Finding Shock Absorbers For Student Debt

"President Obama last week signed an executive order aimed at easing the debt burden on millions of people who borrowed money for college. Soaring loan costs, he said, have put 'too big a debt load on too many people,' and it’s time to do something about it," Susan Dynarski writes for The New York Times' The Upshot

"I agree wholeheartedly. But while Mr. Obama’s initiative is a step in the right direction, it doesn’t go far enough.

First, consider the scale of the problem. Forty million people hold student loans. With outstanding debt at $1 trillion, student loans have surpassed credit cards as the third-largest form of household debt. Seven million borrowers are in default and more are behind on their payments.

On the bright side, borrowing has risen largely because there are more college students than there used to be. College is a great investment; on average, it pays a better return than stocks or bonds. But investments carry risk. ...

In theory, the Pay As You Earn program, or PAYE, which Mr. Obama expanded in his order on Monday, should hold payments to 10 percent of income. But because payments don’t adjust automatically, they can actually consume a much larger share of a borrower’s earnings in a given year.

It’s crucial that payment adjustments be automatic for the borrower. In fact, 'Automatic for the Borrower' is a proposal released in March by a network of nonprofit groups [including NASFAA]. I’ve also written a brief on this idea for the Hamilton Project, a Brookings Institution initiative. Australia, Britain and New Zealand have developed automatic, income-based loan payment programs.

But the administrative details matter, and PAYE imposes substantial burdens on borrowers. They must work through their loan servicer to apply to the program, and the results have been discouraging, with the Consumer Financial Protection Bureau showing that servicers are dragging their feet. The number of borrowers in flexible repayment plans is much lower than the number in distress and default, which shows that the current system isn’t working to insure borrowers against risk.

Even if we can get more distressed borrowers into PAYE, the program does not provide effective protection against earnings risk. Why? Relief comes too late; it’s as if unemployment benefits arrive a year after someone becomes unemployed. In PAYE, loan payments are calculated as 10 percent of the previous year’s disposable income. But income can change significantly — and often — over the course of a year. For those patching together several part-time jobs, hours and earnings can bounce around weekly. In PAYE, and all the other income-based repayment programs, every change to earnings requires a new application to adjust the loan payment. The program is simply not built to deal with the earnings instability that is typical for young workers, particularly those graduating into a tough economy."

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