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Tuesday, October 9, 2012

Deborah Jones Merritt: Student Loans: A 10% Tax Increase on Middle-Class Young Adults

Deborah Jones Merritt (Ohio State), IBR: The Trench:

[T]he Income Based Repayment program is digging a trench under our economic future. ...

IBR currently takes 15% of a debtor's discretionary income; if current reforms take effect, the percentage will fall to 10%. ... A 10% cut to middle-class discretionary spending has serious economic impact. To see how significant that 10% could be, consider the huge furor over extending the Bush tax cuts for middle-class taxpayers. If those cuts expire at the end of this year, tax rates will rise 3% in the middle brackets. People who currently pay 25% will pay 28%; those who are now paying 28% will pay 31%, and those who are paying 33% will pay 36%.

Almost everyone agrees that those increases would cause significant economic damage. When taxpayers send 3% more of their marginal income to the government, they reduce other spending. The resulting decline in consumption would leave lots of goods and services on the shelf. Businesses would close or contract; jobs would disappear; families would spend even less...the whole ugly cycle would accelerate.

For just this reason, both Republicans and Democrats oppose increasing tax rates for the middle brackets; the only dispute centers on how to treat the top income bracket. But while we're all swooning over 3% decreases in discretionary middle-class spending, we're blithely ignoring a system that will take up to 10% out of middle-class incomes for years to come. ...

The IBR bite wouldn't matter if graduates were earning significantly more due to their degrees. If college graduates today were earning 10% more than they did ten or fifteen years ago, then they could afford to pay off their loans while still spending as much in the marketplace as earlier grads did. Unfortunately, though, degree holders are not earning significantly more today than they did ten or fifteen years ago. The National Center for Education Statistics, a division of the federal Dept of Education, reports that young adults with a college degree earned a median income of $45,000 in 2010. In 1995, they earned about the same amount ($44,300) in inflation-adjusted, constant 2010 dollars. The numbers for graduates with an MA or higher are even worse: Those incomes declined from $56,700 in 1995 (using constant 2010 dollars) to $54,700 in 2010. ...

All of this paints a grim picture: Degree-holders are earning no more than they did in the past, but they are significantly more likely to hold student loan debt -- and to owe more of that debt. Under IBR, graduates will pay off that debt as a percentage of discretionary income every year for the forseeable future. The impact will be close to a 10% increase in the marginal tax rate for each of those debtors. That's got to hurt the economy, impeding creation of the very jobs that these graduates need to pay off their debt.

The primary flaw doesn't lie in IBR itself; the problem stems from the ready availability of guaranteed loans and from the extravagant rises in the cost of higher education. But IBR is lulling more students into assuming this debt -- and allowing educators to tout loans as an affordable way to earn costly degrees.

Affordable today, perhaps, but we're siphoning that money directly from tomorrow's economy. IBR lets us see just how damaging this debt will be to the future: It will affect consumer spending as much as a major tax increase. Let's hold the next Presidential debate on that issue.

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Comments

Merrit makes a good point but her attack on IBR is misplaced--the problem is escalating student debt, period. The "10%" cut on spending because of IBR is only the tip of the iceberg. Many people who don't qualify for IBR spend a substantial portion of their monthly income on student loan payments.

The effects of all this student debt will reverberate for decades to come. The money is still in the economy--it is going somewhere from the lender's hands--but is this really where we want all the money going?

On a personal level, I am extremely frustrated that I pay 7%+ interest on some of my student debt when the lender is taking NO RISK. I pay less interest on my car and house than I do on some of my loans with SallieMae. I'd rather be putting that money into my local community.

Posted by: Millenial | Oct 11, 2012 1:21:55 PM

On a personal level, I am extremely frustrated that I pay 7%+ interest on some of my student debt when the lender is taking NO RISK. I pay less interest on my car and house than I do on some of my loans with SallieMae. I'd rather be putting that money into my local community.

Posted by: Juna | Oct 26, 2012 10:19:19 AM