The headline terms are 0% interest and streamlined Income-Driven Repayment. Both would be an improvement.

Unfortunately, the LOAN Act is likely to cause more issues than it fixes.

The Leveraging Opportunities for Americans Now (LOAN) Act Basics

Under the LOAN Act, new federal student loans would not charge interest. Instead, they charge a financing fee when the loan is first borrowed.

For undergraduate students, there is a one-time financing fee of 20%. For graduate students and parents, the financing fee jumps to 35%.

The default repayment plan is an income-based repayment plan that charges borrowers 10% of their discretionary income. However, borrowers would have the option of repayment on a standard 10-year repayment plan. Borrowers that quickly could have the financing fee partially refunded.

Notably, the income-based repayment is automatic. Borrowers wouldn’t have to apply each year manually.

The Problem with Rubio’s 0% Interest Loan

The idea of 0% interest usually sounds too good to be true. In this case, it is definitely too good to be true.

The massive “finance fees” mean borrowing money for school is still expensive.

For example, suppose you borrow $10,000 to pay for a year of graduate school. By borrowing that $10,000, you agree to repay the government a total of $13,500 (the original $10,000 plus the 35% financing fee).

How does this loan compare to a traditional loan that charges interest rather than massive fees? If you borrowed the same $10,000 for school and repaid the debt over ten years, that equates to a 6.3% interest rate.

The math gets complicated quickly, but the important takeaway is that there are still borrowing costs associated with these loans. Calling them 0% interest loans without this context is highly misleading.

The Biggest Issue with the LOAN Act

Rubio’s plan is a fascinating thought exercise.

In theory, it makes borrower costs far more straightforward. It also simplifies repayment.

The Rubio approach might make sense if we were designing a federal student loan system from scratch.

Unfortunately, we already have an extremely complicated system in place. We have too many loan types, too many servicers, too many repayment plans, and too many rules. Simplicity should be the goal.

The LOAN Act creates two significant complications to federal student loans.

1. It makes a mess for current students. Rubio’s plan would mean that all new student loans were issued with hefty financing fees. How does a student who has two years of old loans and two years of new loans manage their debt? How do borrowers and servicers handle two completely different federal systems?
2. It makes paying for college more confusing. If the LOAN Act becomes law, it would be difficult for students to compare federal loans against private loans. How does an 18-year-old student compare a private loan with a 0% interest loan with a massive financing fee?

Sherpa Thought: It is also worth noting that the LOAN Act wouldn’t actually do anything to fix the student loan crisis. It doesn’t lower college costs. At best, it only makes living with the debt more manageable.

Massive reform is a good idea, but any real changes will have to address the cost of school.

What the LOAN Act Gets Right

Federal law currently prevents the IRS from sharing income information with the Department of Education unless the borrower authorizes the disclosure. This rule is why borrowers must certify their income each year to stay enrolled in income-driven repayment plans.

Rubio’s plan to automate IDR enrollment has been discussed for years by members of both parties, but it hasn’t ever become law.

There is bipartisan support for automated IDR enrollment, and there isn’t a good argument against it. Hopefully, Congress can pass some legislation to address this fixable issue.

Does the LOAN Act Have Any Chance of Passing?

Rubio has introduced this proposed legislation on multiple occasions, and it has never passed.

Republican support for the bill seems very limited, and Democratic support appears nonexistent.

In other words, the LOAN Act is unlikely to become law, no matter how many 0% interest headlines you see.

The post Rubio’s LOAN Act Promises 0% Interest, but it Doesn’t Deliver appeared first on The Student Loan Sherpa.

Sadly, there is no positive spin to be put on legislation recently re-introduced in the Senate by Marco Rubio. The bill is objectively bad. Despite Rubio’s stated intention of offering help, it would do more harm than good for student loan borrowers.

Rubio wants to create an automatic one-year deferment on student loan payments for victims of terrorist attacks. On the surface, this is an almost comically small amount of help for borrowers and terrorism victims. Twitter had fun with the proposal, but looking beyond a few obvious jokes, the bill is somehow worse than it first appears.

A Deferment is a Bad Choice for Many Borrowers

At first glance, a deferment looks like help. A struggling borrower who can’t afford payments gets a break for an entire year. The downside to a deferment is that the loan continues to charge interest, but those who can’t make payments are often willing to live with the consequences.

The problem with a deferment is that there are better alternatives available. For many borrowers, enrolling in the Revised Pay As You Earn (REPAYE) Plan is the best alternative. If an unemployed borrower signs up for REPAYE, they can qualify for $0 per month payments. These $0 payments can be renewed year after year until the borrower finds a job. Additionally, borrowers on REPAYE get a federal interest subsidy, so less interest accrues during the $0 payment period. Best of all, REPAYE counts towards multiple federal forgiveness programs.

Unlike REPAYE, time on a deferment is limited and does not count towards forgiveness. Plus, the lack of an interest subsidy makes a deferment more expensive than REPAYE.

Even if the Rubio bill became law, most borrowers should steer clear of this help.

Automatic Deferment Might Further Hurt Terrorism Victims

Rubio’s website mentions his desire “to provide automatic federal student loan deferments to any survivor of a terrorist attack.”

An automatic deferment could be financially devastating to some terrorism victims with student loans. For example, suppose a borrower is working towards Public Service Loan Forgiveness (PSLF). Time on a deferment usually does not count towards the required 120 payments. Thus, these borrowers, victims of terror attacks, would be forced to work an additional year in public service if they received an automatic deferment.

Even if a borrower could decline the automatic deferment, it means an additional headache for a terrorism survivor.

The danger of an automatic deferment impacts other borrowers as well. Some federal borrowers have large amounts of uncapitalized interest. Going on a deferment causes interest to capitalize. This interest capitalization would create larger balances and make repayment more difficult.

Rubio’s Bill Offers No Help for Private Loan Borrowers

A deferment could help borrowers with private student loans.

Unlike federal loans, private loans don’t have forgiveness options or repayment plans with federal subsidies. As a result, a deferment during a hardship might help.

Unfortunately, the full text of the proposed legislation makes no reference to private student loans. These borrowers do not receive any relief.

The Worst-Case Scenario

Senator Rubio’s bill could devastate some public servants. Instead of delaying PSLF for a year, some borrowers might miss out entirely.

One of the less known federal programs is Temporary Expanded Public Service Loan Forgiveness (TEPSLF). Under TEPSLF, borrowers who enrolled in the wrong repayment can still qualify for PSLF, provided they meet all other requirements. Congress created the TEPSLF program to help borrowers who were given inaccurate information by the federal student loan servicer. The problem with TEPSLF is that there is limited funding, and once the funds run out, the program ends.

If a borrower was delayed for one year due to an automatic deferment from a terrorism attack, they might miss out on the TEPSLF relief. In many cases, this could mean missing out on over $100,000 worth of loan forgiveness.

Terrorism Victims and Student Loan Borrowers Deserve Better

The worst-case scenario is an unlikely event. However, it could happen if Senator Rubio’s bill becomes law.

Well-crafted legislation shouldn’t create devastating outcomes for terrorism victims. Well-crafted legislation should offer relief that is better than the options already available.

Senator Rubio is either pretending to care, or he hasn’t put in the time and effort necessary to come up with a bill that actually helps. Either way, he needs to do better.

The post Rubio Shows Incompetence on Student Loan Crisis appeared first on The Student Loan Sherpa.