What Congress Can Learn from Income Share Agreements

While most lawmakers agree that more aid is needed, judgements about who exactly is in need vary substantially. In this respect, Congress can learn a key lesson from income share agreements (ISAs), an innovative student financing option that links payments to borrowers’ financial capacity. By providing an income-contingent bridge loan to American families, Congress could vastly expand access to relief funds with minimal strain to the fiscal budget.

Learning from higher education finance

Like most forms of government aid, federal student financing tools are means-tested before the financing is disbursed. The amount of grant and loan financing a student can access depends on their parents’, or their own, financial circumstances. In other words, we decide up-front who needs assistance and allocate resources accordingly.

While ex-ante means-testing is a valid approach, it also has shortcomings. Some in-need students may receive large amounts of grant funding and continue on to prosperous careers in investment banking. Other students from middle-class backgrounds may struggle to pay down student debt while working in public education or another high-impact but low-paying career.

Who “deserved” the grant funding more? Ultimately, deciding which students best qualify for a limited amount of grant and subsidized loan funding may boil down to ideological views. But it is a mistake to allocate government assistance — whether higher education financing or Covid-19 relief — on purely ideological grounds. Rather than judging who deserves aid now, we should design a system that adaptively allocates financing towards those in greatest need as their situation evolves.

Smart policy design for a Covid-19 aid package

To understand how this might work for a Covid-19 aid package, let’s take a dive into how income share agreements are structured in the context of higher education. Under privately offered ISA programs, students can access financing in return for a fixed share of their income over a predetermined period. If graduates earn below a certain income threshold, they don’t make payments. Annual and total payment limits constrain how much higher earners must pay. Once an ISA contract expires, borrowers are released from further financial obligation regardless of how much they paid.

Linking payments to borrowers’ financial well-being carries profound implications. Unlike student loans, ISAs all but eliminate need-based defaults. Also, since ISAs don’t accrue interest, there is no penalty to low-earners who defer payments. And, even high earners can take advantage of the income threshold in the case of job loss or unforeseen circumstances.

Importantly, ISAs means-test the degree of financial need on an ongoing basis; financial obligation is assessed based on students’ professional outcomes and circumstances, not on their parents’ backgrounds. While high-earners will pay more than their peers, students who encounter challenges in building their careers may pay very little, or nothing at all, over the course of an ISA, implying a functional equivalent to grant funding in the cases of highest need.

So, how does this relate to the debate over renewed aid for American families as the COVID-19 pandemic intensifies? The critical advantage of ISAs is that they remove the need for decision-makers to make life-changing judgments about who deserves aid now. Building on this idea, Congress could offer emergency funds to any American household who needs it through an income-contingent bridge loan facility.

Under this policy, participating households will receive emergency funds and agree to pay a fixed percentage of their income up to a maximum amount over the period of roughly one business cycle. Households that are able to get back on their feet will make payments once their household income exceeds a minimum level. For other households who continue to struggle financially, no payments are necessary, ensuring that repayment doesn’t constitute an additional burden during difficult times.

An income-contingent bridge loan is different from other forms of aid currently available, since the degree of repayment (if any) is determined by the ongoing circumstances of individual families. Households can access funds through a government lending program with built-in protections and knowable bounds on total payment, as an alternative to racking up credit card debt or other forms of private consumer debt.

For families who bounce back quickly as the economy recovers, the bridge loan may be a short term necessity. But for individuals whose livelihoods may never return to the status quo, an income-contingent bridge loan means they can pay rent and put food on the table now without fear of incurring endless debt.

The proposed loan facility is attractive from a policy standpoint as well. With negotiations deadlocked over the scale and target of additional aid, an income-contingent loan facility reaches Americans in need now while also maintaining fiscal responsibility. While the ultimate scale of repayments depend on the as-of-yet unknown financial futures of American households, it will certainly be more fiscally affordable than a grant-based policy of similar scale.

While a bridge loan should not replace unemployment insurance and other forms of federal aid, it is a crucial opportunity to get more resources to American households now without further ballooning the federal budget deficit. Rather than continuing fruitless partisan debates about the scale and target of additional grant-based aid, a bridge loan can be made widely available without widening an untenable budget shortfall with long-run consequences.