Tag Archives: Financial Aid Reform

The government is losing, rather than making money on student loans

Josh Mitchell reports that

U.S. officials have long maintained the federal government would make a profit on its $1.4 trillion student loan portfolio or at least break even, but two recent reports suggest just the opposite will be the case. Government lending to college and graduate students could soon become an immense drain on federal coffers, worsening an already deteriorating U.S. budget picture…

projected that money coming in for government student loan and guarantee programs will be $36 billion short of what’s needed to cover outstanding debt and accrued interest.

A year earlier, the department projected the shortfall would be $8.4 billion, while in prior years it projected the program would generate billions of dollars in taxpayer surpluses…

the risk of a flood of red ink highlights what analysts across the political spectrum agree has become an inefficient system that for years directed funds to universities as they raised prices, with little regard for the creditworthiness of borrowers…

Josh Mitchell on the cost of student loan forgiveness

Josh Mitchell

The federal government is on track to forgive at least $108 billion in student debt in coming years, according to a report that for the first time projects the full cost of plans that tie borrowers’ payments to their earnings.

The report, to be released on Wednesday by the Government Accountability Office, shows the Obama administration’s main strategy for helping student-loan borrowers is proving far more costly than previously thought. The report also presents a scathing review of the Education Department’s accounting methods, which have understated the costs of its various debt-relief plans by tens of billions of dollars…

under current law, any amount forgiven would be taxed as ordinary income for private-sector workers, limiting the benefits for individuals. Public-sector workers aren’t taxed on forgiveness…

Kothari and Ray on varying student loan amounts by field of study

S.P. Kothari and Korok Ray:

Restructure the Federal Direct Loan Program to target loans based on field of study…

When the government is in the business of offering credit, as it is now with student loans, it should think hard about credit risk. One of the chief lessons of the 2008 financial crisis was that mispricing credit risk can have catastrophic consequences.

Yet the government’s Direct Loan Program mostly ignores the credit risk of students, treating them largely as identical in their long-term employment outcomes…

Our proposal is to target the loan amount for each student based on field of study. First, we restrict attention to the loan amount rather than the interest rate since a partial loan (rather than higher rate) is better at ensuring that students have “skin in the game.”

Second, the field of study category need not be determined by government alone but can rely on market data. The Boston-based company Burning Glass Technologies collects data on earnings and collegiate educational choices to quantify the value of different majors in college. Relying on such an index would allow government officials to peg the loan size to market data rather than by government fiat alone…

The 4 craziest things I learned while coding the college financial aid formula: Part 4 of 4

While designing a webtool that provides potential college students with an estimate of their financial aid, I learned a few crazy things.

# 1 is here. # 2 is here. # 3 is here.

#4: The aid formula is biased toward states like New York and California, and against states like Texas and Florida.

The aid formulas allow applicants to subtract allowances for state and other taxes from their income, similar to deductions on your taxes. Since a higher income will generally reduce aid eligibility, the higher the allowance, the more of your income is shielded from the aid formula. But the allowance varies by state. For example, independent students with dependents other than a spouse in New York generally get to shield 8% of income from the aid formula, and 7% in California. But similar students in Texas and Florida can generally only shield 2% of their income with these allowances.

While unfair to all residents in states like Texas and Florida, this unfair treatment is especially problematic when it interacts with the minimum Pell grant discontinuity highlighted in part 1.

To see this, starting from the default settings of the webtool, select this year, increase age to 30, select married with spouse not attending college, with 2 children, then increase income to 70,300. This student (who lives in California) would receive a $600 Pell grant and have an EFC (EFC stands for Expected Family Contribution, and it is what the government thinks your family can afford to pay for college) of $5,200. This same family in Texas would have an EFC of $6,200 and a Pell grant of $0.

The only difference between these two families is that one lives in California, and one lives in Texas. Yet the California student gets a $600 Pell grant while the Texas student gets $0 in Pell grant aid.

Right now, the federal aid formulas are effectively discriminating against students in Florida and Texas, and giving more aid to students in New York and California. The easiest solution to this problem would be to apply a universal state tax allowance regardless of state of residence.

The 4 craziest things I learned while coding the college financial aid formula: Part 3 of 4

While designing a webtool that provides potential college students with an estimate of their financial aid, I learned a few crazy things.

# 1 is here. # 2 is here.

#3: Marriage is rewarded.

One somewhat surprising finding is that the financial aid formulas reward marriage. To see this, from the default settings of the webtool, select this academic year and then decrease parent income to $40,000. This two parent family would have an EFC (EFC stands for Expected Family Contribution, and it is what the government thinks your family can afford to pay for college) of $4,200 and a Pell grant of $1,600. But if you change this to a one parent family, EFC increases for $4,700 and the Pell grant declines to $1,100.

This quirk is caused by giving married students and students from households with two parents a larger asset allowance (essentially shielding more of their assets from the financial aid formulas). I think encouraging two parent households is probably a good idea, but I’m not sure financial aid eligibility is the right place to be doing so. I’m also not sure this is fair to single individuals. If you’d like to fix this, the clearest solution is to allow for the same asset allowance regardless of marriage status.

The 4 craziest things I learned while coding the college financial aid formula: Part 2 of 4

While designing a webtool that provides potential college students with an estimate of their financial aid, I learned a few crazy things.

# 1 is here.

#2: Student earnings and assets are “taxed” at an unreasonably high rate by the aid formula.

It should be fairly uncontroversial that saving money for college is a good thing. Similarly, working over summers to earn money for college should be thought of as a good thing. Yet the aid formula discourages both too much.

This is easiest to see with independent students without any dependents, say a 25 year old enrolling in college for the first time.

To see how work is discouraged, starting from the default settings of the webtool, select this year, increase the student’s age to 25, and then increase earnings to $16,000. Such a student would have an EFC (EFC stands for Expected Family Contribution, and it is what the government thinks your family can afford to pay for college) of $2,000, a Pell grant of $3,700, and a price after aid of $100. If the student earns an extra $800, EFC increases to $2,300, their Pell grant is reduced to $3,400, and their price after aid increases to $500.

In other words, the student’s is rewarded for earning an extra $800 by having their Pell grant cut by $300 and having their price after aid increase by $400. This discourages such a student from working to earn that extra $800.

To see how saving for college is discouraged, from the default settings of the webtool, select this academic year, increase the age to 25, and increase assets to $12,500. Such a student would have an EFC of $1,900, and a Pell grant of $3,900, and a $0 price after aid (student loans cover the rest of the cost). Now increase assets by $1,000 to $13,500. The student now has an EFC of $2,100, a Pell grant of $3,700, and a $200 price after aid. This means that there is essentially a 20% tax on student assets (every $5 increase in assets will reduce aid eligibility by $1). A 20% tax may not seem that high, but remember that it is applied each year. Assuming the student pays the extra $200 in price after aid out of assets, there is $800 of the original $1,000 left the second year, and this will reduce aid eligibility by $160 for the second year. There would be $640 left in the third year, reducing aid in year three by $128. The $512 left in year four would reduce aid eligibility by $102.40.

To sum up, students like this are “rewarded” for saving an extra $1,000 with a reduction in Pell grants over four years of $590.40.

Since these high “tax” rates discourage working and saving for college, the financial aid formulas should be modified to tax these activities at a much lower rate.

The 4 craziest things I learned while coding the college financial aid formula: Part 1 of 4

While designing a webtool that provides potential college students with an estimate of their financial aid, I learned a few crazy things.

#1: There are very unfair differences in aid due to auto-zero EFC and the minimum EFC cutoff for Pell grants.

Federal financial aid is thought of and portrayed as being fair in the sense that students in similar situations receive similar financial aid. That is true for the most part, but there are two bright line cutoffs that severely violate this principle.

The first is the auto-zero EFC cutoff. EFC stands for Expected Family Contribution, and it is what the government thinks your family can afford to pay for college. To simplify the aid application process, students whose parents make less than $24,000 qualify for an auto-zero EFC, meaning that the government thinks the family can’t afford to pay anything for college, which will increase the amount of aid those students are eligible for.

The webtool easily illustrates how this bright line cut-off results in similar students receiving very different financial aid. Starting with the default choices, choose this academic year, and change parent income to $24,000 and you’ll see that the student is eligible for a Pell grant of $5,800. But if those parents made $26,000 instead, Pell grant eligibility declines to $3,800. In other words, parent income increased by $2,000, and the Pell grant decreased by $2,000. That’s a 100% “tax” rate on that extra income, with every extra dollar in earnings resulting in a dollar less of financial aid. You don’t have to be a Laffer curve enthusiast to think that a 100% tax rate really distorts incentives for work.

The other big discontinuity in the aid formulas concerns the minimum EFC for Pell grant eligibility. This year the minimum Pell grant is $600 (technically $587, but rounded up). This creates a discontinuity around that cutoff, with similar students receiving very different aid offers.

Starting from the defaults in the webtool, if you increase the student’s age to 24, and then increase their income to $23,800, the student is eligible for a Pell grant of $700. Yet if that student earns $24,200 instead, they would not be eligible for a Pell grant at all. In other words, by increasing their income by $400, the student’s Pell grant is reduced by $700! This is, to use a technical term from economics, insane.

These two bright lines – the auto-zero EFC and the minimum EFC for Pell grants – result in treating similar students very differently. The clearest solutions would be 1) to simplify the FAFSA enough so that auto-zero EFC is no longer needed, and 2) reduce the minimum Pell grant to say $100.

IBR continues on its path toward a massive train wreck

Josh Mitchell reports on the unfolding disaster that is the loan forgiveness under IBR:

The federal government is preparing to forgive billions of dollars in student loans to doctors and other white-collar Americans with expensive educations…

At issue is a 2007 program that forgives any federal student debt after a borrower has made a decade of payments… while working for government or nonprofit entities. It was designed to encourage young Americans to pursue traditionally hard-to-fill jobs: public defenders, social workers, teachers and modestly paid doctors in underserved areas.

But the program is encompassing far more workers than envisioned, many of them well-paid. Thousands of workers with pricey graduate degrees are on track to discharge five- and six-figure debts on their way to typically lucrative careers…

The biggest beneficiaries will be medical-school students, who owe on average $180,000 upon graduation…

“We’re subsidizing people who are going to be well-off, better than middle class,” said Gailen Hite, a retired Columbia University finance professor who has researched the program…

For ideas on how to fix IBR, see here.

Alexander Holt on how federal financial aid could ruin coding bootcamps

Alexander Holt:

bootcamps where students enroll in relatively short programs (often three to six months) to learn coding skills and gain high paying jobs. These boot camps, and other programs like them, are arguably the most exciting type of postsecondary education to emerge in the last decade. If the federal government gets its way, it will likely suck most of the innovation out…

as soon as federal dollars touch these programs, they will become hopelessly distorted. Instead of students selecting educational programs for high job placement rates and schools accordingly tying their price to students’ post-graduate outcomes (as they do now), federal financial aid dictates that providers will get money as long as the student enrolls–an input model, not an output model…

There once was another highly innovative industry that federal aid ruined. For-profit companies using online distance learning tools were seen as a brand new way to educate students at lower costs… What we failed to understand was that online programs were only innovative when they had to survive in a real market. In 2006, schools were no longer required to teach at least 50% of the program on campus, thus opening up the crazy online degrees we have now… with little or no evidence they lead to positive outcomes for students…

what starts as expanding access ends with bad actors taking advantage of federal dollars with no strings attached…

Republicans should be against forcing taxpayer money in and thus distorting a now functioning market. Democrats should be opposed to the next “for-profit” disaster…

Holt makes a good point. While we should provide aid to students wanting to enroll in these programs, if we rely on the same input monitoring process we currently use for aid, it will likely just open the floodgates to fly-by-night providers. The solution, of course, is to start making aid available based on outcomes (e.g., value-added measures of learning and earning), not inputs (e.g., enrollment and provider credentials).