Have you heard of the income driven student loan repayment plan called Revised Pay As You Earn (also known as REPAYE)? You need to know. Maybe you’ve done a consult with me or used my student loan calculator and realized that Revised Pay As You Earn is often really awesome. Apparently a lot of other people have noticed too. Since the beginning of the 2nd quarter of 2016 to the end of the first quarter of 2017, Revised Pay As Your Earn (REPAYE) usage has soared 61,700% to 1.23 million borrowers.
REPAYE Has Seen the Fastest Growth of Any Income Driven Repayment Plan… EVER
[clickToTweet tweet=”Last year, about $100 million in student loans were on REPAYE. Now it’s at $61.8 billion.” quote=”Last year, about $100 million in student loans were on REPAYE. Now it’s at $61.8 billion.”] That’s by far the fastest adoption rate of a student loan repayment plan that we’ve ever seen.
The only valid comparison point would be how fast people adopted Pay As You Earn (PAYE), the predecessor of the Revised Pay As You Earn program. When PAYE came out, it allowed 10% of income to go towards student loans instead of the old Income Based Repayment plan’s requirement of 15%.
Even though PAYE is also good, Borrowers Haven’t Adopted it Nearly as Fast as REPAYE
PAYE also allowed for loan forgiveness in 20 years instead of 25. Clearly, PAYE is a better program than IBR, so you would have assumed everyone eligible for it would’ve switched. I would’ve guessed that PAYE adoption would’ve been super fast since it was obviously a superior program.
However, the growth in REPAYE just makes PAYE look like a lousy program nobody cared about. Look at the graph of total debt under each program since 2013. Keep in mind REPAYE didn’t begin until December 2015.
REPAYE is Now the Second Most Popular Income Driven Repayment Program, Second Only to IBR
The Revised Pay As You Earn program still lags behind the clear leader in the income driven repayment field. That’s Income Based Repayment (IBR for short). Right now there are 3.04 million borrowers on IBR. There’s also about $172.5 billion on the number one student loan repayment plan. However, PAYE has only $52.3 billion on the plan and 1.06 million borrowers. That now puts IBR in the lead, REPAYE next, and PAYE in third.
Fewer People Are Using IBR Every Month
However, the Department of Education numbers are notable in that the number of borrowers using IBR is going DOWN. Yes, that means fewer individuals now pay 15% of their income to student loans and more pay 10%.
I expect that borrowers react rationally, and in the face of a more generous federal student loan program, people make the switch. At first, it might just be early adopters and prolific readers of student loan and personal finance sites like Student Loan Planner. Then, advisors, accountants, financial aid officers, and the media start doing their part to make individuals aware of the REPAYE program. Finally, awareness becomes widespread and adoption rates accelerate. I think we’re in the second stage of the REPAYE growth process. I imagine we’re a few years away from having the millions of individuals who are on IBR make the switch to REPAYE.
What Makes Revised Pay As You Earn so Special?
REPAYE has an interest subsidy built in that IBR and PAYE do not have. If a borrower fails to cover his or her monthly interest with the monthly payment and they use REPAYE for their repayment program, the government covers half of the remaining amount.
Yeah Interest Subsidies Are Pretty Sweet
For example, pretend you had $100,000 in student loans at a 6% interest rate. Your yearly payment is $2,000. The yearly interest is $6,000. The difference between those two numbers is $4,000. So under REPAYE, the government pays $2,000 of the interest and $2,000 goes towards your accrued interest balance. Under IBR, you receive $0 from this interest subsidy.
And You Get Lower Payments
Also, Revised Pay As You Earn allows for 10% payments based on income in contrast to IBR’s 15%. When pared with the interest subsidy benefit, a lot of people pay less on REPAYE but have slower growing student loan balances than on IBR. That’s a powerful incentive to switch.
What if REPAYE Gets Repealed?
The Revised Pay As You Earn plan is an executive order from the Obama administration. If Pres. Trump and Sec. DeVos fancied getting rid of it, the could. Why would these numbers make anyone using the plan a lot less nervous about the repeal of REPAYE?
Regardless of your political persuasion, it’s clear that federal programs and benefits are much harder to change when a ton of people are using them. Take a look at Medicare, Medicaid, the ACA, and Social Security. REPAYE has added so many borrowers so fast that by the time lawmakers in DC that could be opposed to it get focused on it, I fully expect more than 2 million borrowers with over $100 billion in loans to be using REPAYE.
[clickToTweet tweet=”REPAYE usage could surpass IBR before the federal government does anything.” quote=”REPAYE usage could surpass IBR before the federal government does anything.”] That means I expect we’ll see a hemorrhaging of borrowers from the IBR plan to the REPAYE plan over the coming year.
Who Should and Shouldn’t Make the Switch to REPAYE?
If you’re going for Public Service Loan Forgiveness, then you might not qualify for PAYE. If you’re making too much, then you need to take into account the cap on payments. Perhaps you also file taxes separately to maximize your forgiveness benefit. Another reason is that you have too much accrued interest that would capitalize with the switch. Those might be examples of individuals who need to remain on IBR.
Sometimes Sticking with PAYE Can Still make Sense
Another might be a borrower who has run the analysis that I perform for clients and discovers that she will be better off with PAYE on a mathematical basis. She decides to stay on this plan, expecting forgiveness after a 20 year period while saving for the tax penalty.
However, many of the more than 3 million borrowers still using the Income Based Repayment plan would be better off on REPAYE.
Get Help Running the Numbers to See if You Should Be Among the 1.23 Million Now Using REPAYE
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Call me skeptical but these PAYE, REPAYE, and IBR programs shouldn’t be relied upon as the solution for a high student loan bill. First of all, there is something logically unsafe about relying on someone to bail you out, especially when that said someone is the one who got you into trouble in the first place. Secondly, many people don’t seem to understand that these so-called ‘forgiveness’ programs come with a massive tax bomb at the end, in addition to the 25 years or so of 10% of your salary. When you add that up, you are still paying subtantially more than your original loan (not accounting for inflation, of course), while under financial duress all that time AND the rules are subject to change at any moment in a congresssional act or executive order. Seems like a sure train wreck to me.
I keep on hearing some people think that they can manage these debts and invest in a broad market fund and still come out ahead. That idea is based on many unsound assumptions. First, the market while generating an average 8% return over the last 60 years has had periods of bear markets. Now imagine your investment in this just before the tax bomb. Secondly, past performance is no indicator for the future either and what if the broad market trend for the next 25 years is only 5% return or so, while your student loan interest rate remains at 7%? And finally, many people forget that there are costs for investing, like brokerage fees, dividend taxes, long-term capital gains taxes, and early withdrawal taxes from IRA accounts if you are planning to use these as vehicles for the investment. Too many variables to account for to try and ‘manage’ debt and grow wealth.
The only sure way to grow wealth is to not have debt and avoid getting into debt where your income:debt ratio is completely off the charts.
I agree in most cases that is true, but one thing I do during consults is deliberately assume a low rate of return. In fact, 5% is my default assumption. If you adjust for inflation, in many cases after assuming a big tax hit you’re paying less than what you owe. If your debt to income ratio is above 3, it’s often significantly less than what you owe. That’s also not taking into account the future impact of mass tax defaults and what that’s going to do to federal policy. I’m not saying it’s good to rely on these income driven programs, but when you owe $500,000 and have to decide between saving for retirement, emergency fund, etc. it’s a decision that isn’t as black and white as a Dave Ramsay get out of debt type approach
Or just not get into these student loans at all for a degree that doesn’t pay for itself.
That’s always a choice. Its a choice of whether to buy an education that pays for itself or gets you into a situation where you are a wage servant for the rest of your adult life. People can choose.
I am as indignified as anyone at the outrageous tuitions charged by these institutions but at the end of the day people voluntarily put their names on that dotted line. There should be a sense of moral and fiscal responsibility before doing so and making a committment to paying back the money that you voluntarily borrowed. To try and rely on bailouts and forgiveness is not only contrary to the spirit of responsible borrowing but also further encourages irresponsible behavior. No one has to be a dentist or a medical doctor, it’s a choice.’