Green Room

Obama’s student loan ‘reform’: A nickel and dime in every pot

posted at 11:25 am on October 27, 2011 by

Barack Obama was willing to do anything in 2008 to win the presidency—including throwing his own grandmother under the proverbial bus—and he will now do anything to clinch a second term.

His most recent politically calculated gambit is to win back the youth vote by issuing an executive order that mandates “student loan relief.” That the proposal happens to cater to one of the anti-Wall Street protesters’ demands is purely coincidental.

In actuality, the plan is nothing new. The order merely fast-tracks an income-based student loan repayment program passed by Congress last year.

Here is how Obama introduced the plan to an audience of students at the University of Colorado this week:

When a big chunk of every paycheck goes toward student loans instead of being spent on other things, that’s not just tough for middle class families; it’s painful for the economy and it’s harmful to our recovery.

Sounds good. So how does the plan work? Basically, it envisions two fundamental changes to federally backed student loans. Neither of the changes will apply to private student loans that are not government-guaranteed.

The first change falls under the heading “Special Direct Consolidation Loans” and mainly affects loan holders who have already left school. To qualify, the borrower needs to have two types of student loan—one issued by the Department of Education under the direct loan program, the second by a bank or other private lender under the Federal Family Education Loan (FEEL) program. Borrowers who meet these conditions can consolidate their loans and in so doing shave a quarter of a percentage point off their rate of interest.

What do the savings translate to? Suppose hypothetically, that a qualifying borrower has $25,000 in student loan debt to be paid back over 120 months at an interest rate of 6.8%. Currently, that individual’s monthly payment is $287.70. Once the quarter percent is subtracted from the rate, which becomes 6.55%, the monthly payment shrinks to $284.50. The savings works out to $3.20 a month. Multiplied times the 6 million students estimated to qualify for loan consolidation and extrapolated over a year, those will savings return just over $23 million to the economy annually—not quite enough to rescue the recovery or register as even a dimple in the nation’s towering debt.

The second change covered by the executive order is nicknamed in true Obamaesque doublespeak “Pay as You Earn.” This change is also a retread more or less of an extant program called Income Based Repayment (IBR). Pay as You Earn will apply to an estimated 1.6 million students who are currently in college.

The differences between IBR and Pay as You Earn are matters of degree. IBR caps student loan payments at 15% of discretionary income and forgives outstanding debt after 25 years. Pay as You Earn decreases the cap to 10% and forgives the loan after 20 years.

The problem with IBR is not the numbers but its low visibility among students applying for loans. According to Mark Kantrowitz, of the student financial aid website, a scant 1.25% of current borrowers take advantage of IBR because few people have ever heard of it. Before the government incurs more debt by replacing IBR with Pay as You Earn, the Education Department might try publicizing the extant program.

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