This week, Indiana’s Uniform Consumer Credit Code will be amended to exempt state higher-education institutions from having to comply with key consumer protections. The change is so subtle that it has not drawn much attention, but it has huge implications for Indiana students who sign up for “income-share agreements” (ISAs). These contracts commit a student to pledging a proportion of future income in exchange for money to pay for college. Schools like Purdue University, and the private lenders and investors that it partners with, will no longer be required to comply with many of the rules that apply to other lenders in Indiana.
People outside of Indiana should pay attention, too. Former Indiana Republican Governor Mitch Daniels, now president at Purdue, has been an enthusiastic backer of income-share agreements, and has advocated to Congress for their widespread adoption. And income-share agreement advocates, including Daniels, are pushing similar rollbacks of consumer protections at the federal level and in states across the nation.
They are using a familiar playbook: Just like payday loans, auto title loans, and other “alternative debt products”unveiledbefore them, ISA lenders are creating debt instruments and then convincing policymakers to roll back the rules that keep consumers safe from exploitation, based on immaterial or specious distinctions between their product and traditional loans. Lawmakers should heed the mistakes made in other areas of predatory lending before rushing to replace existing consumer laws covering ISAs with industry-friendly rules.
Despite marketing that claims ISAs are “not a loan,” lack an interest rate, and align the interests of the college and the student, ISAs operate like traditional private loans. They are often funded by private investors, require repayment in all but the most dire circumstances, and include draconian consequences for default. Yet industry proponents argue that ISAs are distinct and novel, requiring a new regulatory scheme—crucially, one that does not include key consumer protectionsthat cover traditional loans.
We’ve heard this story before. The payday lending industry, for example, refers to their product as a “cash advance,” not a loan, promising aid to individuals who need a short-term cash infusion to make it to their next paycheck. Payday lenders argue that the availability of short-term credit is a valuable public service, and that its short-term nature necessitates different treatment from other loans. These industry arguments have, in general terms, worked: For decades, policymakers in the majority of states helped the payday lending industry flourish by providing exceptions to state usury laws and other legal benefits. For consumers, the results have beendisastrous, with average APRs just under 400 percent that trap borrowers in a cycle of debt. After decades of exploitation, legislators are still struggling to undo the damage and restore borrower protections.
The legislative agenda for ISAs echoes the deregulation of payday lending. Using a similar rationale of “creating a market” and “offering clarity” for investors, legislators are putting forward plans that remove major protections for consumers while sanctioning the use of exploitative terms. For example, afederal bill, the Kids to College Act (H.R. 1810), which may soon have a Senate companion, exempts ISAs from state usury laws and state regulation of wage assignment. It also assures lenders favorable treatment under a variety of other federal laws, including the Bankruptcy Code.
Changes such as the new Indiana law and the Kids to College Act’s proposal open the door for future ISA lenders to offer exploitative terms, and the actions of current income-share lenders give us reason to believe that they will walk through it. ISAs are already misleading students in their marketing. For instance, they claim that they carry no interest, but borrowers may very well pay back far more than they borrow. That effectively counts as interest.
Additionally, marketing materials assert that borrowers need not make payments if they do not meet a minimum income threshold, but that obscures the very real possibility that they may not be able to meet their monthly obligations even if they do make the minimum income. The fact that trusted colleges are often the messengers extolling the benefits of income-shares leaves students even more vulnerable to signing away their rights without fully understanding what is at stake. And financiers who profit from these arrangements are all too happy to hide in the shadows while friendly college administrators serve as ISA pitchmen.
College students need help from policymakers. The structure of America’s higher-education system puts a high price on college, forcing too many students to take on debt they cannot repay. If legislators really want to help students, they should focus on the basics: fighting for increased investments in public higher education, rebalancing power between employers and workers in the labor market, and alleviating the burden of student debt. As for ISAs, it is time toenforce current law instead of inventing carve-outs that protect banks, not borrowers.