Is Income Based Repayment a Solution to Crushing Student Debt ?

Originally Published on forbes.com on October 11th,2011

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Based on the comments I see that I need to either rework or supplement this piece.  The main point is that there is an existing program Income Based Repayment that might help some people who have overwhelming student debts. 

Update

For those looking for radical reform here is a petition being circulated to forgive student debt as a stimulus measure.

I just checked back at We Are the 99%.  The site puts a human face on the grievances that are motivating Occupy Wall Street.  One of the most common themes is excessive student loan debt.  That inspired a bit of an outburst on my part.  The one that particularly grabbed me was a young lady with $150,000 in student debt and no lucrative job prospects.  Her masters was in Minority Women’s Studies.  Now, I don’t mind blaming “Wall Street” for quite a few things, but I’ve got to hang most of the responsibility for that one on the universities.  So I proposed that we have a student loan bailout that is funded by an excise tax on university endowments.  I don’t think young people should be discouraged from studying things that might not translate directly into lucrative employment.  I’m really glad that I spent much of my young adulthood doing that.  Encouraging that is why universities have exempt status and endowments.  If the end result is debt peonage, though, they are not using those assets well.

Calling for reform is one thing.  People do that all the time when it comes to our messy tax laws. Since I started blogging on forbes.com, I’ve become more interested in various reform proposals.  Over 30 years of tax practice has given me a certain perspective though.  I have very low expectations that tax laws will make a lot of sense.  So my motto is “It is what it is.  Deal with it.” Over the weekend I figured out how an 18 year old could get most of the benefits of a liberal arts education for short money.  It involves going to college bookstores seeing what the required reading is for different courses and reading those books.  There are also the Teaching Company lectures.  If you need to have people criticizing your writing and research, get heavily involved in Wikipedia.  My friend tells me it is not such a hot idea, so I’m shelving it for now.  So I went back to thinking about the student with crushing debt and no prospects of lucrative employment.  I found something.  I don’t know what percentage of students it applies to, but anybody with serious student debt should be looking at it.  It is calledIncome Based Repayment.

Income based repayment can be applied to certain student loans:

All Stafford, PLUS and Consolidation Loans made under either theDirect Loan or FFEL Program are eligible for repayment under IBR, EXCEPT loans that are currently in default, parent PLUS Loans (PLUS Loans that were made to parent borrowers), or Consolidation Loans that repaid parent PLUS Loans. The loans can be new or old, and for any type of education (undergraduate, graduate, professional, job training).

Under IBR, your monthly payments are 15% of the difference between 150% of the poverty level and your adjusted gross income.  For example a family of four with adjusted gross income of $40,000 would have a maximum student loan payment of $81 per month.  It would seem that all the people with masters degrees in English who are now working at Barnes and Noble should definitely be looking into IBR.  What I really like about the plan is that I can figure it out and play mental games with it because the “adjusted gross income” they are talking about is the adjusted gross income on your tax return.

If the required payment under IBR does not even cover the interest on your student loan, the government will pay the difference for three years.  After that it starts getting added to the balance – negative amortization.  Nasty stuff.  If the debt really has you buried and your ship is never going to come in, though, that will not matter.  After 25 years in IBR, your loan is discharged.  There is an important principle I have learned from my limited amount of IRS collection practice.  Once a debt is bigger than you can ever pay, it doesn’t matter how much bigger it is.  If you almost got a Ph.D in art history and now have a career in day care and go into IBR, you no longer really have a student debt.  You are subject to a 15% excise tax on your income in excess of 150% of the poverty level until you are in your fifties.  That’s a way of looking at it.

Given that the payments are based on adjusted gross income, there are some fascinating planning opportunities.  What is your adjusted gross income if you go overseas to teach English?  It will likely be zero because of the foreign earned income exclusion.  Gifts are not part of adjusted gross income nor is inheritance. According to the Q&A, your spouse’s income will be considered – if you file a joint return.  Filing a joint return is elective.  If you are a stay at home parent with an enormous student debt, married filing separately is something that you should be looking at.

I have really just scratched the surface of this topic.  I plan on studying it further and also will be looking for people with practical experience with the program.  It is ironic that one of the most common complaints of the 99% might be addressed by using techniques that keep the 1% where they are – i.e managing your adjusted gross income, but it is what it is, deal with it.

Post Script

American Student Assistance has extensive information on dealing with these issues.  Their section on Income Based Repayment includes step by step instructions on how to apply including links to the required forms.  One of the commenters has pointed out a variety of reasons as to why the program is not the greatest thing since sliced bread.  Nevertheless, it seems clearly superior to default.

Post Post Script

I went back to looking for the particular “We are the 99″ post that I used for my example. I picked it because it was so extreme.  Based on where I found it and the comments, it would not surpise me, if it were a hoax.  The complaint on it is not about the excessive student debt, but rather about “corporate fascists” not being willing to hire the person.  Also the assumption that it is a “young lady” is an assumption as there is no face in the picture.  I do not think my analysis would change if it turns out that I latched onto a straw man/woman that was set up by OWS critics.  $90,000 and a degree in English would make for a similar, if less dramatic picture. $20,000, no degree and a child would be a deep hole.