The cost of higher education in the US continues to increase and so it is inevitable that students will look for alternative ways to fund their education.
An Income Share Agreement (ISA) is a novel solution that is an alternative to traditional student loans in the US. ISAs are contracts between students and educational facilities, such as universities or colleges (‘learning institutions’), that allow students to fund their education in exchange for the educational facility receiving a fixed percentage of the student’s gross income (once they are employed in their field of study) for a set period of time. As students seek to avoid huge amounts of student loan debt, ISAs have been used by a variety of US institutions.
Started at Yale in the 1970s, ISAs have gained traction as a fairer, more aligned tool to finance college tuition. Universities like Purdue, Northeastern and Utah have ISA programs. ISAs are also sometimes provided by private companies. Students typically use ISAs as one part of their funding mix, on top of scholarships (free), federal loans (typically financed at a low interest rate) and as an alternative to private student loans.
Unlike a traditional student loan, ISAs borrowers are not obliged to make repayments when unemployed or when earning less than a threshold income. Instead, borrowers pay the lender a pre-agreed percentage of their income over a number of years, so if they are a good earner, they pay back more than the original amount borrowed. ISAs don’t charge any interest and so the amount repaid is the amount borrowed plus a supplemental amount under the agreement without added interest.
The key to a successful ISA is to fund degrees that are in strong demand, in professions with good salary growth where graduates often find employment quickly after graduating. Nursing, engineering and computer programming are some of the more popular professions where ISAs are made by private companies.
The Internal Rate of Return (IRRs) for private company ISAs could range between 10% and 20% and are highly dependent on when the borrowers find employment, their income after graduating, the increase in their income and other factors.
The repayment obligation kicks in once the student has gained employment, therefore, a graduate who is unemployed or earns less than the threshold does not have to make payments. Accordingly, there can be periods during which sharing payments temporarily cease. Obligations typically last from as little as a few years to as much as 10 years, so once employed above the threshold the borrower must make payments.
Payments are typically capped and the cap increases year on year. The sliding cap to repayments incentivizes repayments when possible and at the same time avoids “indenturing” the borrower forever. Payments are typically made via monthly ACH and income levels are checked against the tax returns.
Until recently, ISAs were not regulated at the federal or state levels. However, in March 2022, the Consumer Financial Protection Bureau (CFPB) issued a consent order that ISAs should be treated as private education loans under the Truth in Lending Act (TILA) and its implementing Regulation Z.
Ahead of this regulatory change in late 2021, Edly (an ISA lender), announced the creation of a new product called Income-Based Repayment (IBR) student loans. In partnership with a bank which originates the loans, Edly IBR loans combine the flexibility of ISAs with fully-FDIC-compliant loans and their associated protections for borrowers. Like an ISA, upon graduation, student borrowers pay a percentage of their post-graduation income for a period of time. The idea is to make student loans more affordable relative to their post graduating income. In order to qualify for an IBR, a borrower must demonstrate that they have a low income relative to their federal student loan debt. If a borrower does not find a job straight out of university that meets a minimum salary requirement, or if they lose their job, they are able to defer payment without penalty. In addition, after a period of time (typically 20 or 25 years) depending on when the loan was first granted, any outstanding balance is forgiven.
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