A New Way to Pay for College

What is a college degree worth? It’s tempting to provide an answer. Unfortunately, most of the journalism devoted to the subject comes up with the same non-answer: Going to college makes more financial sense than not going to college.

That argument rests in the notion of a “college wage premium” – the difference between what is earned by college graduates and high school graduates. Thomas Frank writes for Salon:

“[I] you examine [this idea] . . . it becomes clear that someone who finishes four years at a university will eventually earn far more than they spent to go there, even at the crazy tuition prices of recent decades. Today this is a univeral way of considering the situation, always leading us to conclude that going to college is “worth it”; that it is a “bargain”; that it “pays off.”

But it only seemed to enter journalists’ consciousness in the 1990s, as on the occasion when Gaston Caperton, president of the College Board, explained matters thusly to the Los Angeles Times in 1999:

“He said there has been too much focus on the cost of college and too little on the lifetime returns for four years of investment. Because a college graduate today earns about twice as much as a worker with only a high school diploma, he said, ‘a college education is worth about $1 million over a lifetime.’ ”

Well at least we now have a dollar figure! Unfortunately, that also tells us next to nothing. That million-dollar prize is nothing more than an average, spread across degrees ranging from Art History to Chemical Engineering, from colleges as disparate as Harvard to the University of Bridgeport, and from graduating classes spread from the booms of the mid-aughts to the lows of the recession.

Unfortunately, the student loan system we have now takes none of these factors into account. Students can borrow up to $57,500 in federal Stafford loans, plus however much you can wrangle from a private lender, and if you’re in graduate school you can receive a PLUS loan up to the cost of attendance. For parents the limits are even less stringent – they can borrow up to the cost of tuition after a simple credit check.

At no point does anyone stop to consider the likelihood that the student will have the financial wherewithal to pay any of this back. That means some graduates are laboring under student loan debts for the rest of their lives and their parents, many of whom mortgaged a home, are seeing the bets they made on their children go bust.

But while graduates stress about how to make their next payment, and parents worry about their credit score, colleges are simply left off of the hook. Instead, they blithely continue to raise their tuition prices (and thereby increase student indebtedness) under the smug notion that the investment, on average, was a bargain for some people.

Fortunately, some enterprising entrepreneurs are attempting to find a new way. Kate Bachelder reports for the Wall Street Journal:

Here’s [Miguel Palacios’, an assistant professor of finance at Vanderbilt University] solution in a nutshell: Suppose an industrious young person wants to get a degree at a top university but needs about $50,000. Under an income-share agreement, the student promises an investor a certain percent of his income over a fixed period in exchange for cash. The agreements are not loans, and there is no outstanding balance. Students who earn more pay more, and students who earn less pay less.

Mr. Palacios has seen these income-share agreements in action and thinks they can revolutionize higher education. The startup he co-founded in 2002 with entrepreneur Felipe Vergara, called Lumni, has funded nearly 5,000 students in five countries. In April Sen. Marco Rubio and Rep. Tom Petri, both Republicans, introduced legislation that would give income-share agreements the legal and regulatory clarity to flourish in the U.S.

Interestingly, he got the idea from mercurial rockstar David Bowe, who financed an album by selling shares of future revenues. That financial arrangement is also present in the movie industry where studios will court stars for risky pictures by promising them a share of the gross rather than a big upfront salary.

The impact of introducing this simple market force into the college experience could be revolutionary. Students would be given a clear signal as to what degrees are worth pursuing. Students at colleges that are deemed valuable would be given the better contracts, which would provide students at lower-valued colleges the leverage they need to negotiate reasonable tuition prices. The structural mismatch of the current workforce, which is prolonging the recovery and spurring long-term joblessness, could be eased. And because the contracts could be for a fixed percent of income rather than a fixed amount, graduates could be liberated from the fears of default.

Finally, after years of asking the question, it wouldn’t be up to colleges or journalists to decide what a college degree is worth, investors and students could price it for themselves.