The Latest Budget May Cost Student Loan Borrowers and the Economy $15 Billion


NEW YORK (MainStreet) — For many federal student loan borrowers, the most noteworthy part of the $1.1 trillion compromise budget passed by Congress earlier this month is what's missing: mention of the much-anticipated Pay As Your Earn (PAYE) federal student loan harmonization proposal, which would extend PAYE's benefits to all eligible federal student loan borrowers – including those currently under less-favorable programs, such as the Income Based Repayment (IBR) plan. The proposal, which appears to have been omitted from the approved budget plan, could've also saved the broader economy about $15 billion.

This is disappointing for many borrowers facing financial hardship, but it also highlights the difficult economic prospects of a generation mired in record levels of debt. As aggregate student loan levels exceed $1.2 trillion, and individual loan balances exceed $29,000, many young borrowers see their future prospects tied to their ability to manage their debt.

The Financial Benefits of PAYE

PAYE, which caps monthly federal student loan payments at a maximum of 10% of a eligible borrower's disposable income and offers forgiveness of any remaining loan balance after 20 years of on-time payments, is only available to borrowers with no federal loans prior to October 2007 and who received a federal loan disbursement on or after October 2011. For borrowers who do not meet these program requirements, there is IBR, which caps monthly payments at a maximum of 15% of disposable income and offers loan forgiveness after 25 years of payments.

Though the differences between the two plans appear to be relatively small, PAYE can offer significant savings advantages over IBR. Under the IBR plan, a single borrower with a $29,000 student loan burden at 5% interest but only a $25,000 income (not atypical for recent graduates who meet the "financial hardship" requirement for these programs), would pay about $97 per month or nearly $51,000 in total payments including interest over the 25-year repayment horizon.

Under PAYE, however, the Federal Student Aid Repayment Calculator shows that same borrower would only pay $65 per month or about $35,000 over the 20-year repayment period. That's a savings of close to $15,000 over the life of the loan. Sure, the borrower may earn more in the future, but IBR and PAYE must both be renewed yearly, and thus takes this into account. The result is still a massive discrepancy in the total amount owed and paid over the life of the loan between the PAYE and IBR groups – strictly because one group of unfortunate borrowers doesn't meet the current loan origination date guidelines.

For graduates of private colleges or graduate and professional programs who borrowed more heavily, the impact is even greater. Take, for example, a private college or grad/professional school graduate with $100,000 in loans and a $50,000 salary (not an uncommon outcome). The difference in total payments on IBR vs PAYE is over $230,000 - or more than the total of the average American's mortgage, car loan and credit card balance combined.

The $15 Billion Budget Blunder

White House and other government estimates suggest somewhere between 1.5 and 2 million borrowers could currently benefit from IBR and PAYE plans. If we assume half of these borrowers don't qualify for PAYE, then there are approximately 1 million borrowers carrying the average $29,000 debt burden (saving about $15,000 over the life of the loan by using PAYE, as calculated above). Their total aggregate savings could be about $15,000,000,000. Yes, that's $15 billion.

That figure, of course, is just a back-of-the-envelope estimate. It could be significantly lower if, as expected, many of these borrowers increase their earnings over time and are able to accelerate their loan repayment. Some borrowers will also have lower debt burdens, interest rates and so forth. But, on the other hand, also consider that some smaller percentage will have higher debt burdens, or may never secure higher-paid employment. And PAYE is already helping to reduce loan delinquency rates, ostensibly saving the government money.

The scary truth, then, is that while $15 billion is just a ballpark estimate, it's still likely that billions of dollars are being diverted from more productive economic uses (such as buying homes, starting businesses, or raising children) to student loan servicing.

For borrowers who agreed to take on student loans, the cat's already out of the bag: They'll need to repay the loans using whichever available repayment plan best meets their needs.

But that doesn't take the sting out of delaying or altogether abandoning many of their economic dreams. Nor does it change the fact that the omission of the PAYE extension from the new budget could cost the broader economy billions of dollars.

--Written by Janet Al-Saad for MainStreet

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