How To Reform Student Loans And Hold Colleges Accountable

Reform Student Loans

There’s been a lot of discussion over the last year about President Biden offering blanket student loan forgiveness as a solution to the student loan debt crisis. However, if you want to reform student loans and reform higher education, there has to be more than student loan forgiveness.

While I’m not against blanket student loan forgiveness, student loan forgiveness alone isn’t going to solve the problem. In fact, without other reforms, it could create a bad moral hazard situation with higher education spending. 

One could even argue that all student loan forgiveness does is provide a handout to colleges and universities. That’s why there needs to be more reform to the higher education and student loan system. And my opinion does include student loan forgiveness.

But that can’t happen until we address the cost of college – and that’s where we need to start holding colleges and universities accountable to what they charge students, and the outcomes of their graduates.

Here’s what I propose.

The Current State Of Student Loans and Higher Education

Before we dive into reforming student loans, we need to cover a little about the current state of student loans, higher education, and the student loan crisis. Having this baseline can help us dive into the real issues and find solutions.

Student Loans

According to the Federal Reserve, the average student loan monthly payment is $393. They also found that 50% of student loan borrowers owe more than $17,000 on their student loans.

Below is a list of more notable student loan payment statistics from the Federal Reserve’s report:

  • Average student loan debt: $32,731
  • Median student loan debt: $17,000
  • Average student loan monthly payment: $393
  • Median monthly payment on student loan debt: $222
  • Percentage of borrowers with growing loan balances: 47.5%
  • Percentage of borrowers who are more than 90 days delinquent: 4.67%
  • Average debt load for 2020 graduates: $30,120 (see the average student debt by graduating class here)
  • Average amount of time to pay off student loans: 21.1 years

With this snapshot in mind, the real “student loan crisis” involves a minority of borrowers. Specifically, borrowers in delinquency and a proportion of those with growing loan balances after graduation.

Not all growing loan balances are bad – especially those who have high balances but may be high earners (think doctors in training). Furthermore, growing balances may be skewed by borrowers still in school or other deferments.

While the media loves to talk “average student loan debt” a lot, the median student loan debt tells a better story, and it’s much lower. 

Another important statistic: 42% of college graduates graduate debt-free, according to the APLU. That means, even for college graduates, over one-third don’t even have student loans.

I would argue that most student loan borrowers are just “fine” paying off their student loans. However, without a doubt, there is a cohort of borrowers in crisis, and the system as a whole needs reforming.

Higher Education

Let’s look at some statistics about higher education costs. This is a big part of the equation, because students are only borrowing money to pay for these costs.

As a primer, the average cost of a four-year college or university rose by 497% between the 1985-86 and 2017-18, more than twice the rate of inflation.

In 2020, the ANNUAL costs of tuition were:

  • 4-Year Private College: $41,411
  • 4-Year Public In-State: $11,171
  • 4-Year Public Out-of-State: $26,809
  • 2-Year Public In-State: $3,730

If you attend a 4-year public, in-state school and graduate on-time in 4 years, you’re still paying roughly $44,684 in tuition (according to Sallie Mae). This doesn’t include other costs of attendance, such as room and board, books and supplies, and more.

To put this into perspective, in 1985, the average price of a 4-year public, in-state school was just $3,859 per year, or $11,436 to graduate in 4 years. This is according to the National Center for Education Statistics.

Macro-Economic Issues

Finally, it’s important to understand the macro-economic issues surrounding the workforce and income. While there are many reasons why an individual may pursue higher education, a big factor is to earn more over their lifetime.

Value of College

According to a Georgetown University study, the lifetime earnings of those who go to college are substantially higher than those who don’t. However, according to the same study, occupational choice can be more important to earnings than degree level. For example, people with less education in high-paying professions can out-earn people with more education in lower paying professions.

Here is the average lifetime earnings by level of education:

  • Didn’t Finish High School: $973,000
  • High School Diploma: $1,304,000
  • Some College: $1,547,000
  • 2-Year Degree: $1,727,000
  • 4-Year Degree: $2,268,000

As you can see, someone who graduates with a 4-year college degree should earn $1,000,000 more over their lifetime than someone who doesn’t. 

But, the real question is this: what is $1,000,000 more worth? Because, remember, you’re paying for this education (see above – the cost of higher education). Is $1,000,000 worth it if you’re paying $1.1 million to earn it? No.

And that’s the real challenge with the value of higher education today.

Doing some simple Net Present Value calculations, we can ask ourselves a little about what is the value of $1,000,000. For example, if we assume 40 years (going from 22 to 62), and a 6% interest rate, the present value of $1,000,000 today is only $97,222. 

With this incredibly basic example, you can more easily see if college is worth it. If you spend more than $97,222 today, you’re spending more than you’re statistically expected to earn over your lifetime. That makes college not worth it.

But, if you can get your degree for less than $97,222, it could be worth it. The question then becomes, how worth it? 

Wage Growth

Another key aspect to the equation of higher education is how much you’re going to earn as a result of your education. This can be looked at as median earnings, or wage growth, or basically how much you’re going to get paid!

Again, this varies widely across careers and professions. However, today, we have more information and transparency about career earnings than ever before. Ideally, students would look to career earnings to make informed decisions for their college calculations.

In the American workforce, wage growth has been stagnant for most earners, but the top 10% of earners have still seen wages climb. 

When it comes to education, from 2000 to 2019, the strongest wage growth occurred among those with advanced degrees, those with college degrees, and those with less than a high school diploma, according to the Economic Policy Institute.

Here’s some general statistics on wage growth from 1979-2018 (and you might compare them to the rise in higher education expenses above):

  • Overall Hourly Compensation Growth: 11.6%
  • Average Earnings Growth for the Bottom 90% of Workers: 23.9%
  • Average Earnings Growth for the 95% Percentile of Workers: 63.2%
  • Average Earnings Growth for the Top 1% of Workers: 157.8%

As you can see, overall wage growth hasn’t exploded, but the growth at the top has. But even the average earnings growth for the top 1% of workers (157.8%) hasn’t kept pace with the rise of education costs (497%).


Finally, it’s important to consider timing. Over the last 20 years, various cohorts of college graduates have entered the job market at terrible times (post-Dot Com bubble, 2007-2008 Great Recession, 2020 Covid Pandemic). 

When you examine things like the average net worth of millennials, you can see the impacts of these events on earnings and net worth. As such, when looking at specific groups, it’s important to take into consideration these timings and events.

Transitioning To An ROI-Based Student Loan Model

With all that data in hand, the root of the problem can be boiled down to this: people are paying too much for their education, and borrowing too much in student loans as a result. And the current system isn’t designed to slow this down – in fact, it will only accelerate. 

A big part of the reason why is that incentives in the higher-education space are misaligned. Here’s some of the current incentives of participants in the higher education space:

  • Students/Families: Go to college to gain skills to boost lifetime earnings
  • Colleges/Universities: Profit, Prestige, Funding Of Current and Future Obligations
  • The Government: Well-Educated Workforce Improves Economy and National Defense, Fund programs and loans to get as many educated as possible
  • Loan Servicing Companies: Profit
  • Lenders: Profit

How To Reform Student Loans

With these incentives in mind, my proposal to reform the student loan system is as follows:

  • Move all Federal student loans to one loan type. 
  • Only student borrowers, no parent loans.
  • Two repayment plan options: Standard 10-Year and Income-Driven. 
  • Loans would have an interest rate of Prime + 1.00% and would be a hybrid-variable rate: never go up, but could go down.
  • All borrowers would default into the Standard Plan, and could opt for the income-driven plan. The income-driven plan would have a maximum monthly payment equivalent to the standard plan amount. The lowest legal monthly payment would be $0.
  • All repayment plans will be for 120 payments, including $0/mo payments.
  • At the end of 120 payments, the remaining loan balance will be forgiven to the borrower (tax-free).
  • This forgiveness is for everyone – no specific field of work required, specific employer, etc.
  • Deferment and forbearance will be an option, but don’t count towards the 120 payment cap.
  • Default does not count towards the 120 payment cap.
  • Colleges can only offer private “qualified higher education loans” if they offer students federal loans first. If the student rejects the federal loan via a “Truth in Lending agreement”, then the student may seek a private loan.
  • Colleges who do NOT offer federal loans cannot offer private qualified education loans. These loans would be non-qualified, and as such, subject to the same laws as personal loans and credit cards (so dischargeable in bankruptcy and more).

Here’s the important part: Any balance that is forgiven is charged back to the school that originated the loan. 

The government would pay for any forgiveness for closed schools.

This charge-back model would do multiple things to improve the alignment of students and borrowers:

  • When colleges and universities are pricing their college costs, they will need to keep student financial outcomes at the forefront, and this will create natural caps on pricing.
  • This will end high cost for-profit programs that provide little ROI.
  • Student borrowers won’t be taken advantage of by college pricing.
  • For borrowers who can afford their loans, nothing really changes.
  • For those who are on a path for loan forgiveness, this improves the bureaucracy. Simplified loan forgiveness.
  • For those who have poor outcomes after graduation, there is relief at the 10 year mark.
  • Borrowers still need to maintain financial accountability and cannot just defer or default through the repayment term.

How To Realign Higher Education Incentives

My proposal to realign the other incentives in higher education are as follows, and they tie in directly with the system loan reforms above:

Colleges and Universities

By potentially facing charge-backs on student loans that aren’t repaid, colleges and universities would have to assess their pricing and costs, and make sure it aligns with the outcome of the student.

Many schools would likely opt to change pricing based on major. Some schools may close down. 

The aggregate result would be lower costs, and costs that better align with the outcomes of students. This is similar to the income-sharing agreements that are becoming popular.

The end reform is, by having charge-backs, schools will have to realign their entire financial model to account for student financial outcomes.

Note: Schools could opt-out of federal student aid. 

The Government

The government would see see large administrative costs on higher education, but the cost of forgiveness would be passed to colleges and universities in-bulk. 

This prevents that subsidy-inflation effect.

A big argument on the rising cost of higher education has been government loans. The reason? The government loans up to the cost of education. Colleges set the cost of education. Students can borrow anything, so the incentives are for the colleges to raise prices, and the government to pay it. Subsidies for colleges and universities.

With charge-backs, schools are naturally held to account for their costs. The government can focus on regulation and accountability.

Loan Servicing Companies

Loan Servicing Companies currently get paid based on each loan they service. There are also fees for getting a loan out of default, and other incentives. This is an area that really needs to be realigned to make sure we’re doing the best for the borrower (heck – many of these things can be done today).

First, loan servicers would only get paid on loans in good standing. There would be no payment for loans in deferment or default. If a borrower has an issue with repayment, the loan servicer must get them on an income-driven repayment plan, or re-certify their current income. Deferments should only be a last result.

If a borrower does default, the loan is transferred to a non-affiliated collection agency. These agencies are paid based on getting the borrower back in good standing. Our current system allows collection agencies to be subsidiaries of the loan servicer – that causes a big conflict of interest (let the borrower default so we can get bigger fees in collections). 

Loan servicers would be incentivizes to see loans paid off or the 120 payment mark forgiveness being met.

Private Lenders

Private lenders would still be allowed, but there would now be two types of education loans:

  • Qualified education loans (which are the loans we see today)
  • Non-qualified education loans

Private lenders would only be able to offer qualified education loans at colleges who offer Federal student loans to students first. Students could reject the Federal loan and take the private loan, but only after acknowledging the risks, knowing what they are giving up, and realizing these loans won’t have forgiveness at the end.

Private lenders could offer non-qualified education loans as well. These would be akin to personal loans. They would not offer any special protections for the lenders – they could be discharged in bankruptcy, etc. Lenders could model default rates based on school and credit history of the borrower. 

This would also allow colleges that opt-out of Federal loans provide loans, but lenders may not want to offer their students any loans if default rates are high.

Examples Of Student Loan Repayment Reform

So, how would student loan reform work for borrowers? Here’s a couple examples.

For standard 10-year repayment, this is a plan where the monthly payment is equal each month and the loan is fully paid off.

For the income-driven repayment plan, we’re using PAYE as an example, and the monthly payment is equal to 10% of your discretionary income. The maximum monthly payment would be equal to the standard 10-year repayment plan.

We’re going to assume the borrower has $30,000 in student loan debt.

Scenario 1: Borrower makes $65,000 per year

This borrower would be in the standard repayment plan. The loan would have a monthly payment of $286, and would be fully paid off in 10 years.

Scenario 2: Borrower makes $30,000 per year

This borrower would be in the income-driven repayment plan. The loan would have a monthly payment of $91, and the borrower would see roughly $29,400 forgiven. That $29,400 would be charged-back to the college or university that originated the loan.

Of course these scenarios are simplistic, but it highlights how the system would work. The goal is simplicity for borrowers, reduced bureaucracy, and accountability for schools.

Holding Colleges Accountable To Costs And Outcomes

The big goal of student loan reform is to align student and borrower interests with college interests, especially financially.

By having a charge-back model for student loans, colleges would naturally need to create a return-on-investment based pricing structure for their tuition. 

The interesting thing is that this data already exists, and it’s used in tools like College Scorecard. So colleges wouldn’t be going into this blind – they already know how their student loan borrowers perform after graduation. They know the default rates. They know what to expect.

However, they need to use this data to transform the pricing for students today, or face consequences. For far too long, we’ve let colleges increase their prices to any level they want – because they know full well that their students can borrow any amount, as long as the school labels it “cost of attendance”. 

The only way to break this cycle is to reduce the amount students can borrow – or make the colleges prove what they borrowed it worth it based on outcomes post-graduation.

The Cons Of Accountability

Let’s not sugar coat it, there are cons in this system as well. The biggest con is that a charge-back model would cause a wave of school closes and bankruptcies. We already know that there are schools out there that aren’t worth it.

Just look at this list by the Department of Education. There are schools allowed to enroll people using Federal student loans, but the default rate of graduates is over 40%. That’s not okay. These schools clearly aren’t working for their students…

But having a large number of colleges close down could be a problem, especially for minority students. This trend would need to be monitored and reporting would be needed so schools could plan effectively. 

Final Thoughts

As you can tell, I’m not against student loan forgiveness. But it needs to be tied to higher education reform. Just forgiving student loans doesn’t solve anything – and without other changes, we would be back in this same situation in 5 years or less.

By changing who pays for forgiveness – from the government and taxpayer to the schools who failed to deliver on their promises – we can actually reform the system.

This proposal helps align incentives across all parties – students are still paying (it’s not free college), colleges and universities pay if they fail to deliver, and the government saves money while the loan servicers they use have better incentives. And we don’t eliminate a private student loan market, just reform it. 

Until we hold schools accountable for what they charge for higher education, there’s little we can do on the student loan front to make things better for future borrowers.

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