Tackling the Student Loan Cancellation Dilemma

July, 2018

Washington -- This blog post will throw caution to the wind and take on the issue of wholesale student loan cancellation as a way to help the economy and simultaneously get millions of borrowers out of financial trouble. The Levy Institute has recently looked at cancellation's effect on the economy and finds considerable merit in the idea; and it is abundantly clear that student loans are the cause of unending financial distress for wide swaths of the U.S. population. To an alarming extent, the mess is attributable to fundamental consumer protection failures.

The idea of student loan cancellation came up before in the aftermath of the Great Recession, as a way to put money into the economy to aid recovery. No one advanced an acceptable plan. The proposal came up again in the 2016 election but quickly was dropped in favor of airy candidate promises for "free" college sometime in the distant future. This naturally built resentment among those with current debt.

Now some political candidates are talking about it again but with little substance as to hows and whys.

A major problem that must be overcome is "equity." It seems unfair to cancel the large existing debt of one person but to do nothing for another person who has struggled mightily and just paid off debt. It seems unfair to cancel a large debt of a person who chose to attend an expensive college but cancel only a small debt for someone who chose a low-cost, and perhaps lesser quality, institution. It seems unfair to students who worked two or three jobs and took extra years to graduate so as to avoid debt. Inherent perceived inequities will likely sink any universal loan cancellation plan.

A different way to approach the problem would be to address equity concerns first, above other considerations. The amount of debt relief would not be based on amount borrowed or debt remaining, but would be based on other criteria that are more fundamental to the creation of the problem in the first place.

The increase in student loan debt has been due in significant part to dimished public support for higher education. There was once a consensus* that individual students should pay about one-third the cost of higher education, public tax support should provide another third, and the remaining third would come from charitable efforts and miscellaneous grant, contract, and enterprise receipts. That was understood to be a rough split of support based on the idea that whoever benefited should pay proportionately.

But by the beginning of this century, individuals were often picking up much more than a third, and borrowing heavily to do it.

A solution would be to have society step back in to equalize between generations. Consider a simple illustration: if the cost of education (instruction and related) was an inflation-adjusted $21,000 per year, under the old consensus the individual would be responsible for $7,000 and others for $14,000. But as we moved into this century, the responsibility became more the reverse.

So why not provide a tax credit of $7,000 per individual per year of post-secondary education (using the example above) with the rationale of generational equity, to make up for the unfairness of abandoning the old consensus? The credit would provide look-back up to thirty years. Its actual amount in any year would be calculated on national averages of cost and share. Claiming the credit would require only proof of attendance in credit hours (available in transcripts) at a HEA Title IV participating post-secondary institution, not an amount borrowed, paid, or due.

This would help many individuals immensely and allow them to get on top of their debt quickly. It would not be "forgiveness" of the debt, in the sense that the term is often used interchangably with other debt relief measures. The forgiveness involved would be society's own asking for it, from a generation of individuals it wronged and for which we are all paying, individual and society alike. Even the Federal Reserve chief has expressed concern about student loan debt's drag on the economy.

Yes, the tax credit would be refundable if taxable income was too low to take full advantage of the credit, but the refund would be paid first to reduce principal loan balance. There should also be a means test for so-called vertical equity. Those with high incomes and high debt are not the issue that needs to be addressed. Bankruptcy relief should become available as it was before 1998** for those with intractable problems. To forestall price-gouging by institutions, Congress should put a moratorium on the collective amount of loans any institution can put into students' financial aid packages, enforced through HEA Title IV gatekeeping.

These measures would enhance a sense of urgency to replace them with broad post-secondary finance reforms and move the U.S. toward better models, like Australia's for example.

This approach could also be considered a "tax cut" due the lower and middle classes, which did not benefit much if at all from the 2017 federal tax cut, as it largely benefited corporations and individuals at the higher income levels.

I would not be surprised if this idea, or something like it, quickly gained popular support as a way of dealing with the nation's crippling student debt crisis. It would have many of the same positive effects on the economy as described in the Levy study; it would avoid many of the inequities of earlier proposals that doomed them; it would save countless families from continued financial ruin brought about by foolish, counterproductive federal student loan policies. (Not to mention inept and sometimes fraudulent student loan administration.)

It gives me pause to suggest any plan that would increase the federal deficit, but the Levy Institute's study ameliorates that concern substantially.

* The consensus is best explicated by the Carnegie Commission, 1973.
** 2005 for private student loans