The big buzzword in college loans these days is income-based loan repayment, which takes a few different forms. The first is the current income-based repayment method allowed for federal student loans, which kicks in under hardship: if a student has a very high level of debt relative to income, then he or she may be able to receive reduced payments. Payments are adjusted annually and may last as long as 25 years.
Another method under consideration is variable tuition, paid graduation and based on income. The state of Oregon has approved such a plan, but it has not come up with any way to put it into effect. The idea is that graduates would pay about 3% of their income each year for 20 years after graduation. Alumni who went into investment banking would pay more than those who took up costume design. The logistics are huge – would the investment banker or a successful entrepreneur end up paying millions? Then maybe anyone considering a high-income career would turn down education in Oregon. Would people slack off to keep their loan payments small? How would income be determined? What happens to students who move out of state after graduation, or who want to pay off the tuition burden? If a student’s family has enough money, could it would out a payment plan similar to the current tuition?
Consider it an idea, not a plan.
A related issue comes up with Islamic finance. Most Muslims will not pay or receive interest. There are many alternative financing arrangements they can use to buy real estate, such as rent-to-own agreements, or to finance businesses, such as equity. The key is that that person providing the financing and the person receiving it have equivalent risk. Under the current law, a U.S. student loan carries a 6.8% interest rate even though it cannot be discharged in bankruptcy, which puts all the risk on the student.
I once talked to someone who had developed many Islamic financing products for the U.S. market, and he said that he really wanted to come up with an Islamic finance product that could be used for college educations. He had considered some forms of income-based repayment, under the idea that the provider of funds would be paying now for a share of the student’s future income. (A similar structure has been used in Europe to pay for the development of soccer players.) The catch is the U.S. employment law does not allow indentured servitude, and he has not been able to come up with a legal way to write these contracts.
And really, that’s the issue with the high levels of debt that many students take on, either out of circumstance or naivety: at what point is an education another form of indenture? I’m not sure, but it’s something to consider when balancing tuition, funds, and career goals.
