Obama Announced Student Loan Changes--What it Means for Borrowers

At $1 trillion and counting, President Barack Obama is taking executive action in effort to ease the student loan debt crunch.

The president announced Monday the expansion of 2010’s “Pay as You Earn” program that caps some graduates’ repayments at 10% of their monthly discretionary income. The executive order increases eligibility of the program to include those who took out loans before October 2007 or stopped borrowing by October 2011, a move the White House says will expand payment relief to nearly five million people.

The government determines discretionary income by subtracting 150% of the poverty level from an individual's total income, explains Mark Kantrowitz, senior vice president and publisher of Edvisors Network. “The idea is that it accounts for money you have no real choice of how to spend. It goes to paying for basic living expenses. It’s a rough cut, but a reasonable approximation.”

The reprieve goes into effect December 2015.

“In a 21st Century economy, a higher education is the single best investment that you can make in yourselves and your future.  And we've got to make sure that investment pays off,” the president said Monday.

The federal government offers different repayment plans to help cash-strapped borrowers, including income-based repayments, the graduated repayment program, and forgiveness programs for on-time payments and public-sector employees.

Under many of the plans, low-income borrowers can have their balance canceled after 25 years of on-time payments. The president’s plan moves the forgiveness date to 20 years or 10 years for those in public service jobs.

“It will slightly increase the amount of debt that is forgiven, but it’s not going to be enough to stimulate the economy,” says Kantrowitz. “If the government were to forgo all student loan debt immediately, it would have a 0.4% impact on the GPD. It wouldn’t really move the economy.”

Beth Akers, a fellow in the Brookings Institution's Brown Center on Education Policy, says the move could also unintentionally push college tuition prices higher.

“The income piece is a necessary safety net for borrowers. It gives security to not be afraid to take on debt to go to college, but the forgiveness part isn’t always necessary. It induces people to borrow more than they need to, which can have a negative impact on college prices.” She says students are still getting a positive return on their college education investment—but too often, people are borrowing more than necessary. “We need to be careful when granting aid to borrowers because it can raise the prices on the front end.”

According to the White House, the average tuition at a public four-year college has more than tripled in recent decades, with 71% of those earnings a bachelor’s degree graduating with debt averaging $29,400.

Education Secretary Arne Duncan told reporters Monday that the department is still working through the details to put a price tag on the president’s repayment plan.

Obama also announced the Education Department will renegotiate contracts with companies that service federal loans to have them provide more incentives to help more borrowers from falling behind on payments.

The president also called for increased awareness about repayment options with the Treasury and Education Departments working with Intuit and tax preparation firms to make borrowers more aware of the payment options and potential tax credits.

The president, who was joined on stage with graduates who have been helped by student loan reduction programs, said the expanded program will help graduates manage their debt and help avoid the consequences of defaulting on a federal student loan.

The president also endorsed Sen. Elizabeth Warren’s (D-Mass.) Bank on Students Emergency Loan Refinance Act that would allow student borrowers to refinance their college loans at lower interest rates, calling it a “no-brainer.” The refinancing bill has more than 35 sponsors in the Senate and would let borrowers refinance loans owned by the private sector into new loans made by the Education Department.

Last year, Congress tied the rate of new subsidized federal student loans to Treasury bond rates, which prevented rates from spiking to 6.8%.

Kantrowitz is skeptical of the impact lower rates would bring. “If a borrower has $10,000 in debt, the proposal would reduce the interest by three percentage points, so that means $300 a year, or $25 a month. If you are that close to the edge, you are probably already over the cliff, it’s not going to be that dramatic of a change.”

Nicole Mayer, partner at RPG – Life Transition Specialists, who had to take out private loans to finance her education, says being able to refinance those loans would be a big help. “You can only borrow a certain amount from the federal government, and sometimes students are forced to go to the private market and face rates that can really choke them up after graduation.”

On the other hand, Akers says the people who stand to benefit the most from refinancing are those with the highest debt loads, a group that often has the highest earning potential. “People with the largest student debt load are often those with biggest incomes down the road. I am sympathetic they are paying a lot, but if the government is going to spend money to help people, it’s not clear to me these are the people who need it most.”

Paul Gentile, president and CEO of the Massachusetts League of Credit Unions, says the government should allow private lenders to consolidate federal students. “We would be able to give a lower rate and extend the terms. People should be allowed to lower their interest rates and pay less over a longer term,” he says. “We don’t think twice about a 30-year mortgage, why not with our education?”

When it comes to solving the growing student loan problem, experts say more has to be done ahead of college enrollment.

“When it comes down to it, our college education system is a market-based system. There are a lot of government subsidies but the main system relies on consumers making decisions and essentially voting with their dollars. We need to train our young adults to make sound decisions in their choice of college and loan amounts. Right now, they don’t have the necessary data to make these decisions with all the information they need.”