Tuesday, March 17, 2015
Benjamin M. Leff (American) presents The Income-Based Repayment Swap: A New Method for Funding Law School Education (with Heather Hughes (American)) at William & Mary today as part of its Faculty Workshop Series:
The high cost of legal education and corresponding student debt levels is a subject of robust debate. Yet too few critics of degree cost show creativity in thinking about the optimal mechanism for funding a legal education. The traditional model for financing a legal education is that students borrow with (mostly) fixed-rate loans repayable soon after graduation. The federal government supplements loans with income-based repayment and loan forgiveness programs to protect students who have borrowed more than they can afford to pay back. The reach of these programs has expanded dramatically in recent years, with the programs covering 1.3 million graduates owing around $72 billion as of the first quarter of 2014, with every indication that those figures will grow dramatically unless the programs are modified. A significant segment of those who depend on income-based repayment and loan forgiveness programs will be law students, because those are among the students with the highest levels of qualifying debt.
For over half a century, some critics have argued that private income-based repayment instruments, traditionally called “human capital contracts,” would do a better job than debt in creating a market for education financing, especially for graduate professional schools. Recently, proponents of human capital contracts have been arguing not only that such instruments would do a better job than debt of raising capital for students wishing to obtain an education, but that a vibrant market for human capital contracts (sometimes called “income share agreements”) could provide benefits that governmental IBR programs fail to provide. For example, they argue that human capital contracts could remove incentives for students to over-borrow, diminish law schools’ price insensitivity, and provide market data to students about the financial value of their education. But proponents of human capital contracts point out that there are legal and practical impediments to the development of a market for human capital contracts.
This Article proposes—and explores the implications of—a new model of law-school financing called an income-based repayment swap (“IBR Swap”). Under an IBR Swap, students still borrow money from a bank or the government to pay for their legal education. But students then enter into contracts with a financial institution under which the institution agrees to make the students’ loan payments and the student agrees to pay the institution a percentage of his or her income. The IBR Swap is a student’s exchange of a fixed obligation to lenders for an income-based obligation to a financial institution. The parties exchange no money upfront. The IBR Swap has all the benefits of human capital contracts, but greatly diminishes the primary practical impediment: repayment risk, and does not suffer from the same legal barriers. Thus, unlike a human capital contract or income share agreement, a market for IBR Swaps could be created with no changes to current law. However, the IBR Swap (like human capital contracts) raises concerns as well, including legal, distributional, and ethical ones. This Article presents the IBR Swap in order to incite critical consideration of both the potential and the limitations of private-market mechanisms for law school finance. As such, it should advance assessment of what is the most impactful role for the government in ensuring access to law school.