Federal Income-Based Repayment Plan Encourages Skyrocketing Law School Tuition

A recent item in The Washington Post explains “how Georgetown Law gets Uncle Sam to pay its students’ bills,” averaging $158,888 over three years, taking advantage of perverse incentives in a federal student-loan program. A federal income-based repayment plan forgives the student loan debt of law students who go to work for the government or a “public interest” law firm 10 years after they graduate, as long as they pay a small percentage of their income in the first ten years after graduation towards paying off part of their student loans. Typically, much of those law students’ loans are not paid off by the end of 10 years, and thus are forgiven at taxpayer expense. But Georgetown has figured out a way to take things even further and make taxpayers pick up the entire tab through creative accounting. Under its Loan Repayment Assistance Program, a student can get his law degree “absolutely free of charge,” and entirely on the taxpayer’s tab. As the Post notes,

Georgetown has found a very clever way to exploit recent reforms to federal student loan programs so as to greatly reduce the price of law school for students without costing the school anything either. Georgetown Law students who use LRAP use loans from Grad PLUS — the federal government’s student loan program for grad students — to fund the entire cost of going to law school. That includes not only tuition and fees but living expenses like housing and food. Grad PLUS has no upper limit on the amount you can borrow, so there isn’t any constraint on how much you take out.

Once out of school, the students enroll in an income-based repayment program, in which, if they’re working for a nonprofit, the federal government forgives all loans after 10 years. For that 10-year period, however, the borrower has to pay a share of their income. But under LRAP, Georgetown commits to covering all of those payments.

Upon first glance, it looks like what’s happening is that Georgetown is paying for part of the cost of law school and the federal government is forgiving the rest. But as Jason Delisle and Alex Holt at the New America Foundation discovered, Georgetown’s cleverer than that. The tuition paid by new students — tuition they’re often paying with federal loans — includes the cost of covering the previous students’ loan payments.

So Georgetown is ultimately paying its share with money its students borrow from the federal government. The feds are paying back themselves. At no step in the process does Georgetown actually have to pay anything. The feds are picking up the entire bill.

Here’s an over-simplified example of how Georgetown’s scheme works:

Let’s say that, without this program, Georgetown would be charging $10 for tuition. Let’s suppose further that, without this program and just using the normal federal income-based repayment program, these students would end up paying, on average, $5 over the 10 years before their loans are forgiven.

Now suppose Georgetown proposes this program, wherein instead of the student paying the $5, Georgetown pays the $5. It then increases the starting tuition to $15 to cover the new expense. Under normal student loan programs, that would mean that students would have to pay more back because they would need to take out a larger loan to cover the increased tuition.

But under income-based repayment, your payments vary with your income, not the size of the loan, so you still only have to pay back $5 before the loan is forgiven. So Georgetown gets $15 from the federal government, using $10 for education and using the other $5 to pay back the loan (or an equivalent earlier loan) before it’s forgiven. So the federal government is paying for all of this. Neither Georgetown nor the student pays a cent.

Of course, the real version doesn’t end up costing just $15. . . the average LRAP student gets $158,888 in federal money. Not loans, but money they don’t have to pay back. So the program amounts to a massive educational grant to Georgetown law students, who are likely to make more as lawyers than the vast majority of Americans.

What is truly scary about this clever scheme to milk the taxpayers is that it could quickly catch on at other universities, at a cost of hundreds of billions of dollars. Georgetown and other universities could easily use these same accounting gimmicks to make taxpayers pay the cost of all law students, including those who go to law school solely to get rich and bring lawsuits that enrich themselves. As The Washington Post notes, “there’s nothing, in principle, limiting this to students who go into public interest. For students who don’t go into public interest careers, the federal income based repayment program only forgives debt after 20 years, and because private-sector lawyers make more, the income-based payments will be larger than for public interest lawyers. But if Georgetown wanted to, it could jack up tuition enough to cover 20 years worth of big payments on loans taken out by alums who go into the private sector. Their students would have to take out much bigger loans,” but the increased loan debt would all be written off after 20 years, entirely at taxpayer expense. As the Post observes, “Georgetown isn’t doing this yet. But it, or any other graduate or professional degree program in the country, could do it if they so chose. If federal policy stays the same, there’s nothing stopping grad schools from having the federal government fully fund them.”

There is no reason for Georgetown not to increase tuition perpetually faster than inflation, as long as the perverse incentives contained in the federal GRAD Plus program exist.

We earlier discussed how counterproductive federal financial aid policies like the 90-10 rule already encourage colleges to jack up tuition. Last year, the Obama administration made matters worse, effectively throwing gasoline on the raging fire of college tuition increases. It announced a new financial aid policy that will effectively bail out low-quality, high-tuition law schools and graduate schools at taxpayer expense, by enabling them to increase tuition and still attract students. These changes are the product of a revised income-based federal student loan repayment program that went into effect last December. The administration’s revised “Pay as You Earn” program allows eligible student-loan borrowers to cap monthly payments at 10 percent of discretionary income, and have their federal student loans forgiven after 20 years — or just 10 years, if they go to work for the government. An earlier version of the program capped payments at 15 percent and offered forgiveness after 25 years. For students who foolishly attended third-rate but expensive colleges and law schools, this could wipe out part of their debt, at taxpayer expense, since their salaries in the low-paying jobs they end up with will be insufficient to pay off all of their massive debt in 20 years if they pay only 10 percent of their leftover income towards repaying their student loans.

In the short run, this will primarily benefit those eligible students. But in the long run, the primary beneficiaries will be low-quality but expensive colleges and law schools, which will be able to raise college tuition through the roof, since no matter how much debt their students run up in college, it will be written off after 20 years, effectively capping the cost to students, but not taxpayers, who will bear an ever-increasing share of students’ college expenses.

As Peter Schiff, the President of Euro Pacific Capital, laments, this plan

will ensure students are able to commit to higher levels of federally backed student loans. By limiting student obligations to repay, and by passing more of the repayment burden onto taxpayers, colleges and universities will be able to continue to raise tuitions at a rate that outpaces nearly every other cost center in the American economy. The move will come as a great relief to the education establishment who otherwise may have needed to cut or cap tuitions.

The Obama plan limits repayment obligations to just 10% of “discretionary income” which it defines as total income above 150% of the federal poverty level . . . The plan also limits the term of obligation to 20 years. . . A less successful graduate who earns say $50,000 per year, on average over the 20-year obligation period, would have a repayment burden of just $1,500 per year, or just $30,000 over the life of the loan. Any loan amounts above those totals will be forgiven.

As a result, students need not fear the inability to repay large loans. . . . the less a graduate earns, the greater the amount of loan forgiveness. For the majority of students, who don’t become very high earners, it will make little difference if loan amounts are $90,000, $180,000 or even more. . . .

These policies could remove all barriers for larger and larger loans, which will then allow universities to charge higher and higher tuitions. . . .The day of reckoning in which the higher education system would have had to offer programs that fit into the budget of average Americans has been postponed, if not entirely eliminated.

Of course the losers in this new arrangement will be American taxpayers who will be on the hook for the unpaid balances. Recently, college loan debt passed credit card debt as the largest, non-mortgage, source of debt in the United States. . . . If college students were willing to rack up this much debt under the assumption they would have to actually pay it back, imagine how much debt they will be willing to amass now that they realize they do not? As a result, expect college tuition increases to not only continue but to accelerate.

Law school tuition has already risen nearly 1,000 percent after inflation since the late 1950s. Now, things will get worse.

Under the Obama administration’s new income-based repayment plan, the federal government will write off most of the loans of the students who chose to go to low-quality, high-tuition law schools, and they will not even have to repay what they are capable of paying, since their payments will be limited to less than 10 percent of their income. (By contrast, prudent students who attended cheaper or better law schools will not receive the same benefit, since their loan payments are already smaller compared to their incomes. Law school tuition is funded disproportionately by student loans, loans graduating low students at lower-tier law schools will not be able to pay back with just 10 percent of their income over 20 years. As law professor Brian Tamanaha notes, at 20 expensive low-tier law schools, most students never will be able to fully repay their student loans, since most graduates of these schools don’t find good jobs.)

These law schools will respond to the administration’s new program by increasing tuition even faster, since the increased tuition will be paid not by students, but by the American taxpayers when the borrowed tuition is later written off (moreover, the law schools can use increased tuition to attract students by “loading up their campuses with even fancier facilities,” and also pay their administrators a fortune. One fourth-tier law school paid its dean $867,000 per year).

This taxpayer subsidy for low-quality law schools is especially unfortunate, because such law schools are in many respects economically harmful, and many law schools teach their students so few practical skills (as candid law professors have admitted) that their students would be better off studying for the bar exam on their own, rather than attending law school (alas, the option isn’t available, since most states require students to attend law school before taking the bar exam, even though I found my time at Harvard Law School to be mostly a waste. Never mind that students can learn how to be good lawyers without ever going to law school).

Colleges have been able to increase tuition much faster than inflation, year after year, secure in the knowledge they can rake in ever-rising government subsidies and skyrocketing tuition. Meanwhile, college students are learning less and less.