How to avoid another mortgage crisis
The growing cost of college is leaving many lower-income families in the dust.
Federal student loans, which some experts blame for that rising cost, often aren’t enough to cover a student’s tuition payments.
They start at $5,500 and max out at $7,500 per year for “dependent” undergraduates, while the government reported the average tuition at public four-year universities was more than $18,000 in 2014-15.
The latest college to respond to these unfavorable statistics with “income share agreements” (ISAs), an alternative to the student-loan system, is Washington College in Maryland.
President Sheila Bair wants to entice donors to create a $1 million “educational investment” fund that supplements the scholarships and loans received by the private liberal arts college’s upperclassmen.
Under this plan, after graduation students would pay back a percentage of their income each month to donors for a fixed time period.
Bair told Money that high loan debt has “tragic consequences” for students and “deters kids from starting businesses,” which in turn “drags down economic activity.”
She led the Federal Deposit Insurance Corp. when the American housing bubble burst in 2008. When students have to pay off such big loans, it creates “the same dynamic as the mortgage crisis,” Bair said.
— Sheila Bair (@SheilaBair2013) January 22, 2017
Inspired by ‘Back a Boiler’
The ISA plan is actually Bair’s second big idea since taking the reins at Washington in 2015. A month before graduation last year, according to The Washington Post, she created an aid program through which the college gave grants to graduating seniors to repay their loan debt.
Bair told the Post last summer the college was “thinking about” implementing an ISA program similar to the “Back a Boiler” program launched by Purdue University in the fall, except with donors instead of investors.
“It’s really new, and we would need to fund it through philanthropy because the federal government obviously doesn’t do it now,” Bair said then.
While federally subsidized student loans “should always be where the student goes first” – they have a low 4 percent interest rate and salary-based repayment options – the ISA option would be “much better” than students adding on private or PLUS loans, she said.
Bair’s office told The College Fix she was unavailable for an interview.
Purdue’s “Back a Boiler” ISA involves students paying back their debt at a rate of 3-5 percent of their income over 7-10 years for every $10,000 they receive. Their majors determine what repayment terms they get. So far 150 students have accepted the offer, according to Money.
The Indiana university said it was expanding the program last month so that donors could also participate.
Back a Boiler applicants would be able to obtain additional funding through the new “Pave the Way” philanthropic component, President Mitch Daniels told “alumni and friends” at a special dinner. When they graduate, those students would be “encouraged to donate” to the Pave the Way fund for future students.
— Giving to Purdue (@GivingtoPurdue) February 15, 2017
Need legal enforcement for repayment
One criticism of ISAs is they may not be enforceable. Ted Malone, executive director of Purdue’s Division of Financial Aid, told The Fix this was a real concern for the university.
“As an institution we have a far greater responsibility to the legacy of the University and to our students than an outside person might,” he said. It only went forward with the ISA program when it ensured “that it would do no harm to our reputation and that our students would receive a good product that was comparable to their alternatives.”
Purdue’s legal department helps ISA recipients with their contracts to ensure they are getting the best deal, often basing the terms on the interest and “cooling off” periods in federal loans, Malone said.
The main problem facing the expansion of ISAs is precisely “investor uncertainty about their enforceability,” according to Richard Vedder, director of the Center for College Affordability and Productivity and emeritus economics professor at Ohio University.
He wrote in Forbes in 2015 that legislation was needed to convince investors that they could collect debts from students with ISAs.
“Current federal loan programs fail in large part because commercial credit principles are NOT applied – interest rates, for example, do not vary with the predicted risk associated with lending,” Vedder wrote. “Colleges, with no skin in the game, push students into attending college, knowing that taxpayers, not them, will suffer financially if loans are defaulted upon.”
Great for working-class students
It’s not just affluent students that would benefit from ISAs, according to two investors who helped Purdue establish its ISA.
Writing in RealClearEducation last month, Entangled Ventures Chief Strategy Officer Michael Horn and University Ventures Fund co-founder Daniel Pianko told the story of Purdue junior Amy Wroblewski.
With a waitress mother and a father who painted cars, Wroblewski had been going to Purdue on a mixture of loans and scholarships. Last year she enrolled in the Back a Boiler program.
“Based on Amy’s major, Purdue calculated her expected income after graduation,” Horn and Pianko wrote. “She was assigned a payment of 4.8 percent of her monthly income for nine years. Her maximum payment is capped and her agreement states that she will not be required to make payments if she makes too little.”
Wroblewski is saving $150-300 a month by not paying back a private loan, they claimed.
IMAGES: Elnur/Shutterstock, James O’Gara Photography