Bringing Sanity Back Into Student Loan Forgiveness Provisions

studentloan

The current administration finally realized last year that it was much too generous with the student loan forgiveness provisions it added to the income-based Stafford and Grad Plus Loan programs. The provisions ended up being a huge subsidy for students from high-income families who attend graduate or law school, allowing many of them to get off the hook on having to pay back thousands of dollars on their student loan debt.

The only reason these provisions have broken the bank is that the vast majority of Americans still don’t know about the program.  The President’s 2016 budget proposal, if enacted by congress, may finally add some sanity back into the program before the horse is all the way out of the barn.

How It All Got Started

The Bush administration was the first to give college graduates the option of selecting a payment option that tied student loan payments to their income. The program was especially helpful to students who ran up a very large amount of debt after obtaining their Masters or law degrees.  The repayment option was called the “Income Based Repayment Program” (IBR) and allowed students to consolidate their Stafford and Grad Plus loans and make payments in an amount equal to 15% of their discretionary income.  Any debt remaining at the end of 25 years was completely forgiven.

The Obama Administration Sweetens The Deal

Instead of leaving well enough alone, the Obama administration came up with a new and much more generous payment option created called “Pay As You Earn” (PAYE).  It only requires students to make loan payments equal to only 10% (versus 15%) of their discretionary income, with any remaining debt completely forgiven in 20 (versus 25) years.

The icing on the cake, however, was a provision that allowed married students to report only one income to calculate their loan payments–if they filed taxes separately.   Accordingly, it became possible for a married student who worked only part time to have a huge loan balance and never have to make a single payment because the loan is completely forgiven in 20 years.

Determining Discretionary Income

It’s how discretionary income is determined that makes PAYE especially generous. For starters, borrowers can deduct 150% of the poverty guideline for a single person, or about $17,000.

They can also deduct their 401K and Health Savings Account contributions.  Loan interest payments from the previous year are even deducted. Those deductions can bring the payments of a borrower earning $60,000 a year down to less than $300 per month.

If that’s not generous enough, there’s more

The current rules also allow borrowers to exclude their spouse’s income if they file separately.  However, they still get to include their spouse (as well as children) into their household size, which reduces their payments even further.  All of this generosity actually makes it possible for a married student who works only part time to carry a loan balance of over $100,000 and never have to make a single payment simply because everything is forgiven in 20 years.

Here’s the Icing on the Cake

To promote engagement in public service, the Obama administration is also promoting the Public Service Loan Forgiveness Program (PSLF) which forgives all remaining debt in just ten years for those working for the government or for a non-profit.

Since all 501(3)(b) is included, it is estimated that one in four workers can qualify for 10-year forgiveness.

The President’s 2016 Budget Adds Some Sanity to a Program That Was Getting Out of Hand

The President’s  2016 budget proposes two important changes to the current rules.  First, the budget proposes putting a cap on forgiveness at $57,500.  (This also happens to be the current aggregate loan limit for an independent undergraduate).  Any amount over the aggregate loan limit must be carried for up to an additional five years.

Next, married people will no longer be able to use just one income to determine the amount of their loan payment.  That would correct another too-good-to-be-true provision in the current law.

These and a few other moderating changes will at least add some sanity back into a program that must have been conceived over a few too many late-night martinis.  The above items are only proposed in the 2016 budget. The same proposals were made in the 2015 budget but were not enacted.  Our legislators just hate to take away any “free stuff” once it has been given to us.

The Big Question

The big question is for students entering college in 2015 and whether or not the Stafford loans initiated this year will grandfather you into the existing rules.  Though this would usually be the case, we certainly can’t guarantee it.

Stay tuned. You may also be able to get this too good to be true deal next year!