Note: This post has been updated. The original version mischaracterized figures on the cost of IBR from the Barclays report.
In October the New America Foundation released Safety Net or Windfall, which explains how Obama administration changes to the Income-Based Repayment plan for federal student loans set to take effect this month dramatically expand the benefits the program offers, particularly to graduate students. Now Barclays has issued a report that measures just how big those changes will be.
The report, Student Loans: An Educated Mess, argues that the government has underestimated the cost of its student loan programs by $300 billion over the next 10 years, and the recent changes to the Income-Based Repayment program account for around $235 billion of that sum. Barclays projects that over half of all borrowers going forward will be eligible for the new IBR program, based on statistics reported by the Kansas City Federal Reserve Bank. The Department of Education believes enrollment will be just six percent.
Why such a big difference? Remember, when Congress first created IBR in 2007, the program was meant to provide a safety net to struggling borrowers. It sets a borrower’s payments at 15 percent of his monthly discretionary income, and any debt remaining after 25 years of payments in IBR would be forgiven. A borrower repaying through this “old IBR” program for a long period of time can incur substantial interest costs and pay a lot more on his loans over time, and even make higher monthly payments later, than if he repays under a non-income-based plan. Given those facts, coupled with IBR’s unwieldy enrollment process and a lack of awareness about the program, few borrowers opted in. Consequently, the Department of Education and budget agencies assume uptake will be similarly low going forward.
But those estimates ignore some big changes taking place. The Department of Education is improving the enrollment process and working hard to advertise the program. And now that a borrower’s payments are set to 10 percent of discretionary income, and loans are forgiven after 20 years, IBR will become a very attractive repayment option that has few if any downside financial risks for borrowers. In fact, new IBR is a large-scale tuition assistance program masquerading as a safety net, especially for graduate students who can take out federal loans to finance the full cost of their educations without limit.
Barclays has added more evidence to support that view. It won’t be long before the Congressional Budget Office and the U.S. Department of Education revise their cost estimates for IBR sharply higher. That should prompt lawmakers to rein in the benefits IBR provides while preserving the program’s safety-net function (see this Ed Money Watch post for how to do that). They can redirect those funds to more pressing student aid needs, like shoring up the Pell Grant program.