It’s Not Easy Solving For $1.5 Trillion In Student Debt

This week Democratic presidential candidate Sen. Elizabeth Warren managed to capture a lot of airtime — no small feat in a field with over 20 people in it — with what is as of yet the largest and most radical proposed solution to the student debt situation in the United States.

Simply put, Elizabeth Warren wants to cancel student debt.

Admittedly the plan is quite a bit more complex than that, as detailed by Sen. Warren in a Medium post that went live yesterday (April 22). In broad strokes, for students from families with less than $100,000 a year in annual income, $50,000 in student loan forgiveness would be available. The post also calls for “substantial debt cancellation for every person with household income between $100,000 and $250,000.” The Warren plan also calls for the elimination of tuition at all two-year and four-year public institutions of higher learning, and would create a fund of at least $50 billion specifically for historically black colleges and universities. Federals subsidies for for-profit colleges would be banned.

All in, the plan would cost $1.25 trillion over 10 years, and has received all kinds of feedback from rapturous praise to apocalyptic warnings that adopting such a plan would be the end of American society as we know it, with all make and manner of reactions and responses in between. We salute the political, policy and news organizations that get to sift through all that. We’re also deeply glad not to be one of them.

Because while much of Sen. Warren’s post was controversial, at least one idea contained within it is not: There is $1.5 trillion worth of student loan debt outstanding in the U.S. and it is creating problems. According to the Federal Reserve, it is making debt holders less likely to buy homes; according to the Philadelphia Fed, it’s also keeping borrowers from starting businesses. Moreover, Federal Reserve Chairman Jerome Powell noted, there are costs to the staggering size of the student debt load in American that are harder to directly track with data.

“You do stand to see longer-term negative effects on people who can’t pay off their student loans. It hurts their credit rating, it impacts the entire half of their economic life.”

And while the candidates debate whether a 10-year, trillion (with a t) dollar project is the best way to go after the problem, there are smaller-scale efforts at play in the startup community tackling student debt from an entirely new angle. The current model asks students to make a large upfront investment in their future earnings that requires a massive debt load. Under an emerging model, the income share agreement (ISA), a third party makes that investment, and only sees a return when the student is a productive economic unit.

The ISA Model

The best known proponent of the ISA model is the Lambda School, founded in 2017. Valued at $150 million, as of early January 2019 the firm has snapped up $30 million in new funding from the likes of Geoff Lewis, the founder of Bedrock, along with Google Ventures, GGV Capital, Vy Capital and Y Combinator, as well as actor Ashton Kutcher.

Lambda is not a solution for a four-year degree or a two-year degree as of yet. The program is focused on filling gaps in employment, meaning places where there are worker shortages are usually where Lambda starts its program construction efforts — areas like nursing, programming and cybersecurity are popular.

Those courses are offered for no upfront charge; students pay nothing for the education they receive through the program. Instead, under an ISA, students are required to pay a percentage of their income for a set amount of time after graduating, provided they find a good enough job and earn enough money to make that payoff.

For Lambda, students are required to pay 17 percent of their income for two years after graduation, if they find a job that pays $55,000 a year or better. Payments are capped at $30,000, so a highly-paid student isn’t penalized for success, and if a student loses a job, the payments pause.

“There are no schools that are incentivized to make their students successful anywhere. The schools get paid up front, they get paid in cash, whether that’s by the government or whether that’s by an individual doesn’t really matter,” said Austen Allred, co-founder and chief executive of Lambda. “At the end of the day, the schools get paid no matter what. I think in order to create better outcomes the school has to take the hit.”

And while Lambda and its proposed multidisciplinary school have attracted the most headlines, it isn’t the only player in the ISA field. Vemo Education vets students for a handful of other schools on behalf of potential investors. Such loans allow higher education recruiter Amy Wroblewski to pay off her college debts in 8.5 years with payments of $279 per month — if her salary remains the same. If she makes more, the payment goes up, if she loses her job, the payments pause.

“Even with all my other loans, I knew I could make it work,” Wroblewsk told Bloomberg.

The Critics

ISAs have garnered a lot of enthusiasm, particularly in recent months. But the model is still relatively rarely applied. Yale reportedly attempted an ISA in the 1970s that lasted until the early 2000s — but the program was plagued by problems an ultimately needed to be bailed out by the university financially and was quietly wound down in 2001.

Critics of the model compare it to indentured servitude, and note that consumers may often be agreeing to sign away quite a bit more of their income than they would have had they stuck with a traditional loan product. Whether the product works for a student is a result of a lot of factors and variables that are hard to predict for any individual student, said Julie Margetta Morgan, a fellow who studies higher education at the Roosevelt Institute.

“It’s pretty darn near impossible to say whether an ISA is better or worse for an individual,” she said.

Others have claimed this is another broadside against traditional liberal arts education, since the students who do best in ISA agreements tend to have STEM-connected courses, as investors typically ask for a smaller slice from more lucrative majors. At Purdue, for example, English majors borrowing $10,000 pay 4.52 percent of their future income over nearly 10 years, while chemical engineers pay 2.57 percent in a little over seven years.

Moreover, critics say, because investors are looking for “good investments,” they might easily overlook non-traditional but high-potential students.

Lambda’s Allred conceded that risk, but said it is inherent in any competitive process, including college admission itself. “I think schools should be actively trying to determine who will be successful and that’s part of your job. Harvard does that, right?”

Moreover, he said, a situation where students are taking on debt and extending it into their 40s, 50s and 60s is unsustainable — and corrosive. Change needs to come from somewhere, he said, and ISAs at least give students options when trying to decide how to finance what is becoming one of life’s larger purchases.

And while one might not like Lambda’s solution or Senator Warren’s, their point of agreement does seem to hold. Someone is going to have to find a solution — before the gravity of student debt starts sucking the rest of the economy into a black hole.