Tax Consequences for Student-Loan Borrowers in Income-Based Repayment Plans: Insanity

The student loan crisis grows worse with each passing day. As the Wall Street Journal noted recently, total student-loan indebtedness is more than five times what it was just 20 years ago, and one out of four borrowers is behind on repayment or in default.

But American universities survive on federal student aid money; they are like addicts waiting on their next fix. Tuition rates continue to go up: Yale announced a tuition hike to nearly $50,000 a year!

The Obama administration knows the student loan program is out of control, but the only thing it can think of to do is roll out income-based repayment plans (IBRPs) that stretch borrowers' payments out for 20 or 25 years.  More than 5 million people are in these plans now, and the Department of Education wants 7 million in them by the end of next year. I think there will be 10 million people in these plans by the end of 2018.

IBRPs reduce borrowers' monthly payments because borrowers' payment terms are based on a percentage of their income--not the amount they borrowed. In Obama's latest two IBRP plans--PAYE and REPAYE--borrowers pay 10 percent of their adjusted gross income for 20 years.

But this is insanity. For most borrowers in PAYE and REPAYE, monthly payments are not large enough to cover accruing interest, and total indebtedness actually grows larger over the years as  accruing interest gets added to the amount that was originally borrowed.

It is true that borrowers who faithfully make loan payments for 20 years will have the remaining loan balance forgiven, but the amount of forgiven debt is considered taxable income by the IRS.  In fact, a Wall Street Journal article advised borrowers to start saving their money to pay the tax bill they will receive when they finish paying off their loans.

Alan Moore, a financial planner who was quoted n the WSJ, made this chilling observation: "If you don't save enough money for the tax bill, all you are accomplishing is swapping your student-loan debt for a debt to the IRS." Moore advised student-loan borrowers to open a segregated account to save for their eventual tax bill and not to invest that money too aggressively due to the risk of a bear market.

Higher Education insiders chant the mantra that people who get college degrees make more money than people who don't go to college. But that is not true for everyone. And that trite observation does not justify forcing millions of people into 20- and 25-year repayment plans that terminate with big tax bills that come due just about the time most Americans hope to retire.

References  

Anne Tergesen. Six Common Mistakes People Make With Their Student Loans. Wall Street Journal, September 12, 2016. Accessible at http://www.wsj.com/articles/six-common-mistakes-people-make-with-their-student-loans-1473645782

Yale Financial Aid Budget Will Meet Term Bill Increase. Yale News, March 9, 2016. Accessible at http://news.yale.edu/2016/03/09/yale-financial-aid-budget-will-meet-term-bill-increase

ITT Tech's former students announce a strike against student loan payments: Who will notice?

Several years ago, U.S. Post Office workers threatened to strike, but the public didn't care. I recall a cartoon with two images: The first image depicted a sleeping Post Office employee covered with cobwebs and was labeled "Post Office Employee at Work." The second image, which depicted the same sleeping Post Office worker, was labeled "Post Office Worker on Strike."

The cartoon's message was clear. If Post Office employees went on strike and refused to deliver the mail, no one would notice.

I think ITT Technical Institute's former students will get a similar ho-hum reaction to their announcement that they are on strike and refusing to make their student-loan payments. Who will notice?

After all, almost 50 percent of students who took out student loans to attend a for-profit college default on those loans within five years of beginning repayment. Some former for-profit students are making loan payments under income-contingent repayment plans, but most of these borrowers are making payments so small that they aren't even paying off their loans' accruing interest.

So a student-loan strike, like a postal worker strike, is basically a non-event.

That is not to say that ITT Tech's former students don't have real grievances. ITT has more than 40,000 students on 130 campuses. When  it closes tomorrow, all of ITT's students will be left in the lurch. Who can blame them for refusing to make payments on their student loans?

Students who are enrolled at ITT at the time it closes are eligible for  a "closed school" discharge of their federal student loans. According to Inside Higher Ed, about a thousand ITT students have applied for a "closed school" discharge. But why should they be forced into an administrative process to get their loans forgiven? Why doesn't the Department of Education simply forgive the loans of everyone who was enrolled at ITT at the time of its closure or who withdrew from their ITT studies within the last six months?

And, as I've said before, why doesn't DOE admit that a high percentage of the people who enrolled at ITT over the years did not get good value for their tuition dollars and forgive the student loans of all ITT's former students?

That would be a fair thing to do but damned expensive. That's why most of ITT's former students will be on the hook for their student-loan obligations even if their ITT studies were a complete waste of their time.

References

Ashley Smith. ITT Tech Students Launch Debt Strike. Inside Higher Ed, September 15, 2016. Accessible at https://www.insidehighered.com/quicktakes/2016/09/15/itt-tech-students-launch-debt-strike?utm_source=Inside+Higher+Ed&utm_campaign=c72eec25d2-DNU20160915&utm_medium=email&utm_term=0_1fcbc04421-c72eec25d2-198565653&mc_cid=c72eec25d2&mc_eid=1b70c08403

Ashley Smith. The End for ITT Tech. Insider Higher Ed. September 7, 2016. Accessible at https://www.insidehighered.com/news/2016/09/07/itt-tech-shuts-down-all-campuses

The Department of Education shuts down ITT Tech: No lifeboats for ITT's former students

In one of Patrick O'Brian's novels on life in the 19th century British Navy, a British fleet attacks a flotilla of Barbary pirates, who are in armed galleys rowed by Christian slaves. A British ship sails into the galleys at full speed, ramming one galley and cutting it in half.

The galley slaves are chained to their oars and cry out for help as their galley begins to sink. But the British ship sails on, leaving the slaves to drown. One of the British officers is so upset by the incident that he commits suicide.

Which brings me to the Department of Education's recent decision to cut off federal student-aid funding for all students enrolled on the campuses of ITT Educational Services. ITT had been subjected to a number of state and federal investigations, but DOE's decision to shut off the spigot of federal money was a death sentence for ITT. Within a few days after DOE's action, ITT shut its doors.

If all the allegations against ITT are true, this for-profit institution deserved to be shut down. But what about ITT's 45,000 current students, most of whom took out loans to pay their ITT tuition? What about the thousands of former ITT students who are trying to pay back their student loans? Will DOE offer these poor folks any relief?

Apparently not. DOE Secretary of Education John B. King Jr., issued a letter to ITT students offering them two options, which I quote:

1. If you are currently or were recently enrolled at ITT, you may be eligible to have your federal student loans for your program at ITT discharged. Your federal loan debt will be wiped away and you will have the option of restarting your education somewhere new. . . .
2. If you wish to continue to complete your program at a different school--especially if you are close to graduating--you may be eligible to transfer your credits. It is important to note that transferring your credits may limit your ability to have your federal loans discharged. Closed school discharge may be an option if you enroll in a different program that does not accept your ITT credits.

In short, King gave ITT students two choices: Current ITT students or students who recently withdrew from ITT (within 120 days before ITT closed) can apply to have their loans discharged. Other students can try to transfer their ITT credits to other institutions, which may or may not accept them.

In my view, King's letter is very much like sinking a pirate galley and allowing the poor galley slaves to drown.

Let's face facts. Most of the students who attended for-profit colleges got a substandard educational experience. Many former students claim to be victims of high-pressure recruiting tactics and misrepresentations about the quality of the programs that were offered. Almost half of a recent cohort of for-profit college students defaulted on their loans within 5 years of beginning repayment. All the problems in the for-profit college sector were plainly laid out in Senator Tom Harkin's Senate Committee report that was released several years ago.

The for-profit college sector is collapsing. Corinthian Colleges filed for bankruptcy, University of Phoenix has seen its enrollments drop by half, Stock prices in the for-profit college industry have plummeted.

There is only one fair thing for DOE to do. All students who attended a for-profit college that closed or has been found guilty of widespread fraud or misrepresentation should have their student loans discharged. I repeat--all students. And these discharges should be administered en masse without requiring for-profit students to go through a burdensome administrative process.

This won't happen of course, because releasing  for-profit college students from their student loans would cost the federal government tens of billions of dollars. But again I say, let's face facts. Most of these students were ripped off by the for-profit college industry and most will never pay back their loans anyway.

But Secretary King prefers to behave like the nineteenth century British Navy. DOE is sinking the bad guys but allowing innocent victims to drown, chained down like galley slaves by massive student-loan debt.

References

Patrick Gillespie. University of Phoenix has lost half its students. CNN Money, March 25, 2015. Accessible at http://money.cnn.com/2015/03/25/investing/university-of-phoenix-apollo-earnings-tank/

Secretary of Education John B. King Jr. A Message from the Secretary of Education to ITT Students. Accessible at http://blog.ed.gov/2016/09/message-secretary-education-itt-students/

Brian Stoffel.  Stocks to Watch in For-Profit Colleges. Motley Fool, June 9, 2015. Accessible at http://www.fool.com/investing/general/2015/06/09/stocks-to-watch-in-for-profit-colleges.aspx

United States Department of Education. Increased Oversight of ITT and the Impact on Students.  Accessible at http://blog.ed.gov/2016/08/increased-oversight-of-itt-and-the-impact-on-students/

United States Health, Education, Labor and Pension Committee. For Profit Higher Education: The Failure to Safeguard the Federal Investment and Ensure Student Success. July 2012. Accessible at: http://www.help.senate.gov/imo/media/for_profit_report/PartI.pdf

New Jersey Supreme Court strikes down an arbitration clause in Sanford Brown Institute's student-enrollment agreements: Another nail in the coffin for the for-profit college industry (Morgan v. Sanford Brown Institute)

Almost all for-profit colleges require their students to sign arbitration agreements as a condition of enrollment. In essence, students who sign arbitration agreements give up their right to sue the college they attend, even if they believe they have been victims of fraud or deceptive business practices.

Why do the for-profit colleges insist that students arbitrate their grievances instead of filing a lawsuit?  Several reasons.

First, most commentators agree that arbitration generally favors a corporate entity over a private party. Arbitrators make good money settling disputes, and they know they are likely to have future dealings with corporations such as for-profit colleges. Arbitrators do not want to get a reputation for being hard on for-profit colleges because they know that the for-profits will not choose them to arbitrate future disputes. Thus, their rulings may be more likely to favor a for-profit college over a humble student or at least to limit the amount of damages that might get awarded against a college engaged in wrongdoing.

Second, arbitration usually takes place in a private setting, and arbitrators' decisions are generally not made public. If a for-profit college loses an arbitration case, other potential plaintiffs are not likely to find out about it.

Finally, arbitration clauses generally preclude students from banding together and bringing class action suits against allegedly deceitful colleges, and these clauses often require student grievants to bring their arbitration disputes in a jurisdiction that favors the college.

The Department of Education has signaled that it disfavors the for-profits' practice of forcing students to give up their right to sue as a condition of enrollment, and it says it will draft regulations that will limit this practice. But DOE has not acted yet, and courts have generally upheld the validity of arbitration agreements when those clauses have been challenged.

But the courts may be changing their views. Recently, a California appellate court invalidated an arbitration clause signed by California students who had enrolled in a nursing program with an Indiana education provider.

And last June, in the case of Morgan v. Sanford Brown Institute, the New Jersey Supreme Court invalidated an arbitration clause that Sanford Brown Institute required students to sign. The students had enrolled in an ultrasound technician program, and they accused Sanford Brown of engaging in deceptive practices. Specifically, the students alleged that Sanford Brown had:

misrepresented the value of the school's ultrasound program and the quality of its instructors, instructed students on outdated equipment and with inadequate teaching materials, provided insufficient career-service counseling, and conveyed inaccurate information about Sanford brown's accreditation status.

The students also claimed that Sanford Brown had "employed high-pressure and deceptive business tactics that resulted in plaintiffs financing their education with high-interest loans, passing up the study of ultrasound at a reputable college, and losing career advancement opportunities."

 Sanford Brown asked a a New Jersey court to force the students to arbitrate their claims pursuant to the arbitration clause in the students' enrollment agreements. That clause, according to the New Jersey Supreme Court, consisted of "thirty-five unbroken lines of nine-point Times New Roman font, including this murky passage:

Agreement to Arbitrate--Any disputes, claims, or controversies between the parties to this Enrollment Agreement arising out of or relating to (i) this Enrollment Agreement; (ii) the Student's recruitment, enrollment, attendance, or education; (iii) financial aid or career service assistance by SBI; (iv) any claim, no matter how described, pleaded or styled, relating in any manner, to any act or omission regarding the Student's relationship with SBI, it employees, or with externship sites or their employees; or (v) any objection to arbitrability or the existence, scope, validity, construction, or enforceability of this Arbitration Agreement shall be resolved pursuant to this paragraph . . . . 

Ultimately, the New Jersey Supreme Court ruled in the case, and the court invalidated Sanford Brown's arbitration clause. In the court's view, the clause was not "written in plain language that would be clear and understandable to the average consumer that she is giving up the right to pursue relief in a judicial forum" [internal quotation marks and citations omitted].

"In summary," the court concluded, "the arbitration provision and purported delegation clause in Sanford Brown's enrollment agreement failed to explain in some sufficiently broad way or otherwise that that arbitration was a substitute for having disputes and legal claims resolved before a judge or jury." Without some minimal knowledge of the meaning of arbitration, the court ruled, the complaining students could not give informed assent to arbitration and to waiving their right to seek relief in a court.

The New Jersey Supreme Court's Morgan decision is a good decision for all students who have been wronged by a for-profit college. Following on the heels of a similar decision in California, the Morgan opinion drives another nail in the coffin of the for-profit college industry, which has protected itself from liability for deceptive and fraudulent practices by forcing their students to waive their right to sue. In New Jersey and California at least, students now have a better chance of getting their claims against allegedly deceptive for-profit colleges heard by a court. And if students are successful in their  cases and obtain substantial judgments against the colleges that wronged them, some of these colleges will be forced to close.

And that, in my opinion, would be a good development.

References

Magno v. The College Network, Inc.. (Cal. Ct. App. 2016). Accessible at http://caselaw.findlaw.com/ca-court-of-appeal/1741812.html

Morgan v. Sanford Brown Institute, 137 A.3d 1168 (N.J. 2016). Accessible at http://law.justia.com/cases/new-jersey/supreme-court/2016/a-31-14.html

U.S. Department of Education. U.S. Department of Education Takes Further Steps to Protect Students from Predatory Higher Education Institutions. March 11, 2016. Accessible at http://www.ed.gov/news/press-releases/us-department-education-takes-further-steps-protect-students-predatory-higher-education-institutions?

Quantitative Easing and the Student-Loan Crisis: The Government Loans Money to Students Who Don't Have a Prayer of Paying It Back

Investipedia defines quantitative easing as the process of increasing the money supply "by flooding financial institutions with capital in an effort to promote increased lending and liquidity."  Or more simply--quantitative easing is printing new money.

The Obama administration has done a lot of quantitative easing. At the height of its QE program, the government was pumping a trillion bucks a year into the economy. But there is another type of quantitative easing that is less well known. The government has been loaning billions of dollars to students under the federal student loan program, and it is only getting about half that money back. 

Who benefits? The higher education industry has gotten this money, including the stock holders and equity funds that own private colleges and universities.  

Conner v. U.S. Department of Education, a recent federal court decision, illustrates how QE works in the education sector. Patricia Conner, a Michigan school teacher, took out 26 separate student loans over a period of 14 years to pursue graduate education in three fields: education, business administration, and communications. By the time she filed for bankruptcy at age 61, she had accumulated over $214,000 in student-loan debt. According to the bankruptcy court, Conner did not make a single voluntary payment on any of her loans.

In the bankruptcy court, Conner argued that her debt should be discharged under the Bankruptcy Code's "undue hardship" standard, citing her advanced age as a factor that should weigh in her favor. 

But a Michigan bankruptcy court refused to release Conner from her debt, and a federal district court upheld the bankruptcy court's opinion on appeal. The district court  ruled that Conner's age could not be a consideration since she borrowed the money in midlife knowing she would have to pay it back. The court also indicated that Conner should enroll in an income-based repayment plan (IBRP) that the government had offered her, which would obligate her to pay only $267 a month on her massive debt. The court did not say how long she would be obligated to make payments under an IBRP, but these plans generally stretch out for at least 20 years.

Let's assume Conner signs up for an income-based repayment plan and begins paying $267 a month on her $214,000 debt. Let's also assume, that the interest rate on this debt is 6 percent. At 6 percent,  interest on $214,000 amounts to more than $12,000 a year, but Conner will only be paying about $3,200 a year toward paying off her student loans.

This means Conner's debt will be negatively amortizing--getting larger every year instead of smaller. After making payments for one year under her IBRP, Conner will owe $223,000. After the second year, she will owe around $233,000. After three years, Conner's debt will have grown to about a quarter of a million dollars, even if she faithfully makes every monthly loan payment.

Obviously, by the time Conner's IBRP comes to a conclusion in 20 or 25 years, she will owe substantially more than she borrowed, and she will be over 80 years old. In short, the government will never get back the money it loaned to Ms. Conner.

Who benefited from this arrangement? Wayne State University, where Conner took all her graduate-level classes, got most of Conner's loan money, which it used to pay its instructors and administrators.  But what did Wayne State provide Conner for all this cash? Apparently not much because Conner is still a school teacher, which is what she would have been even if she hadn't borrowed all that money to go to graduate school.

In my view, the Conner story is an illustration of QE in the higher education sector. The federal government is pumping billions of dollars a year into the corrupt and mismanaged higher education industry, and it is getting only about half of it back. Moreover, in far too many cases, the students who are borrowing all this money aren't getting much in value.

How long can this go on?  I don't know, but it can't go on forever.

Note: I am indebted to my friend Richard Precht for pointing out the relevancy of Quantitative Easing to the student loan crisis.

References

Conner v. U.S. States Department of Education, Case No. 15-1-541, 2016 WL 1178264 (E.D. Mich. March 28, 2016).

ITT Tech is teetering on the brink of collapse due to pressure from the U.S. Department of Education: Why did DOE wait so long to aggressively regulate the for-profit college industry?

ITT Educational Services, owner of ITT Technical Institute, is on the verge of collapse. A few days ago, the U.S. Department of Education issued a directive barring ITT from enrolling any students who rely on federal financial aid to pay their tuition.

DOE's recent action may be the coup de grâce for this tottering for-profit chain of technical schools. ITT gets 80 percent of its revenues from federal student aid monies.  Now that DOE has turned off the spigot of federal funds, ITT's days are numbered. In fact, if you want to measure ITT's pulse, just look at its stock price.   The company's stock was trading today at about 51 cents a share. In 2009, the stock sold at more than 200 times today's price--$128!

Shahien Nasiripour, a Bloomberg reporter, argued recently that the Department of Education does not know what it is doing when it comes to regulating for-profit colleges. Nasiripour wrote that DOE bungled the regulation of Corinthian Colleges and was surprised when the college chain filed for bankruptcy, leaving thousands of students in the lurch.   Nasiripour quoted an observer who said that "[t]he Education Department hasn't been a good analyst of corporate balance sheets."

Now, Nasiripour maintains, DOE is repeating its mistake with ITT and may "unwittingly exacerbate ITT's financial woes."

I disagree with Nasiripour. I think DOE knows exactly what it is doing to ITT and is fully mindful that its recent regulatory actions will likely drive ITT out of business. DOE surely knows that cutting ITT off from federal student aid money will shut off most of its revenues. And not long ago, DOE ordered ITT to almost double its cash reserves--from $124 million to $247 million, which ITT almost certainly is unable to do.

Why is the Obama's DOE acting so aggressively against the for-profit college industry now that Obama has less than three months left in his final term? Is DOE moving against the for-profits now because Obama no longer cares about the political consequences of cracking down on a powerful industry?

Or is DOE pressuring the for-profits to drive down their stock prices so that friendly investors can snap them up for a song and make a killing? Martin Nesbitt, a close confidant of Barack Obama, is leading a group of equity funds to purchase Apollo Education Group, the University of Phoenix's owner. If the deal goes through, Nesbitt's partners will only pay around $9 a share for the stock--about a tenth of Apollo's all-time-high share price.

If ITT gets bought up by financial vultures, it will be interesting to see if the new owners have ties to the Obama administration.

But let's give Obama's DOE the benefit of the doubt and assume that it is finally doing what it should have done a long time ago, which is aggressively regulate the for-profit industry in order to protect students from disreputable operators.

But DOE officials should remember that shutting down reputedly shady for-profit colleges is only half the job.  Corinthian Colleges had about 300,000 former students at the time it filed for bankruptcy and most of them took out federal student loans. All those people should have their student loans forgiven.

If DOE shuts down ITT--which it is apparently trying to do with its recent regulatory actions, it needs to provide relief for all of ITT's indebted students--both current enrollees and former students.

If  ITT closes and DOE forces all these hapless student-loan debtors into a tedious administrative process in order to get their student loans forgiven, then we will know that the Obama administration doesn't really care about the students who attended for-profit colleges.  Rather, knowingly or unknowingly, DOE may simply be driving down the value of for-profit colleges in a way that allows new investors to swoop down and scoop them up at bargain prices.

References

Shahien Nasiripour. The Obama Administration Could Cause the Next Big For-Profit College Collapsehttp://www.bloomberg.com/news/articles/2016-06-09/the-obama-administration-could-cause-the-next-big-for-profit-college-collapse. Bloomberg.com, June 9, 2016.  Accessible at http://www.bloomberg.com/news/articles/2016-06-09/the-obama-administration-could-cause-the-next-big-for-profit-college-collapse

Josh Mitchell. Education Department Orders ITT Educational to Bolster Finances. Wall Street Journal, June 6, 2016. Accessible at http://www.wsj.com/articles/education-department-orders-itt-educational-to-bolster-finances-1465246531

Mark Muckenfuss. New Sanctions Against ITT Tech will limit enrollment. Press Enterprise, August 26, 2016.  Acessible at http://www.pe.com/articles/students-811674-itt-school.html

20-year Income-Based Repayment Plans for Student-Loan Debtors: A Return to Feudalism

Paul Craig Roberts wrote a chilling essay a couple of months ago in which he argued that Greece is being looted by its corporate creditors. According to Roberts, the banks don't want Greece to pay off its debts because the banks ultimately intend to strip Greece of its national assets, including its ports and nationally protected islands.

Here is the core of Roberts' argument:

The banks don't want Greece to be able to service its debt, because the banks intend to use Greece's inability to service the debt in order to loot Greece of its assets and resources and in order to roll back the social safety net put in place during the 20th century. Neoliberalism intends to reestablish feudalism . . . . The way Germany sees it, the [International Monetary Fund] is supposed to lend Greece the money with which to repay the private German banks. Then the IMF is to be repaid by forcing Greece to reduce or abolish old age pensions, reduce public services and employment, and use the revenues saved to repay the IMF. As these amounts will be insufficient, additional austerity measures are imposed that require Greece to sell its national assets, such as public water companies and ports and protected Greek islands to foreign investors, principally the banks themselves or their major clients. (emphasis supplied)

In essence, Roberts is predicting that Greece will eventually cease to be a sovereign nation; it will become a feudal serfdom controlled by private investors--principally German banks.

Something similar is occurring in American higher education. Private investors are operating for-profit colleges for the purpose of looting American taxpayers, who provide the federal student loan money that naive students use to pay the colleges' outlandish tuition prices. Almost half the students who take out student loans to attend for-profit colleges default within five years, but the for-profit colleges doesn't care. They got their money upfront.

How does this equate to feudalism? The Obama administration knows that student-loan default rates are shockingly high, but it is covering up this problem by forcing students into long-term income-based repayment plans--plans that require former students to pay a percentage of their income to the government for 20, 25, or even 30 years. In a very real sense, these long-term debtors have become feudal serfs, indebted for almost their entire working lives for the privilege of attending a shitty for-profit college. (Perhaps I should have used a different word than shitty--just can't think of one right now.)

And it's not just the for-profit college owners who benefit from this scam. The public colleges and the not-for-profit private colleges are collecting their share of the loot--jacking up tuition prices, knowing that students will simply borrow more and more money to pay their escalating tuition bills.

In fact, college presidents have become the 21st century equivalents of feudal lords--living in palatial presidential homes, flying around the world in private jets to hob nob with donors, and collecting unseemly salaries, while low-paid adjuncts teach the classes much like the serfs of the middle ages.

So, student-loan debtors, you aren't the only ones being raped by the transnational financial oligarchs. The Greek people are your companions in misery.

References

Adam Looney & Constantine Yannelis, A crisis in student loans? How changes in the characteristics of borrowers and in the institutions they attended contributed to rising default rates. Washington, DC: Brookings Institution (2015). Accessible at: http://www.brookings.edu/about/projects/bpea/papers/2015/looney-yannelis-student-loan-defaults

Paul Craig Robert. We Have Entered the Looting Stage of Capitalism. Infowars, May 27, 2016. Accessible at http://www.infowars.com/we-have-entered-the-looting-stage-of-capitalism/