Last summer the Obama administration introduced the Student Aid and Fiscal Responsibility Act, or SAFRA, which would end bank origination of federally guaranteed student loans. If passed by the Senate (it has already been approved by the House of Representatives), all federally guaranteed student loans will be funded directly through the federal government. The administration claims that eliminating the bank based program will save the government $87 billion over ten years, primarily by ending the subsidies that banks receive through the Federal Family Education Loan Program (FFEL). President Obama has pledged to use the expected savings towards other education initiatives.
So who will benefit from this savings windfall? The primary beneficiaries are likely to be borrowers repaying their federal guaranteed student loans and Pell Grant recipients. At the State of the Union address a little more than a week ago, Obama announced his commitment to expand the recently created Income-Based Repayment Program which I discussed in a blog posting last June. The existing repayment program went into effect July 1, 2009 and currently caps monthly loan payments for federal student loan borrowers at 15% of discretionary income (the difference between adjusted gross income and 150% of the federal poverty level). After 25 years, any outstanding loan balance would be fully extinguished. Those employed in public service would be relieved of their debt obligations after 10 years.
Now President Obama proposes to reduce the maximum federal loan payment amount to 10% of income, with a 20 year debt forgiveness term. Roughly 36% of student loan borrowers have loan payments that exceed 10% of their income, versus 16% at the current 15% of discretionary income cap. There is a real benefit here to our sons and daughters who borrow under the federal Stafford student loan program. For recent graduates starting out with modest incomes, a cap on debt service can provide some tangible cash outflow relief and may mean the difference between affordability and potential default.
The other major beneficiary of education finance reform is likely to be the Pell Grant program, which comes as no surprise. The Obama Administration has been upfront about its desire to improve funding to this higher education aid program which benefits those students with the greatest financial need. Key features of Obama’s budget plan for Pell Grants are an increase in the maximum annual amount to $5,710 from the current $5,350 maximum with increases pegged to the CPI, and a proposal to convert this to an entitlement program. Such a move would guarantee available funding for Pell Grants and would remove the program from the uncertainties of the Congressional budget annual appropriation process.
The last, but not necessarily least of the Obama administration proposals is the extension of the American Opportunity Tax Credit which, as a modification to the Hope Tax Credit, was initially approved for 2009 and 2010 only. The maximum $2,500 per tax year can be used during the first four years of post secondary education (100% of the first $2,000 and 25% of the next $2,000 for qualified tuition and expenses, including textbooks). The tax credit is available to middle income families, though begins to phase out between $80,000 to $90,000 for single taxpayers and $160,000 to $180,000 for married couples.
All in all, it appears that higher education fared better in the president’s 2011 fiscal budget than many other programs that have experienced cutbacks in funding. In fact, the proposals, if approved, will provide some relief to a wider range of income groups. By increasing Pell Grants, extending the American Opportunity Tax Credit and lowering the income caps for federal loan repayments, the Obama education plan casts a fairly wide net. It should help, even if modestly, not only those most in need, but will also begin to address the economic challenges faced by middle income families and recent college graduates who must make student loan payments at the same time that they try to get established in the workforce.