy. A third approach involves interest rate reductions and potential discharge of PLUS loans in cases of hardship.
Concluding Thoughts: Critics of the generous free-college and debt forgiveness programs offered by Senator Warren argue that these programs result in working-class people subsidizing more affluent college graduate. This argument misses a large more urgent point. Education has always led to average higher incomes. Education has not always let to crippling debt levels for so many student borrowers.
Current debt levels and the number of overextend student borrowers are skyrocketing. In 1989/1990 around half of college seniors from four-year colleges took on student debt compared to 68 percent in 2011/2012. The average student debt level grew by 73 percent over this period. Private student loans, PLUS loans taken out by parents of college students and the number of overextended borrowers have all increased. In 1992, around 2 percent of student borrowers left school with more than $50,000 in debt. This figure rose to 17 percent in 2014.
Vice President Biden’s proposals don’t fix these problems. His approach is the equivalent of a batter failing to swing at a 3–2 pitch in the middle of a strike zone. This observation is not an endorsement of Senator Warren’s approach. Rather it is a plea that the party find a middle ground that is fiscally reasonable but makes real progress.
David Bernstein, the author of this post is an economist living in Colorado. He has written a policy primer available at kindle and Amazon “Defying Magnets: Centrist Policies in a Polarized World.”