How Should Biden Tackle the Student Loan Crisis?
We have argued in an earlier article that President Biden should not decree a sweeping cancellation of Federal student loans Cancelling Student Loans Could be a Blunder for Biden.
A radical step like that would help struggling borrowers, but it would also be an undeserved gift for many affluent Americans who are not under financial pressure. A sweeping forgiveness program would be unfair to the two-thirds of American taxpayers who do not go to college. They would not benefit at all from the bailout, and they would resent it. In addition, the cancellation program would hit the Federal government’s budget hard.
In this article, we will discuss three targeted, less expensive ways to address the student loan crisis, as well as a limited cancellation program:
· Expand income-repayment plans
· Allow student loan borrowers to declare bankruptcy
· Cancel loans for graduates of for-profit institutions
· Forgive $10,000 per borrower but with a $75,000 income cap
The Best Solution: Income-Repayment Plans
The Department of Education already offers several options for stressed borrowers to reduce their payments. These “income-repayment plans” can provide considerable relief to borrowers. Debtors can limit payments to 10% of their “discretionary income,” and they can take up to 20 years to repay their loans. Furthermore, if debtors comply with their obligations under the repayment plan, the DOE will forgive their loans after 20 years.
Income-repayment plans represent the best solution for borrowers and the government. These programs can be tailored to take into account a specific debtor’s income and loan obligations. When a plan works well, the borrower can honor his or her debt obligations and have a comfortable lifestyle. Since the debtors make good-faith efforts to pay their loans, rather than go into default, the government incurs fewer losses.
Sen. Bernie Sanders Pressuring Biden on Student Loans/Getty Images
But Fixes Are Needed
However, there have been problems with the plans. Some fixes are required.
Borrowers have frequently complained about how loan servicers--the private companies that administer the plans for the DOE--have implemented these programs. Many borrowers do not know about the options provided by these plans, so they do not take advantage of them. (In the past, some loan servicers misled borrowers about their options, steering them toward more expensive alternatives.)
The DOE has made some mistakes, too. The department’s complicated rules have confused borrowers who thought that they had complied with the plans’ requirements, only to learn that they still owed money on their loans. The DOE should probably revise the definition of “discretionary income”, to give borrowers more breathing room.
Nonetheless, the income-repayment solutions are in most cases the best way to help borrowers meet their obligations in an appropriate manner. The Biden Administration should focus on fixing the glitches in these programs, rather than waving a magic wand and wiping out billions of dollars of student debt.
Bankruptcy—Painful but a Fresh Start
America is the land of the “second chance”. Our inalienable rights include life, liberty and the pursuit of bankruptcy. Borrowers can wipe out their mortgages, credit cards and other consumer loans by going through bankruptcy. That’s a painful process, but it gives debtors a fresh start, financially.
Unless they have student loans.
Congress has made it very difficult for student loan borrowers to discharge their debts through bankruptcy. These debtors have to prove to the bankruptcy court that they would suffer “undue hardship” if they had to keep paying their obligations. That’s a tough standard to meet.
Why did Congress do this? Student loans are inherently very risky; the applicants generally have no assets and no income. Members of Congress were worried that the default rates on student loans would be sky-high if borrowers could easily resort to bankruptcy proceedings. So Congress carved out an exception to the bankruptcy laws for student loans.
This policy seems punitive and unfair. To prevent borrowers from gaming the system, Congress could require them to make payments for a certain period, such as five years, before they could file for bankruptcy. That would also jibe with reality; default rates usually peak five years after graduation.
The drawback to this approach is that it would require legislation to change the bankruptcy code.That would take time, even if the two parties still generally cooperated with each other in Congress. Nonetheless, there is some bipartisan support in Congress for passing such legislation, and the Biden administration should pursue that goal.
Cancelling For-Profit College Loans
The Biden administration should also consider cancelling loans for graduates of most private, for-profit institutions—across the board. Graduates of these schools have extraordinarily high default rates compared to the alumni of traditional, not-for-profit colleges.
The default rate for four-year, for-profit colleges is 40%, according to the New York Federal Reserve Bank. That’s about twice the level for four-year public universities (22%) or private, not-for-profit colleges (17%).
These grim numbers suggest that many of these institutions are not providing valuable educations or skills for their students, so they find it hard to get good jobs. Some for-profit colleges do prepare their students well, of course. Still, it’s hard to escape the conclusion that many for-profit institutions are using Federal student loans to finance “diploma mills” whose main beneficiaries are the staff, not the alumni.
An “Industry” with a Poor Track Record
Numerous for-profit schools have been accused of providing poor services and misleading applicants about their supposed track record in job placements. As a result of these concerns, the Obama Administration dropped several for-profit institutions from the DOE’s list of schools that could participate in Federal student loan programs. Some of these colleges failed as a result.
Under Secretary of Education Betsy DeVos, the Trump administration had very cozy relationships with this sector and ignored the performance issues.
Online programs in particular are a problem area. According to a recent New York Times article, candidates for advanced degrees at certain online institutions complained that faculty members dragged out approvals on dissertations so the institutions could rack up higher tuition bills.
The Biden administration has cancelled loans related to some for-profit institutions, but so far, the amounts involved are relatively small. The White House should pursue such targeted cancellations more aggressively.
The administration should consider excluding most for-profit colleges from the DOE’s list of eligible institutions. Since many of these schools appear to be taking advantage of their students, why should the government facilitate their behavior?
Given the poor track record of this “industry”, for-profit colleges should bear the burden of proving why they should remain eligible to take part in these programs.
Loan Forgiveness…with an Income Cap
Despite the merits of the three approaches we have discussed, President Biden seems to be leaning toward some form of broad-based debt cancellation. The President is under great pressure from the left wing of the Democratic Party on this issue.
Many progressives, such as Sen. Bernie Sanders (D-VT) and Rep. Ro Khanna (D-CA), are demanding that all Federal student loans be forgiven. Sen. Elizabeth Warren (D-MA) has called for cancelling up to $50,000 per borrower.
President Biden said that he is not considering the $50,000 amount but is “taking a hard look” at forgiving some level of debt. On the campaign trail, he had promised to cancel $10,000 per borrower. On May 3, Jen Psaki, the White House Press Secretary, said the President was considering limiting debt relief to Americans earning less than $125,000.
If the President does decide to cancel loans, he should limit the relief to $10,000 per borrower, and he should impose an income cap, but $75,000 rather than $125,000. These restrictions would lower the cost of the program to the U.S. government, and they would skew the benefits of the program more toward lower-income and middle-income Americans.
A Bailout with A Steep Price Tag
Forty-five million Americans hold $1.5 trillion of Federally guaranteed student loans. Cancelling those loans would be very expensive. The New York Federal Reserve Bank has calculated that a $50,000 write-off per borrower would cost the government about $900 billion and a $10,000 amount would cost $321 billion. Those amounts represent the one-time costs of writing off the loans.
The Federal government has annual revenues of about $3.5 trillion a year. The $900 billion figure would represent 25% of revenues, and $321 billion would equal 9% of revenues. By the way, the Federal government incurred a deficit of almost $1 trillion in fiscal year 2019, its last “normal” year before Covid.
And there’s more. The Federal government collects about $50 billion of annual interest payments on its student loan portfolio. However the bailout is structured, the government would give up a large chunk of those revenues, too. Over a 10-year period, that could cost the government up to another $500 billion.
An Income Cap Would Help
But if the program were restricted to Americans earning less than $75,000, the one-time cost of writing off the debt would fall dramatically, according to the New York Fed’s analysis. Who Are the Federal Student Loan Borrowers and Who Benefits from Forgiveness? The price tag would drop to about $500 billion, for the $50,000 per person bailout, and to $180 billion for the $10,000 amount.
The New York Fed chose the $75,000 figure for its analysis because that is the threshold earnings figure for the 25% of Americans who are “high income”, as the Fed defines it. (To be more precise, $78,303 is the cut-off for the first quartile of wage earners.)
Steering Benefits to Less Affluent Americans
Without an income cap, 30% of the debt forgiveness would flow to high-income Americans. However, if an income limit were set, that group would receive only 18% of debt forgiveness. That seems like a more equitable result. The goal should be to provide more help to lower-income and middle-income Americans, rather than those who are further up the economic ladder.
These are nationwide classifications, of course, which do not take into account regional differences in the cost of living. A Georgian might live very comfortably on $75,000, while a Manhattanite would be on a tight budget. But it could be challenging to calculate the appropriate income limits for different parts of the country—or zip codes? --and the political fights could be a nightmare.
That is yet another reason for the Biden administration to pursue the first three alternatives, rather than a broad-based, expensive bailout for student borrowers.
A stroke of the pen to sign an executive order cancelling the loans would be dramatic, and it might help Biden with young Democratic voters before the midterms. But as we have discussed, there are better ways to handle this crisis.