A Dream or a Nightmare? Who pays in a world without student loans?

Anyone who hasn’t heard about the “student loan crisis” in the U.S. hasn’t been paying attention. U.S. student loan debt is estimated to range from between $1.2 and $1.6 trillion with more than seven million borrowers in default. On an individual level, a graduate of a four-year college who took out a loan to get through currently owes, on average, $28,000. Average debt for a student who completed graduate school, as you would expect, is greater, and can range from $50,000 to more than $100,000. The figures are not exact, and depend on variables such as the degree and institution but specifics are hardly needed to understand that student loan debt is crushing many young (and aging) professionals and is now front and center in current national and political discussions.

We’re all familiar with the current student loan model: when tuition at a college or university is higher than a student (and family) can afford, the student can apply for, and most often receive student loans up to the cost of the tuition, room and board, up to the full cost of attendance. This model has enabled millions of Americans to “pay” for and reap the benefits of a higher education. The U.S. government is the largest student loan lender, but due to federal student loan caps, many students are forced to turn to the robust private student loan market. In fact, it’s through a combination of federal and private student loans, that millions of students are able to borrow the full cost of tuition and room and board.

So, while access to borrowing the money for school isn’t the issue, paying it back often is. For a variety of reasons, millions of these borrowers default on their student loans while others make what timely payments they can only to see their loan balances skyrocket due to compounding interest and fees. Borrowers with federal student loan debt can avoid default by participating in certain income-based repayment plans and deferment and forbearance programs, yet they often see loan balances increase, sometimes dramatically. Worse yet, because many private student loan lenders do not offer any similar income-driven repayment, deferment, or forbearance options, borrowers with private debt often have no choice but to default. As a last resort, many will meet with a bankruptcy lawyer, only to learn that absent exceptional circumstances, their student loan debts are not dischargeable.

So the problem, while multi-layered, is easy enough to describe. The solution is another matter. Some, including members of Congress, say the solution is to forgive student loan debt, while others say we should allow student loan debt to be discharged in bankruptcy.

For many years, bankruptcy has not been an option for those burdened with crushing student loan debt because unlike almost all other consumer debts -- absent “undue hardship” --student loans cannot, by law, be discharged in bankruptcy. While the applicable undue hardship test varies by jurisdiction and is fact-specific, the vast majority of student debtors cannot meet the applicable standards and therefore exit bankruptcy still fully burdened with their student loan debts. So, while student loans have allowed millions to access education despite a consistent uptick in tuition costs, other than home mortgages, they’ve also become the second largest type of debt in America.

So what is the solution to the problem? The American Bankruptcy Institute’s Commission on Consumer Bankruptcy (comprised of prominent members of the bankruptcy community, including former judges) recently published a recommendation calling for 1) amendments to be made to the Bankruptcy Code allowing private student loans to be discharged in bankruptcy and 2) allowing federal loans to be discharged if repayment would present a mere “hardship” instead of the current “undue hardship” standard. In the same vein, bipartisan legislation was recently introduced in Congress that, if passed, would allow student loan debt to be treated like most other forms of consumer debt. Additionally, Senator Elizabeth Warren has proposed a plan to cancel loans for many borrowers without even filing for bankruptcy.

These solutions may sound appealing, especially to those shouldering student loan debt, but what are the larger ramifications if student loan debt can be canceled or discharged in bankruptcy? On the positive side, we hear a lot about the likely boon to the economy once millions of borrowers become unburdened, but a likely downside is that student loans would no longer be as easy to obtain. Lending sources would likely set a higher bar to qualify borrowers, requiring a good credit score and/or income. We can also assume that many lenders would find the new market too risky, and perhaps disappear entirely. Either way, the outcome for many students and their families would likely be the same – they’d no longer have the ability to pay for higher education. The obvious impact for college and universities would roll downhill from there: if students can’t afford higher education, the impact on enrollment numbers, income, and cash flow would be significant.

So how would colleges and universities operate in a world where students potentially no longer have easy (or any) access to student loans? No one knows exactly, but one thing is sure: institutions that implement a strategy to deal with possible changes now will have a leg up when those changes come to fruition. What will these strategies look like? Plans would vary based on the characteristics of the institution, but some may begin to more robustly engage with local business communities in order to fund scholarship and internship programs. Some may expand part-time programs to allow more students to work while they’re in school, others may consider implementing extended tuition payment plans. Still others are beginning to look at more “outside the box” ideas such as Income Sharing Agreements (a contract between school and student whereby the student receives money from the school and agrees to pay the school a percentage of their salary upon graduation). There will doubtless be a number of solution strategies put forth by educational institutions as changes in the student loan industry begin to unfurl.

But regardless of the path and the end result, it is likely that these changes are coming, and only time will tell for institutes of higher learning if they’re part of a dream or a nightmare.