Public Service Loan Forgiveness Does Not Make Your Loan Affordable

Our Chronicle of Higher Education article on how Georgetown Law uses federal student loans, Income-Based Repayment (IBR), and Public Service Loan Forgiveness (PSLF) to offer its students free educations financed largely with taxpayer funds has won third prize for a stand-alone feature in the Education Writers Association’s National Awards for Education Reporting.

The article set off a lively debate about the excesses of an unlimited forgiveness program largely benefitting graduate students. Indeed the implications of the scheme were not lost on the Obama administration—the president’s budget released in March proposes a series of reforms to the IBR program for student loans, including a cap on how much debt can be forgiven under PSLF—a recommendation we made in the article.

The proposed cap on PSLF has little to no bearing on the ability of such a borrower to take a low-paying job in the public sector.

Critics have attacked the proposal, claiming that such a cap makes it impossible for someone with a large student loan balance to work in a relatively lower-paying, public sector job. But in fact, the proposed cap on PSLF has little to no bearing on the ability of such a borrower to take a low-paying job in the public sector. It is IBR, not PSLF, that allows a borrower with lots of debt to take a low-paying job without suffering an overwhelming financial hardship. And IBR would continue to cap borrowers’ payments at an affordable share of their incomes under our proposal and under the president’s.

Before going any further in this discussion, let’s get one thing out of the way. The cap we proposed for PSLF should apply to new borrowers only. Everyone else should be grandfathered in.

Because IBR and PSLF were enacted in the same legislation, and because borrowers generally earn the benefits of PSLF by using IBR, the benefits of these two distinct programs are often conflated. They are, however, separate in an important way.

IBR, not PSLF, ensures that a borrower’s monthly payments meet a minimum level of affordability.

IBR, not PSLF, ensures that a borrower’s monthly payments meet a minimum level of affordability, no matter how much he borrows or what the interest rate is on the loan. To be sure, a borrower’s loan balance can grow under IBR, but that doesn’t make the loan any more or less affordable. The monthly payments are always based on income. Only the loan term could be affected by the increase in balance. The borrower might end up paying for longer – a trade-off for paying less per month – but his loan term could stretch only so far. After 20 or 25 years, any remaining balance is forgiven under Income-Based Repayment.

Notice that those benefits – affordable payments and loan forgiveness after 20 or 25 years – are independent of PSLF and are provided regardless of a borrower’s occupation. They are also what would allow a professional with an advanced degree and high student loan debt to take a lower paying job at a non-profit. The reduced monthly payments under IBR make his debt manageable and the loan forgiveness term means he won’t pay in perpetuity.[i]

So what is the rationale for PSLF and how is it different from IBR? Whereas all borrowers are eligible for loan forgiveness after 20 or 25 years of payments under IBR, someone who has made monthly payments for ten years while working for the government (federal, state, local, other) and/or virtually any non-profit organization will qualify after only 10 years of payments. While IBR makes loan payments affordable, PSLF acts as a financial incentive, a reward in the form of earlier forgiveness, for non-profit or government workers.

What critics of the proposed cap on PSLF are really saying then is that putting a cap on PSLF means the incentive to take one kind of job over another would no longer be worth it for borrowers. The loan forgiveness amount at the end of 10 years of payments influences the decision, not the affordability of the loan – the monthly payments – which is unchanged by the cap. (Note that a borrower who has his loans forgiven after 10 years under PSLF, but is left with a remaining balance, could continue to pay under IBR and qualify for loan forgiveness after 20 or 25 total years of payments.)

Policymakers need to consider how big the subsidy to work in a non-profit organization or the government should be under the PSLF program. Unlimited is highly problematic from an incentive perspective, as Georgetown Law illustrates, but also from a point of fairness. Determining which groups should receive what level of subsidy is never easy. Yet it should be easy to see that a Georgetown Law graduate walking away from $158,888 in federal loans while earning $86,000 is hardly fair when a first generation, low-income undergraduate maxes out in federal Pell Grants at around $30,000.

Note that the Obama administration proposed that borrowers could have a maximum of $57,500 forgiven under PSLF. The figure matches what an independent undergraduate can borrow in federal loans. We proposed a cap of $30,000, reasoning that someone with a master’s degree (those students most likely to qualify for benefits that exceed a cap under PSLF) and by definition employed, shouldn’t receive more money from the federal government than a student who qualifies for the maximum Pell Grant during their entire undergraduate education. We also wanted to make forgiveness more equitable between undergraduates and graduate students, and between graduate students who borrowed less and those who borrowed more.

Either cap level would be a big improvement over the status quo. And either cap would limit the perverse incentives that led Georgetown Law to jack up tuition, encourage students to borrow more, and promise free legal educations largely financed by U.S. taxpayers.

[i] While the federal government does not treat forgiven debt under PSLF as taxable income, it is unclear how the IRS will treat forgiven debt under IBR. New America recommends that lawmakers make forgiven debt under IBR tax-free.