When your budget is in the trillions of dollars, perhaps $300 billion is a rounding error. But for the bill-paying American taxpayer, losing $300 billion is a big deal.
A new study published by the Government Accountability Office (GAO) has revealed a shocking gap between what the federal government predicted the student loan program would generate and what actually happened.
The GAO stated in its report that “While the Department of Education initially estimated that federal direct loans made over the past 25 years would generate billions in revenue for the federal government, its current estimates show that these loans will cost the government billions.”
Forecasted profits turn into huge losses
The report goes on to say that the Department of Education originally estimated that the federal student loan program would generate $114 billion in revenue for the government and therefore taxpayers. But in reality, the GAO predicts that the program will actually cost the federal government $197 billion.
This discrepancy is $311 billion and has been costing taxpayers about $10 billion a year since 1997. In fact, initial estimates project earnings for all but four years from 1997 to 2021. But the reality is that every year leads to losses. except for a small increase in 2012.
Simply put, the GAO report notes that, based on initial estimates, the federal loan program should have generated $6 in revenue for every $100. Based on forecasts for Fiscal Year 2021, these loans are now expected to lose $9 for every $100 paid out.
Imagine a bank that lent money and lost 9% on each loan. They won’t be in business for very long. So what happened? How did the Ministry of Education make such a mistake?
To be fair, the government is not a bank, and its goal is not always to make a profit. But an accounting error of this magnitude certainly could have come under greater scrutiny from Congress and the public.
What is the direct loan program?
The Federal Direct Loan Program is a set of federally subsidized and non-subsidized loans made available to students and their parents to provide financial assistance for higher education. As of 2021, outstanding direct loans stood at $1.4 trillion, and a total of $1.8 trillion has been disbursed since 1997.
The Department of Education issues several different types of loans, including subsidized Stafford loans available to undergraduate students who meet needs-based criteria, unsubsidized Stafford loans available to all undergraduate and graduate students, PLUS loans available to graduate students and parents of students, and Consolidation Loans, which bundle multiple federal loans together.
What explains the $300 billion difference?
The GAO assessed the Department of Education’s cost estimates over the years and found two main areas that contributed to the huge deficit.
61 percent, or $189 billion, is due to faulty assumptions related to the economic health of borrowers, underestimating the percentage of borrowers who default on their loans, and underestimating the number of borrowers who will choose income-based repayment (IDR) plans. In other words, they underestimated the ability of people to repay their debt.
In particular, almost half (47%) of all loans issued are repaid under the IDR plan, which limits monthly loan payments based on the borrower’s income. For borrowers with lower incomes, this cap results in part of the loan being forgiven after a 20 or 25 year repayment period.
The remaining 39 percent of the projected deficit is attributable to programmatic changes, including legislative or administrative changes that fundamentally change the lending program. Possibly the biggest programmatic change was due to the COVID-19 emergency relief provided to borrowers under the CARES Act, which resulted in the suspension of all accruals of interest and payments due beginning in 2020 and is currently expiring at 2022. This change alone led to costs. increased by $102 billion.
What is the coming day?
College tuition has grown at an average of 8% per year, far outpacing inflation and wage growth. If this trend continues, college students will enter the labor market with a greater debt burden and less ability to repay, further putting pressure on the assumptions behind the direct loan program.
While relief for borrowers may be on the horizon, if Joe Biden’s $10,000 student loan write-off proposal gains momentum, it could result in an additional $321 billion in costs for taxpayers. Whether this is an accounting error or a price worth paying is up to the voters.
Andrew Herrig is the founder of Wealthy Nickel, where he writes about personal finance, jobs, and entrepreneurship. As an avid real estate investor and owner of several businesses, he has a passion for helping others create wealth and shares his family’s experiences on his blog. Andrew’s advisory board has been featured on CNBC, Entrepreneur, Fox News, MSN and more.
