Due to the major premium that the U.S. economy places on skills and knowledge, most Americans deem a college degree to be a sound investment. Indeed, median earnings are more than 60 percent higher for bachelors-degree holders than high school graduates.
However, the pursuit of postsecondary attainment often masks significant risks associated with the current system for both students and taxpayers. Students who fail to complete, for instance, often pay thousands of dollars, end up with loads of debt, and do not see the same wage gains as degree-holders. This is not a notional problem: Just 60 percent of first-time, full-time students graduate with a bachelor’s degree within six years.
Today, the Senate Health, Education, Labor, and Pensions Committee held a hearing on this controversial topic: to what extent should institutions have “skin-in-the-game” over the outcomes of their students. This issue has garnered bipartisan interest, and it will likely be a component of the impending reauthorization of the Higher Education Act.
So, what does the current institutional accountability system look like, and how can it be improved and reformed?
The Current System: Federal Aid Eligibility Tied to Default Rates
Federal aid eligibility is currently tied to student loan default rates. If a high percentage of students default on their federal loans, the government can revoke the ability of that school to receive future federal loans and grants.
Specifically, the federal government uses a metric called the cohort default rate (CDR), which measures the percentage of an incoming class (or cohort) that defaults on their federal loans within three years of entering repayment. If a school’s CDR exceeds a certain threshold – 40 percent for a single cohort or 30 percent for three consecutive cohorts – that institution can lose the ability to accept federal aid.
This system reflects the belief that schools should bear some responsibility for high default rates. If a large percentage of a school’s students are unable to meet their loan obligations, then the institution has failed, and it should therefore be precluded from further federal aid dollars.
While this system makes sense in theory, it is flawed in several ways. For one, it is an all-or-nothing trigger. Only the very worst performers face penalties, and any who do receive an austere punishment – the loss of federal aid eligibility. Most institutions rely heavily on federal loan revenues and would likely shutter their doors if eligibility is revoked. Even exercising this punishment can give policymakers pause. For example, the Obama Administration became known for adjusting institutions’ default rates in a way that allowed them to avoid penalties, a practice which was criticized by both Republicans and Democrats.
Another problem with the CDR is that it fails to consider the many options afforded to struggling borrowers as they strive to avoid default. For example, debtors can claim economic hardship and move onto forbearance or deferment, which temporarily relieve them of monthly payments, though interest continues to accrue. Debtors also have the option of enrolling in an income-driven repayment (IDR) plan, which limits monthly payments to a percentage of one’s earnings. Many borrowers narrowly avoid default with one of these options, but they are still unable to put a dent in their loan balances. Institutions that produce these poor outcomes face little in the way of consequences.
Policymakers could boost institutional accountability by implementing what is known as a risk-sharing system. If crafted correctly, this would give all institutions a degree of “skin-in-the-game” over student outcomes, and thus provide every school with an incentive to improve, not just those at the bottom that risk losing federal aid eligibility. The Center for American Progress recently commissioned a paper series that developed several promising proposals on how best to craft this type of system.
One notable option is to base accountability on loan repayment rather than the CDR. This is the approach taken by the Student Protection and Success Act (SPSA), a bipartisan bill proposed by Sens. Jeanne Shaheen (D-NH) and Orrin Hatch (R-UT). Under this legislation, institutions would be required to pay a fee based on a small percentage of a cohort’s non-repayment loan balance, which is defined as the portion of a cohort’s total outstanding loan balance whose principal has not declined by at least one dollar over the course of three years.
Risk-sharing tied to repayment could be preferable to the CDR. Repayment rates represent a more wholistic measure, catching not only those in default, but also struggling borrowers in IDR plans, deferment or forbearance namely those who are unable to put a dent in their principal balance.
The SPSA would also create a “College Opportunity Bonus Program” to reward institutions based on the number and percentage of students who are eligible for Pell grants and healthy repayment rates among these borrowers. The bonus would be funded with the revenues raised from the risk-sharing provision, ultimately helping to provide institutions with an incentive to prioritize serving low-income students.
Benjamin Franklin once said that “an investment in knowledge always pays the best interest.” That should be true when it comes to higher education, but today, too many students fail to complete their degrees and suffer from poor labor force outcomes. Part of the problem can be attributed to institutions lacking skin in the game when borrowers are unable to repay their loans, schools often get nothing more than a slap on the wrist. Today’s Senate hearing brought this pressing issue to the fore, and set the stage for lawmakers to continue working in a bipartisan fashion to better-align the incentives of institutions with those of their students.
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