Congress Should Do More to Unwind the Government’s Student Loan Boondoggle

The bill’s biggest success with regard to student loans was the elimination of Grad PLUS. Graduate students (those pursuing master’s, doctoral, or professional degrees such as a J.D.) had previously been able to tap into both the normal student loan program and Grad PLUS. Normal student loans suffer from a host of problems but have sensible safeguards, such as a limit on how much students can borrow each year and over their lifetime. Grad PLUS had no such safeguards. Colleges could charge as much as they wanted, and students could just borrow more through Grad PLUS to pay it. This led to two predictable consequences: overborrowing by students (e.g., the dentist who accumulated over a million dollars in student loan debt) and colleges’ raising their prices to exploit the loan program. Grad PLUS also cost taxpayers a bundle, with losses estimated at around 24 cents for every dollar loaned. Eliminating Grad PLUS, therefore, reduces overborrowing by students, stops rewarding colleges for raising tuition, and saves taxpayers around $50 billion over the next decade.

The OBBBA also capped graduate student lending in the other loan program (called Stafford loans). Previously, graduate students could borrow $20,500 per year up to a lifetime cap (including undergraduate loans) of $138,500. But these caps were meaningless, because students could borrow unlimited amounts through the Grad PLUS program. Now that Grad PLUS has been eliminated, the caps will apply. There is now an annual limit of $20,500 ($50,000 for students in professional degree programs like medicine or law), a lifetime limit of $100,000 ($200,000 for professional program students), and a combined undergraduate and graduate lifetime limit of $257,000. These limits may still be too high, particularly for professional degree students, but the bill deserves credit for establishing limits when previously there were none.

The bill also capped Parent PLUS loans, which were similar to Grad PLUS except that the borrowers were parents of undergraduate students. Parent PLUS is likely the most predatory loan offering in the country, saddling many parents with debt they can never hope to repay. The interest rate on Parent PLUS loans is very high (8.94 percent), there are few limits on who can borrow, which means that many uncreditworthy parents borrow massive amounts, and the loans lack borrower protections available for student loans (such as income-driven repayment, which ties monthly payments to income to ensure that payments are always affordable). Ideally, Congress would eliminate Parent PLUS entirely, but the bill at least puts a cap on lending of $20,000 per year and $65,000 cumulative per student.

Any one of these changes would have been reason to celebrate. But, at the risk of sounding ungrateful, more should be done to fix student loans.

The best option would be to end the government-as-lender system entirely and privatize student loans. This would have five main advantages: It would reduce educational malinvestment, increase college accountability, reward students for working hard, reward colleges for improving, and facilitate more-informed decision-making. But if we aren’t going to privatize student loans, we should at least fix government loans by eliminating subsidized loans (on which interest is waived while the student is still enrolled) and Parent PLUS loans. That would leave just one loan program.

That one program could be improved in several ways. A while back, I suggested 15 criteria for evaluating student loan systems, pertaining to access, accountability, efficiency, incentives, borrower protections, and affordability. Five reforms stood out as necessary to make government-issued student loans operate as well as they can (though still considerably worse than a private system would — compare Tables 3 and 4 here).

First, income-driven repayment would ensure that payments are always affordable and avoid defaults that are due to short-term liquidity constraints. We already had income-driven repayment options; the new bill replaces these with a new one called the Repayment Assistance Plan, so we’re on solid ground here.

Second, repayment should be done through the tax-withholding system. Workers would simply check a box on their employment forms, and employers would withhold student loan payments just as they do for taxes. We don’t do that in this country, but other countries do, and it streamlines repayment.

Third, there should be no loan forgiveness or interest-rate subsidies. The new Repayment Assistance Plan is a mixed bag on this one. It increases the number of years students are required to repay loans before any remaining balance is forgiven from 20 or 25 years to 30 years, reducing future loan forgiveness. But it also waives any unpaid interest during those 30 years. The ideal would be to let unpaid interest accumulate and drop the 30-year repayment window entirely, so that borrowers continue to repay until their debt is completely paid off.

Fourth, loans should have annual and cumulative limits. These limits were already in place for undergraduate loans, and the new bill finally established them for graduate loans too. As noted above, some of the limits may be a bit too high but are generally in the right ballpark.

Finally, colleges need to be held accountable. This was the biggest missed opportunity of the new bill. The House version sought to introduce a risk-sharing system, whereby colleges would have to repay a fraction of the debt that their students have failed to repay. Unfortunately, the Senate dropped this provision, and the final bill does not require colleges to have skin in the game regarding student loans. This is probably the most glaring problem with the current system and should therefore be the focus of future reform efforts.

Overall, the new law made some much-needed and long-overdue changes to student loans. But while this battle may be won, the war is far from over.