Forty-two years ago, President Richard M. Nixon—a Republican with impeccable anticommunist credentials—traveled to China for a series of meetings with Communist Party Chairman Mao Zedong. Some two decades later, Star Trek’s Mr. Spock turned that historic event into a political metaphor when he said, “Only Nixon could go to China,” meaning that only those with the most steadfastly held contrarian views are capable of effecting change in the opposite direction.
This bit of movie trivia came to mind when I read Ike Brannon’s op-ed on student loans in the reliably conservative Weekly Standard. In it, Brannon writes that exempting a particular type of debt from bankruptcy (student loans, in this instance) “belies the very reason for a bankruptcy law in the first place.” He goes on to compare lending practices for education loans with those that led to the recently overheated housing market, where demand-driven price inflation was fueled by reckless credit underwriting.
As radical as Brannon’s editorial epiphany might be—after all, it was a Republican Congress and presidential administration that expanded bankruptcy law to except from discharge all qualified education loans, public and private alike—the solution he proposes is anything but.
In a nutshell, Brannon wants colleges and universities to be on the hook for the loans that would become more easily dischargeable in bankruptcy. Doing so, he argues, “might make schools think twice before they admit a marginal prospect and charge them thousands of dollars for an education that might not do them much good.”
Ignoring what sounds like an unsubtle attempt at a little social engineering, Brannon’s plan would, in effect, aid defaulting borrowers solely at the expense of the schools that, in his view, are responsible for their financial distress. And what of the lending institutions that acted as go-betweens? Seems they get their money either way.
Re-Examining the Bankruptcy Option
There’s a more even-handed way of dealing with this problem. First, though, let’s consider the matter of bankruptcy.
There are two forms of personal bankruptcy. Under Chapter 13, the court oversees a reorganization of the borrower’s obligations so that much (if not all) of the petitioner’s outstanding obligations may be repaid over time under potentially more favorable terms. Under Chapter 7, by contrast, most of the unresolved debts are fully discharged, although when Congress overhauled the law in 2005, it significantly tightened the rules that govern these petitions.
The question is: Should fully dischargeable debts be the focal point of our attention in this context?
I ask because when you think about it, the government’s increasingly generous loan-modification plans are tantamount to a form of Chapter 13 reorganization. The PAYE plan, for example, permits financially distressed borrowers to limit their monthly payments to just 10% of their discretionary income and extend the repayment term for up to 20 years. The problem, however, is that not enough distressed borrowers are gaining access to this and other debt-relief plans.
Some are turned away because of program technicalities (past-due payments and loans that entered repayment mode too long ago, for example), others are unaware of the relief that’s available to them (lenders, investors and loan-servicing companies have been less than forthcoming about the options), and still more are precluded because their loans are not government-backed.
So, here’s a thought: What if the bankruptcy laws were revamped to include all student loan debt and the Chapter 13 guidelines for these were drafted to replicate the government relief plan that makes the most sense for the situation at hand? But don’t stop there. What if tax law were also changed to exempt the portion of the debt that ends up being discharged (similar to what was done for home mortgages during the economic crisis), and the credit bureaus agreed to expunge pre-modification payment histories?
Here’s an even better idea: What if all the government’s relief programs were made universally available without regard for the manner in which the subject loans were originated instead of forcing our kids into court?
How Schools Can Be Held Accountable
As for holding the schools financially responsible for their role in creating this disaster, although I agree with his fundamental premise—the schools have contributed to this mess—I disagree with Brannon’s simplistic solution. Apart from the preposterous assertion that education loan-payment defaults can be linked to less-than-adequate educations delivered to students who should not have been admitted in the first place, I can’t even begin to contemplate how to deal with the administrative horror show that would ensue when thousands of individual debt obligations are transferred from one payer to the next on a onesy-twosy basis. That is yet another example of formulating policy without taking the time to fully consider how the underlying process actually works.
A more equitable and operationally practical way to hold the schools accountable would be to use the institutional cohort default rates as a means for calculating pecuniary penance. For example, if a school’s CDR were, say, 10%, the institution would be responsible for paying into a fund that’s established to cover the cost for this program: 10% of the value of the federal grants and loans it received during the period the cohort students were enrolled.
Finally, as for the creditors—which, by the way, includes the federal government—if the borrowers are granted reasonable opportunities to repay more of their debts over time, and if the schools are forced to return a pro rata share of the financial support they received, it would be up to the lenders to eat the difference, since they’re the ones who approved these loans in the first place.
All in all, I am cautiously encouraged by what appears to be a shift in sentiment. Who knows? Perhaps Mr. Spock’s Vulcan proverb will apply here, too.
This story is an Op/Ed contribution to Credit.com and does not necessarily represent the views of the company or its affiliates.
More on Student Loans:
- How Student Loans Can Impact Your Credit
- Can You Get Your Student Loans Forgiven?
- How to Pay for College Without Building a Mountain of Debt