Progressive reform of English student loan system ‘impossible’

Any changes to borrowing terms likely to hit average earners hardest, warns IFS

September 20, 2021
Rubik's Cube puzzle illustrating article about changes to students loans system in the UK
Source: iStock

It is “essentially impossible” to reform England’s student loans system without hitting average earners harder than the most highly paid graduates, according to a respected research institute.

Changing loan terms is seen as a likely part of the Westminster government’s response to the Augar review of post-18 education financing in England, due to be outlined as part of next month’s comprehensive spending review.

In a briefing published on 20 September, the Institute for Fiscal Studies (IFS) says a reshaping of the loans system “now seems all but inevitable” as the Treasury seeks to reduce the costs of higher education. According to the IFS’ own estimations, 44 per cent of the value of student loans taken out by this autumn’s freshers will ultimately be paid by taxpayers, as under current terms outstanding balances are written off after 30 years, and four out of five borrowers never pay back their debt in full.

However, the IFS, which has created a calculator allowing users to look at the effects of changing any parameters of the loans system, says that it is “essentially impossible for the chancellor to save money without hitting graduates with average earnings more than those with the highest earnings”.

“Despite its many flaws, the current system does have the desirable characteristic that it is progressive: the highest-earning borrowers repay by far the most towards their student loans, and lower-earning borrowers pay less,” the IFS briefing says.

“Because the highest-earning borrowers already pay so much, any plausible way of raising more money from the system will shift costs onto borrowers with middling earnings but largely spare those with the highest earnings.”

For example, the briefing says that increasing the repayment rate on student loans “would be the most straightforward way to raise more money, but seems to be both politically unpalatable and economically misguided”.

“Counting both employer and employee national insurance contributions and student loan repayments as taxes…employees who are repaying their loans and earn above the loan repayment threshold (currently £27,295) will already pay half of any additional pound that goes towards their salary in tax once the new health and social care levy takes effect…That figure rises to 58 per cent for those earning above the income tax higher-rate threshold (currently £50,270) and 64 per cent for those who also have a government postgraduate loan,” the briefing says.

A “more realistic” alternative, the briefing says, is to extend the repayment term for student loans, potentially to 40 years, as suggested by the Augar review.

However, it continues, “the borrowers most affected by this change would still be those with high but not very high lifetime earnings. The loan term matters little for those with the lowest lifetime earnings, as most of them will in any case not earn above the repayment threshold and thus not make extra repayments. It also does not affect the highest-earning borrowers much, as most of them will repay their full loans in fewer than 30 years.”

Likewise, if the repayment threshold for loans was reduced, the lowest-earning borrowers would likely be unaffected and the most highly paid “would even end up paying less, as they would pay off their loans more quickly and thus accumulate less interest”.

A final option considered by the IFS is to reduce the interest rates on student loans. The briefing says that, prior to accounting changes introduced in 2019, “any interest accrued on student loans was counted as a receipt in the government accounts, while write-offs were only counted as spending at the end of the loan term”. Since then, however, “only the share of student loans that the government expects to be paid back with interest is treated as a conventional loan; the rest is treated as spending in the year the loans are issued.

“The higher the interest rate, the lower the share of loans that will be paid back with interest, so the higher is the amount of immediate spending that counts toward the deficit. Lowering interest rates would still be a net negative for the public finances in the long run, as the interest accrued on the conventional loan share would be lower, outweighing the reduction in spending when loans are issued. But the chancellor may be less concerned about the long run and more concerned about the next few years.”

Lower interest rates, the briefing says, would be a “a big giveaway to the highest-earning borrowers”. Nevertheless, it continues, “there is a strong case for lower rates independent of any accounting considerations. With current interest rates on student loans, many high-earning graduates end up paying back both much more than they borrowed and much more than it cost the government to lend to them.”

Ben Waltmann, a senior research economist at the IFS who created the loan calculator, said that with a series of tweaks to the loans system, “successive chancellors have painted themselves into a corner.

“The system is expensive, but there is essentially no way to raise more money from it without hitting borrowers with average earnings more than the highest-earning ones. If he wants to raise more from the highest earners, the chancellor will need to use the tax system,” Mr Waltmann said.

Times Higher Education understands that there has been interest within the government in proposals in a recent report by the EDSK thinktank to “encourage students to seek out the courses and institutions that will offer them the greatest value” by lowering the repayment threshold for loans from its current threshold of £27,295 in the newer system and changing the 9 per cent repayment rate.

The EDSK report said there should be a “tiered” system of repayment rates: 0 per cent for earnings up to £12,570; 3 per cent for earnings between £12,570 and £17,570; 6 per cent for earnings between £17,570 and £22,570; and 9 per cent for earnings above £22,570.

chris.havergal@timeshighereducation.com

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