Federal student loan system: an uncertain future

Over the last two decades, the burden of funding higher education has shifted to students, putting more strain on the federal student loan system. The increasing cost of maintaining the federal student loan system has led to concern on Capitol Hill over the sustainability of the program. As outstanding debt continues to increase, lawmakers, who currently remain sharply divided, will need to compromise on a solution that wrestles with the realities of the costs of the program while avoiding limiting access to education for millions of Americans.

As the cost of delivering higher education has increased rapidly over the last several decades, much of the cost burden has shifted away from taxpayers and toward students and families. As shown in Figure 1, tuition and fees now account for about 25% of total higher education funding, compared to 21% two decades ago. Real tuition has grown at a 3% compound annual growth rate over the last two decades while real median income has stayed largely flat, resulting in a significantly higher price tag for studentsi. Consequently, students and families have come to rely more heavily on student loans. The federal student loan system is a cornerstone of US higher education, granting access to millions of Americans over the past 60 years. However, mounting debt levels have raised concerns about the viability of the student loan system, sparking a national debate around student loan policy.

Figure 1

EY - US student loan debt by repayment status

The US government first began extending student loans in 1958 with the passage of the National Defense Education Act (NDEA). The act was intended to incentivize U.S. students to enter into certain scientific fields of study and contribute to areas of national priority during the era of the Cold War and early space explorationii. NDEA paved the way for the development of the federal student aid system, which, with the passage of further legislation like the Higher Education Act of 1965, has evolved into a broad-reaching organization that facilitates the funding of higher education to roughly eight million Americans each year.iii

As Figure 2 shows, the total amount of outstanding student debt has increased dramatically in recent years with cumulative debt rising almost 50% over the past seven years surpassing $1.5 trillion.iv, vAdditionally, student loan delinquency rates have nearly doubled from 6% in 2003 to 11% in 2019. A recent study by the Brookings Institute estimates that 40% of the 2004 college-entry cohort that took out loans will have defaulted by 2023vi. This is perhaps unsurprising given that growth in the average size of a federal student loan is outpacing wage growth. On a constant dollar basis, the average undergraduate student loan was 63% of US median income in 2000, but has risen to 72% in 2016, and estimated to be nearly 93% in 2019 (Figure 3).

Figure 2

EY - US student loan debt by repayment status-fig2

Figure 3

EY - Average cumulative loan amount for undergraduate students with loans and US median income

The government has faced increasing costs in the form of loan defaults as students are unable to pay back their loans or loan forgiveness programs in response to closing institutions. A 2014 rule required for-profit institutions to prove their students achieved “gainful employment” or risk losing federal funds, which resulted in more than 300 programs shutting down. As a result, in late 2018, a federal judge ordered that the Department of Education cancel approximately $150 million in student loans for students whose college closed while or shortly after they attendedvii. Concerns around the cost of the federal student loan program have led to polarizing debates among Washington, D.C. lawmakers as they consider how the government can rein in costs of the system while continuing to provide access to higher education.

On one hand, many Republicans posit that the federal student aid system cannot be sustained without significant reform. In early 2019, the White House released its “Proposal to Reform the Higher Education Act,” suggestions for Congress that build on common party-aligned themes. The proposal suggests consolidation of income-driven repayment plans, capping PLUS loans for parents and graduate students, and eliminating the Public Service Loan Forgiveness Programviii. In its place, the White House suggests extending loan forgiveness to all undergraduate students after 180 months of repayment. The administration hopes to streamline the student-loan system, shift responsibility for debt away from the government, and encourage borrowers to pursue high-demand fields.ix Critics are concerned that a simultaneously proposed $7 billion budget cut for the Department of Education may limit the effectiveness of suggested changes to Federal Work Study and loan repayment programs.x Additionally, critics worry that borrowers may have fewer loan options, and thus pay higher prices, and that the new system that gives preferential treatment to specific career pathways.xi

On the other side of the aisle, Democrats remain divided over how to approach the mounting student loan crisis. In 2019, the House of Representatives' Education and Labor Committee passed the College Affordability Act (CAA), which aims to address the rising cost of tuition, streamline student loan repayment, and create more generous repayment plans for existing borrowers.xii Supporters of the CAA highlight its proposals to make community colleges free via a federal-state partnership and increase the Pell Grant value to assist students with tuition costs.xiii Conversely, critics point out that a $500 boost of the Pell Grant still falls well short of covering the majority of four-year institutions’ cost of attendance, and claim that the CAA is not comprehensive enough, especially compared to proposals put forth by Democratic presidential candidates.iv For instance, Senator Bernie Sanders proposes cancelling all $1.6 trillion of student loan debt through a new tax on financial transactions.xv Meanwhile, Senator Elizabeth Warren calls for cancelling student debt for more than 95% of borrowers and simplifying the student loan debt forgiveness process.xvi U.S. Secretary of Education Betsy DeVos and other critics believe that securing funding for these proposals, via taxes or other proposed measures, is an unattainable goal.xvii

Notably, a third solution has begun to emerge that seeks to address the perceived pros and cons of these proposals. A. Wayne Johnson, the former Chief Operating Officer at the Office of Federal Student Aid who was appointed by DeVos, left his job in late 2019 after calling the student loan system "fundamentally broken," and announced his candidacy for the US Senate representing the state of Georgia in hopes of enacting change to the system.xviii As part of his campaign, Johnson put forth a proposal to address the student debt crisis that incorporates aspects of several existing proposals, offering what he believes is a middle ground.. He calls for the government to forgive up to $50,000 for all borrowers, financed through a new 1% tax on corporate earnings. He believes his plan is a stepping stone towards replacing student loans with government vouchers to partially cover tuition costs, which would not need to be repaid.xix Like many Democratic proposals, Johnson plan involves relieving the burden on taxpayers by taxing corporations. Meanwhile, like several other Republican proposals, Johnson’s plan focuses on capping student debt forgiveness and limiting the government's liability with vouchers, which corresponds to the concept held by some in Washington that as more aid is given, higher education institutions increase their tuition rates.

With the exception of Johnson’s proposal, there appears to be very little common ground on which to stand. Critics argue that Republican party proposals may lack funding and oversight to create effective pathways for students and claim that Democratic proposals may not do enough to rein in the increasing taxpayer costs of the federal student loan system. It is important that legislators find a compromise. A path forward should seek to provide accessibility at a cost that is reasonable for taxpayers. Failure to find such an alternative, risks the collapse of a foundational piece of the American higher education system and could drastically limit millions of Americans’ ability to access higher education.

US SCORE no. 07947-191US

i IPEDS; U.S. Census Bureau

ii U.S. Department of Education

iii Federal Student Aid — an Office of the U.S. Department of Education

iv Federal Student Aid — an Office of the U.S. Department of Education

v Inside Higher Ed, ”Devos Issues Warning About Student Debt”

vi Brookings Institute, “The looming student default crisis is worse than we thought”

vii The New York Times, “DeVos Is Discarding College Policies That New Evidence Shows Are Effective”

viii Forbes, “Betsy Devos To Forgive $150 Million Of Student Loans”

ix Ibid.

x The Chronicle of Higher Education, “Here’s What Trump’s 2020 Budget Proposal Means for Higher Ed”

xi Inside Higher Ed, “Few Surprises in White House Budget”

xii Ed Labor, “College Affordability Act Fact Sheet”

xiii Ibid.

xiv Inside Higher Ed, “House Dems’ Vision for Higher Ed”

xv Forbes, “Betsy DeVos: Cancel Student Loan Debt? That’s ‘Crazy’”

xvi Ibid.

xvii Ibid.

xviii The Wall Street Journal, “Trump Education Official to Resign and Call for Mass Student-Loan Forgiveness”

xix Ibid.