Income Share Agreements for Student Loans

NCPA March 6, 2014

Income Share Agreements are better tools for student financing than traditional student loans, say Miguel Palacios, Tonio DeSorrento and Andrew P. Kelly of the American Enterprise Institute.

Income Share Agreements (ISAs) involve an investor or organization that provides a student with funding for higher education. In exchange, the student does not pay back the loan but instead pays the investor with a percentage of his income for a specific period of time after he finishes school.

• Traditional loans cap payments to the lender and put a large amount of risk on the student.
• Private lenders tend, as a result, to undersupply credit unless the student can provide some sort of government guaranty.
• But ISAs provide protections for students and enable anyone to obtain financing.

ISAs channel students to high-quality and low-cost programs because they offer better terms to students for the programs expected to be of high value.

• Students are sent signals about which programs and fields are likely to produce the most success.
• Moreover, by rewarding low-cost but high quality programs, ISAs could help to slow tuition inflation.
• All students could receive funding from ISAs, and because no taxpayer dollars are used, institutions that currently are not eligible for federal funding could bring in students and gain traction.
• Investors are incentivized to support the students that they have funded both during and after school, through things such as mentoring and career counseling.

The government should take steps to encourage the growth and use of ISAs. By clarifying the legal status of ISA loans and putting loan limits on federal loans so that students turn toward additional options such as ISAs, these unconventional arrangements could become mainstream funding tools.

Source: Miguel Palacios, Tonio DeSorrento and Andrew P. Kelly, "Investing In Value, Sharing Risk: Financing Higher Education Through Income Share Agreements," American Enterprise Institute, February 26, 2014.

Related: Rep Ward: Eliminate Prepaid College Tuition