Fixing the Student Loan Mess


sarah sattelmeyer is the project director for education, opportunity and mobility in the higher education initiative at New America, a Washington-based think tank.

Published October 11, 2021


The federal government has long helped students get an education beyond high school. For example, the GI Bill (formally, the Servicemen’s Readjustment Act of 1944) provided funds for veterans to attend college, among other benefits, in hopes of helping them rejoin civilian life and avoiding the grossly insufficient supports offered to soldiers coming home from World War I. In addition, the National Defense Education Act of 1958, passed in the wake of the Soviet Union beating America into space, provided loans and grants for students in science, math and foreign languages.

But the broader system of federal aid for higher education that we know today originated with the Higher Education Act of 1965, a cornerstone to President Lyndon Johnson’s Great Society initiative, which included civil rights legislation and extended and modernized many of America’s social programs. This and subsequent legislation expanded access to low- and middle-income students through grants, loans and other programs, such as Work-Study. And by many measures, it did the trick. In 1960, 13 percent of Americans over age 25 had completed two or more years of college, and 8 percent had completed four or more. By 2017, close to half of adults held an associate’s degree or higher, and approximately one-third had a bachelor’s degree.

College continues to be an important path to upward economic mobility for many. But the expansion of access and the resulting long-term financial benefits from post-secondary education have not been distributed equitably. This reality reflects long-standing racism and discrimination across American society built into everything from education to housing to health care to the justice system.

For example, the GI Bill actually exacerbated disparities between whites and Blacks, especially in the South, due to existing housing and higher education policies that systematically shut out people of color.

The problem remains today. Many prospective students from low-income school districts and minority communities face barriers, both subtle and unsubtle, to higher education. Those who do enroll are more likely to attend under-resourced schools and for-profit institutions with poor track records. They have limited access to support, are more likely to leave school without a degree and (with or without a degree) face discrimination and lower earnings in the labor market.

Compounding the barriers to mobility, post-college debt has ballooned. As of March 2021, almost 43 million Americans owed $1.6 trillion on student loans, and approximately 20 percent of those borrowers were in default — meaning they were at least nine months behind on their payments.

A host of factors has contributed to the rising aggregate student debt level in the United States, including increases in college costs and tuition far in excess of the increases in consumer prices, reduced state aid and investment in public institutions, and oftenpredatory for-profit schools that encourage borrowing for years of education with little potential payoff. But student debt — and the problems compounded by it — are felt more acutely by traditionally underserved communities. A disproportionate percentage of Black students borrow to attend school, borrow more overall and, later, are more likely to struggle to repay their growing loan balances. Note, too, that low-income students must often borrow even when they receive grant aid.

Historically, higher-education-related policy conversations have focused on the “front end” of the system, ensuring students can access and afford college, programs are high quality and students receive a return on their investments. But over the past decade, as student debt has grown and more borrowers have struggled to repay their loans, the “back end” of the system has shared the spotlight.

Here, I emphasize the need to reform the repayment system to provide additional relief for struggling debtors, along with consideration of the big picture — how to boost families’ economic security. This essay pulls from my own analysis on student loans, incorporating others’ research to highlight the importance of taking an equity-focused, family-finance-centered approach when thinking through opportunities for reforms that advance economic mobility.

Financial Insecurity and Loan Repayment

Recent research indicates that financial insecurity drives borrowers’ repayment decisions. In focus groups conducted by the Pew Charitable Trusts that I managed before the pandemic, borrowers reported that their challenges repaying student loans were less about an inability to manage money and more about not having enough money to manage. Many had to make difficult tradeoffs between groceries, child care, rent and utilities — and keeping current on their student loan payments.

When the pandemic hit, disproportionately impacting women, low-income families and communities of color, many households’ already stressed financial resources were stretched to the breaking point. Early in the pandemic, the government paused student loan payments, interest and collections for most borrowers. And President Biden has extended the moratorium through at least January 31, 2022, and broadened eligibility to include more borrowers. But a suite of longer-term policy changes is needed for families struggling in the student loan arena and beyond.

Higher education analysts have put forward a range of proposals to address systemic problems through legislation, the federal rule making process and administrative action. Many have focused on forgiving some or all student debt and reforming existing programs that offer breaks for those working in public service, those who become disabled and those who were defrauded by their schools.

At the same time, some have focused on fixing the underlying repayment system. As long as American higher education is financed by students and their families, federal loans will remain a necessary access tool. The current repayment system provides important protections for borrowers along with flexibility in repayment terms.

For example, when borrowers enter the repayment phase, they can choose from among a host of plans — notably including income driven plans. These options base borrowers’ payments on their incomes and family sizes, often lowering monthly bills, which can help borrowers avoid default. (Those with low incomes can pay as little as $0 per month and still be considered current on their loans.) After 20 to 25 years’ worth of payments, remaining balances are eligible for forgiveness.

But the system is nonetheless deeply in need of reform. Advocates have, for example, proposed ways (a) to help borrowers manage the growth in their loan balances, which is driven by accrued interest and can result in borrower frustration and paying much more in total; (b) to make payment formulas more responsive to borrowers’ individual circumstances; (c) to reduce the time before loans are eligible for forgiveness; (d) to streamline multiple existing income-driven repayment plans into a single program; and (e) to remove administrative barriers to staying in compliance with income-driven plans, such as simplifying the annual recertification process.

Stakeholders advocated for stronger oversight of the systems and of the department itself, clear standards and consequences for contractors who do not act in a borrower’s best interest.

Other stakeholders have focused on management of the servicing and collection systems. While the U.S. Department of Education issues all new federal loans, it contracts with student loan servicers to manage borrowers’ accounts month-to-month and with private agencies to collect on defaulted loans. The department has been engaged in a years-long initiative to streamline and rethink these systems. And many have advocated for stronger oversight of the systems and of the department itself, clear standards and consequences for contractors who do not act in a borrower’s best interest and reforms of contractual performance metrics and compensation structures.

Eyes on the Bigger Prize

As important as it is to provide additional relief to and strengthen the student loan repayment system for current and future borrowers, we must also acknowledge that loans are just one piece of the puzzle of broader systems that are failing the most vulnerable in our society. To truly address student debt — in addition to ensuring college is affordable, accessible and high quality, topics outside of the scope of this essay — we must also focus on the root causes of household financial insecurity, which contributes to borrowers’ decline into debt in the first place.

Short-term financial security is, of course, an important stepping stone toward longerterm economic mobility. But, as noted earlier, instability is driving how borrowers think about repayment. And for many, this vulnerability reaches beyond education-related debt. When families discuss their finances, they must also juggle the competing demands of rent, health care, child care and the like. And many borrowers are encountering a confusing student loan repayment system while trying to patch together support from a host of other safety net programs, each with their own confusing forms, endless queues and eligibility requirements.

Thus, as we move toward bigger-picture reforms to the student loan system, it is critical — especially from an equity perspective — that we use a family-centered framework to examine what can be done to minimize financial insecurity and maximize economic mobility. Here, I offer a couple of examples of the perspective to be gained through an integrated framework.

Income, Savings and Student Loan Default

The first requirement for families reaching for mobility is steady, reliable income that covers expenses and allows the accumulation of savings. But in spite of the late-pandemic spike in wages for some, labor compensation shows no real sign of catching up with productivity gains. And for many, wages have simply stagnated over the past few decades. In addition, even before the pandemic, income volatility was the norm for many Americans. This makes it hard to budget for basic needs or to meet payment obligations created by longterm loans. And the problem is far worse than most Americans understand: according to a survey conducted by the Pew Research Center early in the pandemic, only 47 percent of adults had sufficient liquid savings to cover three months’ expenses, making it especially difficult to deal with financial setbacks such as a broken-down car or an unexpected medical expense.

Moreover, the ability to save and invest is hardly distributed equitably. For example, historically, women and workers of color have been paid less than men and white workers, contributing to significant gender and racial wealth gaps.

It is not surprising, then, that more than half of white adults had enough savings to cover three months of expenses early in the pandemic, but less than one-third of Black and Hispanic households (27 percent and 29 percent, respectively) were in a similar position. The intersection of these issues means that — in addition to being more likely to have unpredictable incomes — women of color, low-income families and those without a college degree are particularly likely to be financially insecure.

Add another element here: white families are more likely to inherit wealth or receive financial support from parents for big-ticket items like higher education and down payments on houses that allow them to climb the economic ladder. A lack of such intergenerational financial transfers in communities of color stems from these families’ historical exclusion from traditional systems of wealth-building.

Student loan default exacerbates the systemic inequities highlighted above. Not surprisingly, families already lacking a financial cushion are among those most likely to default on their loans, and defaulting results in grave financial consequences that further restrict many families’ already limited ability to build wealth. For example, those in default can simultaneously have their wages garnished and their federal benefits withheld, lose access to car loans and mortgages at competitive interest rates, face high collection fees and be ineligible for other federal assistance such as help with housing — all while interest continues to accrue on their student debt. Multiplying these problems, default is like quicksand: while there are multiple pathways to exit default, some can be used only once, each has different procedures and associated costs for borrowers, and many borrowers default multiple times.

While default is often discussed as the worst-case outcome for student borrowers, addressing this problematic aspect of the system has not garnered adequate attention. Still, analysts have identified a host of possible reforms, including limiting collections, streamlining processes for exiting default or offering debt forgiveness to borrowers who have been in default for long periods.

Debt and the Federal Poverty Threshold

Today, the typical full-time college student is no longer a carefree 18- to 22-year-old. Approximately one-quarter of students are parents, 64 percent work while in school and 37 percent are older than 25. Given these demographics — and the reality that even conscientious loan repayment can extend for decades — those repaying their loans may have expenses and other debts not typically associated with a college student. They might still be attending school part-time, making higher-education finance decisions for their children as well as themselves, or even approaching retirement age. The latter is hyperbole, you say? Older Americans are the fastest-growing group of borrowers.

The debt problems of adults are compounded by the squeeze between expenses and wages. For example, basic needs, such as food and housing, consume more of low income households’ paychecks. And since people of color are more likely to be renters, they bear greater risk that housing inflation will outrun their means.

The formulas for thresholds are based on a multiple of family food budgets created almost 60 years ago, and advocates have long argued that they do not take into account the needs of modern families.

Another element complicating student loan repayment is the way the government calculates financial need. Each year, the Census Bureau estimates poverty thresholds. These thresholds are the basis for the U.S. Department of Health and Human Services’ poverty guidelines, which are used to determine whether households are eligible for a variety of social safety net programs. In 2021, the poverty guideline is $12,880 for one person, $17,420 for a family of two, $21,960 for a family of three and so on. Those living in poverty are more likely to be members of traditionally underserved groups, including women, people of color and residents of rural areas.

While these official thresholds (and thus, the guidelines) are based on income, they also play a role in borrowers’ debts and expenses. Monthly student loan payments as part of income-driven repayment plans are calculated as a percentage of borrowers’ adjusted gross incomes minus 150 percent of the poverty guidelines (for a borrower’s family size and state of residence). Borrowers with incomes below this level are permitted to pay nothing while stay-ing on track toward forgiveness.

The formulas for the thresholds are a weak link here. They are based on a multiple of family food budgets created almost 60 years ago, and advocates have long argued that they do not take into account the needs of modern families. The Biden administration has the power to change this — effectively raising the poverty level — via a regulatory proceeding. Or, of course, it could be changed by legislation.

Reform here would not only provide relief for those most burdened with student debt — ensuring that more borrowers in income driven plans have lower or $0 payments — but it would also strengthen the safety net by making more families eligible for programs such as the Supplemental Nutrition Assistance Program (formerly food stamps), energy assistance, parts of Medicare and Medicaid, the Children’s Health Insurance Program and Head Start.

Community and Student Debt

In addition to being diverse in terms of race, ethnicity and life experience, today’s students take a host of pathways to and through higher education while living within communities that play a role in their outcomes in life. Thus, in addition to a borrower’s immediate financial situation, relationships based on family and place also contribute to their security, stability and opportunities.

A growing portion of Americans live in multigenerational households. In addition to having implications for how families share financial resources, this may also mean that many adults have caregiving responsibilities.

Research and analysis highlight the importance of place as well as household. For example, Patrick Sharkey of New York University notes that “historically, a majority of Black children have lived in high-poverty neighborhoods, which increases their risk of falling off the economic ladder as adults. This helps explain why, even among high-income households, fewer Black families live” in K-12 school districts with ample resources.

Given the importance of community ties, it’s critical to meet borrowers — and their families — where they may already be operating within state and federal systems, and to take financial circumstances into account when designing programs.

Every place where we can reduce friction in the system and set families up to be able to easily utilize all relevant programs will reduce financial insecurity.

For example, formulas to calculate monthly payments as part of income-driven loan repayment plans should take wealth and expenses — and not just income and family size — into account. (Borrowers in default already have an option to have their expenses taken into account in payment calculations.) And other agencies can take lessons from the steps that the U.S. Department of Housing and Urban Development recently took to make homeownership more accessible for some burdened with student loans. But within an already complex system, care must be taken to ensure more equitable solutions don’t add barriers to access.

Research shows that asset limits in public assistance programs — which require caseworkers to assess savings and other resources, albeit for the purpose of restricting benefits rather than expanding them — can create administrative barriers and costs for families and agencies.

Helping government provide information on enrollment for income-driven repayment programs to those receiving public assistance would be especially useful to those with incomes low enough to qualify for $0 payments. Simultaneously, the Department of Education could direct student loan servicers to use (and provide guidance for the use of) receipt of means-tested social programs as proof that a borrower has an income low enough for a $0 payment. Other forms of data-sharing among agencies — to assist, for example, those eligible for student loan discharges based on their disability status or to help borrowers more easily access and recertify for income driven plans — have also been proposed and in some cases implemented.

The Bigger Picture

At a macroeconomic level, the progress of the recovery seems promising. But even as some families are starting to feel more positive about their finances, many will continue to experience financial insecurity. As the Aspen Institute’s Financial Security Program noted in a recent report:

Financial systems alone cannot deliver financial security for everyone. In part, this is because the inputs to people’s financial lives are actually the outputs of other inequitable, non-financial systems at work in our society: the labor market, the care economy, higher education, health care, the housing market — even our court systems.

A more inclusive approach requires working within these interconnected systems and taking into account the context in which borrowers and their communities manage their finances. Doing so must involve dismantling racist and discriminatory policies to ensure resources exist, are accessible and produce long-term opportunities — without unmanageable debt, especially for traditionally underserved students and borrowers.

main topic: Education