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Inside the Student Loan Experiment Happening at Purdue

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It all started when Mitch Daniels, the president of Purdue University, got a crazy idea: What if the public college in West Lafayette, Indiana allowed students to apply for education funding in exchange for a chunk of their earnings?

Purdue would be the first American university in 50 years to revisit the concept, known as an income-share agreement, or ISA, and if it worked, it would provide a revolutionary alternative to private student loans.

“I was pretty skeptical,” said Ted Malone, executive director for the school’s division of financial aid. “It was sounding like the idea was to have individual investors back individual investors, so I was picturing something like ‘Shark Tank.'”

He was also concerned for his students. “I thought it would be easy for someone to take advantage of them, to convince them to take loans with terrible rates and maybe not disclose all the things that they should,” Malone said.

After interviewing a handful of financial services firms, Purdue struck a deal with Vemo Education, a Reston-based firm with deep knowledge of ISAs. The program, Back a Boiler, was unveiled April 4, and since then the school has hosted information sessions and created a website to bring students and parents up to speed on the differences between ISAs and loans. It hasn’t been easy, and for the uninitiated, ISAs are new territory indeed.

“It’s an experiment,” Malone said.

How It Works  

Under Back a Boiler, students repay their debt in the years immediately following graduation based on a fixed rate linked to their expected income. Unlike a bank loan, there is no set loan balance; again, there is only a fixed rate to which their income is tied for the duration of the contract. In general, the terms are shorter (nine years or less) than those offered by private loans, although students’ monthly payments could be slightly higher. In this way, an ISA adopts the logic behind a short-term mortgage: The less time spent paying it off, the more money you save.

Awards will start at $5,000, and payments will kick in six months after students leave school. The money repaid will be used to replenish the fund for future investments. The exact terms of agreements will vary by student and factor in how far along they are in their studies, any cumulative debt, area of study and projected earnings.

A Replacement for Private Student Debt? 

Purdue offers an online comparison tool for students to enter their major, credit hours and expected graduation date to assess repayment terms based on possible income. A incoming senior majoring in Economics, for example, who’s expected to graduate in May 2017, could expect to pay 9.02% of his income, whatever it is (the school comes up with an estimate), if he were to accept an ISA of $32,000. If he wound up with a low salary after college, this wouldn’t be so bad, and may present a viable alternative to private student debt and federal Parent Plus loans.

However, if his income were higher, he’d be taking a gamble. The rate may sound paltry for someone not earning much out of school, but if he were to earn more, his wallet would feel it. “If you’re less successful, your payment rate goes down,” Malone said. “If you’re more successful, your payment rate goes up.”

Mark Kantrowitz, a student loan expert, isn’t convinced Purdue’s program will be the cure-all to students’ debt woes. Though it “avoids some of the problems in other proposals, such as cross-subsidization of disciplines — i.e., some programs charge the same amount of humanities and STEM graduates — and long repayment terms, it does not eliminate student debt,” he wrote via email. An ISA is just debt in another form. “Some risk of failure is transferred from borrower to lender, yielding an education financing product that may be more attractive and more accessible to low-income students,” Kantrowitz said.

For now, at least there’s an option.

Remember, it pays to read the terms and conditions carefully on any financing you are considering for college so you can find the loan that’s best for you. It can also help to have a good credit score, since it may qualify you for better rates on private student loans, for instance. (You can see where you credit score currently stands by viewing your two free credit scores, updated each month, on Credit.com.)

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