Student loans

Details for Advisors on the Federal Student Debt Relief Plan

By Jason Anderson

Financial professionals woke up to a major announcement on August 24 from the Biden administration on federal student loans. This first ever student loan relief The program promises to erase between $10,000 and $20,000 in student debt for a range of borrowers. While that’s no surprise to most who follow the student loan space (the White House has been debating this for some time), the implications for clients and advisers are monumental.

What is less known is that this announcement encompasses more than a general forgiveness of loans. He is Three separate initiatives aimed at mitigating the burden of the covid pandemic. They include: loan forgiveness, a new income-focused repayment plan, and the extension of student loan repayments and the interest break.

As with many large government stimulus programs, there are many details that need to be ironed out. Details of the plan are scarce so far. Undoubtedly, as the days pass, we will know more. Below is an explanation of each of the three parts of the program:

Global cancellation of loans

Obviously, this provision sets the tone and creates a precedent. This part of the announcement promises up to $20,000 in loan forgiveness to eligible federal borrowers on their recorded balance as of June 30, 2022. Many borrowers will only see $10,000 in loan forgiveness, but students who have received at least a Pell Scholarship in Financial Need while in college) will receive up to $20,000. Surprisingly, this provision includes undergraduate, graduate, parent PLUS, and defaulted student loans.

As a bonus, debt relief is not taxable at the federal level (but possibly at the state level.) Pardon order is designed to provide maximum relief, targeting defaulted, highest-interest, unsubsidized student loan accounts first.

There is an income requirement to qualify. A borrower’s annual income must be less than $125,000 (individual tax status or MFS) or $250,000 (MFJ tax status or head of household) in 2021 or 2020. Some borrowers will automatically get a forgiveness because the ministry of Education already has their income information. checked in. Otherwise, they will have to complete an application which (we are told) will be published in early October 2022. Applications must be submitted by December 31, 2023.

There is an important caveat: this only applies to loans held by the Ministry of Education. This means that some older loans – for example some FFEL and Perkins loans – will not be eligible for this discount. There may be a way, however, to consolidate these loans to qualify.

New Income Driven Repayment Plan

While the general loan forgiveness provision has grabbed headlines, the new income-based repayment (IDR) scheme will also have a significant impact. The Wharton School at the University of Pennsylvania estimates that this part of the package could cost up to $450 billion, compared to $519 billion for blanket loan forgiveness.

The new IDR plan is a good deal. It will require borrowers to pay only 5% of their discretionary income for monthly loan repayments. It also uses 225% of the poverty line to calculate loan repayment (a significant increase from current plans). Also, there is no accrued interest during negative amortization periods as long as the borrower makes their monthly payments.

To show just how beneficial the plan is, here’s a chart comparing the new plan to the Income Contingent Repayment (ICR) and Pay As You Earn (PAYE) plans:

Reimbursement based on income Pay as you earn Biden’s new IDR plan

Percentage of poverty line used to calculate payment

100%

150%

225%

Percentage of Discretionary Income Paid

20%

ten%

5%

forgiveness period

25 years

20 years

10 years

Long Term Loan Forgiveness Amount

Rest of the balance

Rest of the balance

$12,000 or less

Unpaid interest

No subsidy

3-year grant for subsidized loans

Unpaid interest covered by normal payments (no capital growth)

Like general loan forgiveness, however, a few provisions reduce the plan’s potential benefits. This plan will only be available to undergraduate borrowers, and the forgiveness after 10 years is capped at $12,000.

Extension of suspension of payments and interest

The last part of Biden’s Plan is an extension of federal student loan payments and the interest break until December 31, 2022. This initiative has been extended several times since its launch on March 13, 2020.

Surprisingly, payments not made during this break still qualify for Civil Service Loan Waiver (PSLF) and the 0% interest provision applies to school-enrolled borrowers. Like the General Loan Forgiveness, this program applies only to federal student loans held by the Department of Education, unless the lender chooses to participate. The borrower can also gain access through consolidation. The White House advises that this will be the last extension of this program.

What are the advisors thinking?

I’ve spoken with many advisors about this landmark program through forums, a regional FPA conference, and client calls. Additionally, there has been a deluge of media coverage that includes voices from advisers. To say the responses are polarized is an understatement.

Some advisers see it as a monumental failure of the system, primarily because it shifts the cost of borrowing to non-borrowers and taxpayers, fails to address the core problem of high cost of education, and discourages best financial practices. Other advisors are happy to see something happen and see it as a promising opportunity for their clients.

For better or for worse, we just have to see how it all plays out. Will this stimulus plan increase inflation? Introduce a moral hazard problem in the higher education sector where borrowers take on more debt and colleges raise costs? We just don’t know. There could also be legal challenges.

As trusted advisors to our clients, we have an obligation to guide them through this ambiguity, regardless of our outlook on the general loan cancellation and its impact on the nation.

How should advisors engage clients?

Clients have the same hopes, questions and concerns about this program. This makes it a great time to reach out for a discussion. Some clients will have recently paid off their student loan; be their advocate and encourage them to stick to the financial plan. Other clients will benefit from one of the three components of this assistance program; this is a great time to see if it changes their financial goals. Forgiveness can provide bandwidth to divert funds to a down payment on a home, create an emergency fund, pay off high-interest debt, or bolster retirement savings.

Finance professionals are encouraged to stay in touch with affected clients through December. Clients will no doubt have questions about this program as details become available and it is likely that their advisors will know those details before they do. Additionally, borrowers without income information registered with the Department of Education will need to complete an application for forgiveness. Although this app is not yet available (at the time of this writing), advisors and clients can sign up to be alerted when it is released here at US Department of Education.

The reality of Biden’s announcement is that it will change the lives of some (who will see their balance slip away) and barely move the needle for others. It is not uncommon for professional degree holders to have hundreds of thousands of debts. For this group, the Biden-Harris program will not change their overall plan. They still need sound financial planning and student loan advice to have peace of mind with so much debt hanging over their heads. And for that, they will turn to their trusted advisor.

About the Author: Jason Anderson, CFP®, CPA, CSLP® is a Lecturer and University Program Associate at the University of Kansas School of Business and a doctoral student in Kansas State’s Personal Financial Planning Program. He is also the owner of Gradmetrics LLC, a college and student loan planning company. You can reach him at [email protected].