With a combined cost of $1.46 trillion, U.S. student loan debt is a national economic challenge and a political issue, one already on the agendas of some candidates running for president in the 2020 election.
For students, it’s also a personal problem. Attaining a bachelor’s degree tends to pay off significantly in future earnings at work, yet rising tuition costs have made graduating from college a financial hurdle too high for many young people to jump without a boost — often in the form of a loan. Graduates of the class of 2017 who borrowed money for school owed $28,650 on average, according to the Institute for College Access and Success.
That’s enough to severely strain the budgets of all but the best-paid entry-level workers.
The hardship of loan debt has prompted private companies and public universities to experiment with a different kind of financing option intended to impose a lighter burden. Income share agreements are contracts that provide money to students in exchange for a commitment to pay back a specified percentage of their future income for several months or years.
Unlike loans, ISAs charge no interest and carry, in some ways, less financial risk. They also have almost no government regulation, which means borrowers should do thorough research before signing any contracts.
“It’s the Wild West,” says Stanley Tate, a student loan lawyer in St. Louis.
Experts say students considering federal and private loans should take a look at income share agreements, too — but perhaps with a magnifying glass, to read all their fine print.
“To me, it’s one of the smartest options available out there,” Tate says. “I recommend it, but you can’t just blanketly say, ‘ISAs are great.'”
Shifting Risk, Adding Benefits
To borrow money today is to gamble that you’ll be able to pay off your debt tomorrow. With a typical loan, most of that risk falls on the borrower, who usually owes a preset amount each month regardless of his or her circumstances.
With an income share agreement, though, the party lending the money takes over much of the risk. Investors only get paid in proportion to what borrowers earn. Borrowers who don’t make much money won’t owe much money — and maybe even nothing at all during the months or years their salaries dip below specified levels.
However, because of the percentage payment system, borrowers with big paychecks could end up owing far more dollars than they anticipated. To account for this possibility, many income share agreements come with built-in caps limiting the total amount a borrower will have to pay back over time.
For example, say a student signs an ISA that grants her $8,000 in exchange for paying back 5% of her future salary for five years, with a lifetime cap of three times her borrowed sum. If she earns $50,000, she’ll owe $2,500 annually, for a total of $12,500. If she earns $120,000, she’ll owe $6,000 annually — but only until she has paid back $24,000 — three times her borrowed sum. That would end her commitment a year early.
Because ISAs are something of a gamble, students who seem like “safer bets” may get better terms on their agreements. People studying subjects like computer science, which correlate with high future earnings, may have to pay back lower percentages of their future paychecks or have shorter obligation periods than their peers majoring in fields with less certain employment outcomes.
As an additional benefit, some income share agreements are not reported to credit bureaus, which may help people preserve their credit scores.
“It allows borrowers not to start life deep in debt,” says Adam Minsky, an attorney who specializes in student loan law and practices in New York and Massachusetts. “Having a large debt-to-income ratio can be a problem for credit purposes.”
Reading the Fine Print
Despite providers’ enthusiastic explanations about how income share agreements differ from traditional debt, they are still serious financial obligations.
“We always advise students to really consider all of their other sources of college funding and financial aid before they consider any debt,” says Cathy Mueller, executive director of Mapping Your Future, a nonprofit that provides financial counseling for students. “The type of aid they don’t have to pay back includes grants, scholarships, work study, sources from family, working another job while going to school and seeking a less-costly education.”
Unlike student loans and other loans, income share agreements are essentially unregulated, although proposed legislation has been introduced in several states and Congress. The lack of legal clarity and federal oversight regarding ISAs makes it especially important to read each agreement carefully.
“The terms and conditions come down to what the contracts say,” Minsky explains. “What happens if it’s breached? Is it dischargeable somehow? Those are the big questions I would want to know.”
It’s a good idea to run the contract by an independent, third-party expert before committing, even if you’ve already discussed the terms with an institutional representative.
“You think the person at your school is supposed to be your advocate, but that’s a Pollyanna way to think about it,” Tate says. “You need an independent third party that says, ‘Here’s what you’re signing up for.'”
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Assessing Income Share Agreement Options
Income share agreements are not brand new. Although early experiments proved unsustainable, the concept has been revived over the last decade, first by private companies that served as platforms for investors interested in personally selecting students in whom to “buy stock.” A few third-party programs still operate, and they’re not limited to the education world; private company Align offers ISAs for general consumer expenses, such as home and car repair, medical procedures and vacations.
Yet the latest crop of income share agreement programs has sprung up at educational institutions, directly embedded in public universities and private coding boot camps.
Colleges that offer ISAs include Purdue University, the University of Utah and Norwich University in Vermont. Some schools make them available only to students who have unique financial needs, such as undocumented immigrants who can’t take out federal loans.
Coding boot camps offer ISAs for a similar reason. Participants can’t use federal aid to pay for these unaccredited education programs, so those that offer income share agreement payment plans are “gaining access to a client base they wouldn’t otherwise have,” Tate says.
ISAs also enable boot camps to double down on their purpose: helping people start lucrative careers in the technology sector. Students and schools bound by income share agreements share “alignment around maximizing someone’s income,” says Adam Enbar, CEO of coding boot camp Flatiron School.
The extent to which entities that offer income share agreements make money off the returns differs. In some cases, ISA payments go into special funds dedicated to supporting future students. In other situations, payments go to private investors.
While some borrowers may be mostly interested in finding contracts with the best possible terms, others may also want to assess where their money ends up.
“You’re selling a part of yourself,” Minsky says. “That has more moral, philosophical questions to it.”
Before Signing an Income Share Agreement:
— Consider all other possible sources of aid, especially those that don’t require repayment.
— Calculate the total sums you may have to pay back.
— Ask an expert to help you read the fine print.
— Consider where your repayment money will go.
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What Workers and Students Should Know About Income Share Agreements originally appeared on usnews.com