U.S. Sen. Elizabeth Warren has had concerns about student debt for decades. Her recent solution seeks to redistribute tax revenue from the richest Americans to enable students to refinance their post-graduation indebtedness; this would allow students to benefit from the low interest rates in today’s financial markets. The Massachusetts Democrat is right in noting that the inability of students to refinance—as opposed to consolidate—debt takes away a valuable tool in the repayment arsenal.
We can all agree that student debt loads are impairing the future of our current students, and we need to address the problem—now. But I do not believe the focus on the richest Americans is necessarily the most feasible solution in the near term for what ails the student loan business. Consider this alternative approach.
Start with the concept of predatory lending, a financial “strategy” that targets vulnerable populations and fosters overpriced products with default consequences that hurt consumers and their future creditworthiness. We have learned that even quality disclosure for consumers (think Schumer Box) is not a deterrent to misguided borrowing, thus the criticism of government ratings and Scorecards in the higher education arena. The reality is that when individuals are desperate for funds, products like payday loans, rent-to-own, auto pawns and refund anticipation loans take root; the need for money and emotion trump rational decision-making.
For many years, there were strong parallels between the predatory lending market and the private student loan market. Many students eligible for cheaper loans from the federal government partook of private student loans with higher interest rates, onerous default provisions and an absence of quality repayment options.
Under the Obama administration, the federal government in essence took over the student lending market; as a generalizable matter, students and their families benefited across the income spectrum. Repayment options were plentiful and some were downright appealing, like income-based repayment. Pell Grants grew, and there was increased use of this quality grant.
But the ground is shifting. Interest rates on unsubsidized Stafford loans could rise in the relative near-term and interest rates on subsidized Stafford loans could be lowered in today’s market. Parent Plus loans are increasingly focused on borrower creditworthiness; these loans appear to be overpriced for risk; and many “secondary” borrowers for low-income students are not “parents” as this loan product now demands. Add to all that the reality that college graduates are often unaware of their repayment options, and those with some awareness have a hard time choosing among the abundant options. Default rates are mounting as student debt loads increase, the cost of education continues to rise and the job market constricts. There are opportunities for consolidation but not, as noted, refinancing. Today, students need more money than is available from government sources, given the federal lending caps and changes in summer student loan availability.
There are effective ways for the federal government to address these issues: improve lending products and collection efforts; increase incentives for colleges and universities to partner with the government to curb defaults; and propose legislation to make private student loans—and perhaps all student loans—dischargeable in bankruptcy.
But these changes are not happening now. And when the financial markets see a vacuum, lenders and venture capitalists willingly step into the void to lend money to students and offer creative repayment options.
Not all providers of funds or repayment options have the students’ best interests at heart. We cannot afford to make student loans the next predatory lending product. Consider a relatively new company called Upstart. It will provide money more cheaply apparently to elite students at elite colleges, to pursue an education or to repay existing education debt. Students (called Upstarts) find funders (called Backers).
The devil is in the details, however. Upstarts, using their future income as a payment source, are subjected to sizable late fees—fees that resemble those for late credit card payments. If a student wants “out” of the loan contract post-graduation, there is a draconian provision: Upstarts need to repay three to five times the amount owed, depending on timing. By way of example, if a student owed $15,000, it’s estimated that this graduate would need to repay something between $45,000 and $75,000, less any sums already paid.
Senator Warren’s Robin Hood-esque proposal relies on private-sector dollars to enable refinancing. I think the burden should fall instead to the federal government to be a better lender with better products and better terms and to colleges and universities to be better partners, particularly in lowering default rates and matching repayment options with graduates’ needs. That would be good policy, better ensuring that students and graduates can thrive in the workplace and in their local communities. That is, after all, what we hope education provides: insurance that our future is in good hands. As to the use of private dollars to help low-income students, there are plenty of other possibilities. Among them, a percentage of private dollars donated to endowments valued at over $1 billion (consider 3%) could be deposited in an independent educational trust fund as a pre-condition to the donor preserving his or her entire tax deduction. Then, that fund could be used for summer programming for vulnerable high school and colleges students and other activities to foster collegiate success among first-generation, low-income and minority students.
Karen Gross is president of Southern Vermont College.
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