By Divyam Goel. Edited by Sorenson Impact Center staff.
There are more offerings than ever for students considering Income Share Agreements (ISAs) as an alternative to traditional student loans. And students are signing up. Purdue University’s Back-a-Boiler ISA has dispersed almost $18 million in funding since launching in 2016.
The increasing popularity and visibility of ISAs has been met with some criticism and confusion in recent years. While some uncertainty remains, a decision from the Consumer Financial Protection Bureau means there are more protections for students seeking private ISAs.
How ISAs work
ISAs are an agreement between a student and a financial provider in which the latter will finance the student’s degree or other credential in exchange for a payment over a fixed time period after completion. The payment is adjusted to a percentage of the student’s post-graduation or post-credential income. In other words, a student such as myself could get my tuition paid for and I would owe the ISA provider a monthly payment that is adjusted for how much my monthly salary is after graduation.
This all adds up to the ISA provider, sometimes the student’s institution itself, taking on some of the downside risk compared to a traditional student loan. But for students who end up commanding high salaries, an ISA could cost more than a traditional loan. The upside is that if a student’s post-graduation or post-credential earnings stay below a certain threshold, they can pay less than the amount of the initial ISA and finish their contract in the capped payback term. If their salary falls below a certain threshold, they may not owe any payment at all.
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For students and their families, the financial implications of an ISA can still be difficult to decipher. Significant worries stem from the essential question of classification—“what exactly is an ISA?” Explainers have pointed out that ISAs are less regulated than loans. Until recently, that appeared true across the board. The recent decision from the Consumer Financial Protection Bureau (CFPB), however, “sends a clear message to the ISA industry” by resolving the question of classification for some ISAs, but not all.
Private ISAs are loans
Student loans are relatively well understood and well regulated. There are protections for borrowers like mandatory disclosures, no prepayment penalties, even a potential to discharge debts through bankruptcy. The novelty of ISAs, given their unique income-based repayment and lack of a straightforward interest rate, meant that the ISA industry largely adopted a stance that ISAs are not technically loans. But leaving ISAs in a poorly regulated middle ground didn’t make them any safer an option for students.
Until the CFPB decision, private ISA provider Better Future Forward had taken the common stance that ISAs are not loans. The CFPB disagreed. Now, for regulatory purposes, private ISAs that distribute funds to a student or on a student’s behalf are considered loans. Providers of private ISAs are “required to provide disclosures that comply with federal consumer financial law, eliminate the prepayment penalties, and stop misleading borrowers.”
What does this mean?
For students seeking private ISAs, the CFPB decision means they can count on the same protections granted to traditional student loan borrowers.
For private ISA providers, the CFPB decision means disclosing information they may not have been calculating or tracking. Some ISA providers are still struggling to adapt, while others were more ready or even welcomed additional regulation.
Jim Courtland, CEO of Outcome Group (an ISA provider), found the CFPB’s decision timely. Months before the CFPB consent decree, an Outcome Group blog post spelled out borrower-friendly reminders that “from a cost-of-borrowing perspective, the timing of payments matters,” and explained how their contractual APR caps help borrowers “predictably prepay their ISA obligation” at any time.
For ISAs that don’t involve exchanging money with students or institutions by third parties at the outset, the picture remains less clear. When institutions provide their own ISAs, money may not change hands or accounts. These ISAs may be considered a notional credit sale rather than a loan, leaving it in a more complicated regulatory framework that varies by state.
Despite the lack of clarity for some institutional ISAs, applying the existing regulatory environment for loans to private ISAs is a welcome development for students and the industry. The conditions that made ISAs an attractive innovation—the student loan crisis, educational access, and questions about the value of higher education—aren’t going anywhere. And many more solutions are needed to solve the problem of postsecondary funding in the United States.