Income Share Agreement vs Student Loan for Funding Your Education

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When it comes to funding your education, there is a new alternative to student loans. Enter the Income Share Agreement (known as an ISA).

The ISA is gaining traction now because of the student loan crisis sweeping the nation, but it actually is not a new idea. The idea originates from Milton Friedman in his 1955 essay titled, “The Role of Government in Education.” Friedman argued that education should be funded through an equity investment – not through debt.

What is an ISA?

An Income Share Agreement can be used to fund college as an alternative to student loans. Specifically, an ISA is an agreement between an entity (investor, bank, employer, etc.) and a student wherein the investor gives money to the student to pay for college in exchange for the student promising the investor a percentage of his income, for a set period of time, after graduation.

In order for ISAs to have the mainstream effect that student loans have, there arguably needs to be more regulatory structure in place. Sen. Marco Rubio and Rep. Tom Petri introduced ISA legislation last year. And just last summer, Rep. Todd Young and Rep. Jared Polis introduced additional legislation developed by Gov. Mitch Daniels that would create legal framework for ISAs.

It is yet to be seen what laws will help support using ISAs, but ISAs have been introduced in Washington.

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How is an ISA different than a Student Loan?

Unlike student loans, the repayment of an ISA would be entirely dependent on the student’s income. Meaning, the repayment would be a set percentage of the student’s income after graduation would not depend on a principal balance or interest (like a traditional student loan).

For example, if you take out a $50,000 student loan with a 5% interest rate, you have to pay that loan amount back, plus interest. With an ISA, there is no loan balance or interest. Instead, you as the student negotiate with the investor who finances your education as to the percentage of income you will give to him and for how long after you graduate.

ISAs are more of a gamble for investors than student loans because the investor is hoping to get more money back (assuming you make a high income after you graduate), but run the risk of not getting the money they invested back in full (if you make a smaller income post graduation).

ISAs are agreements between a private, for-profit entity investor and a student. With a private student loan, you have a similar relationship to a private lender. However, if you take out federal loans, the relationship is very different. With federal loans, there are options for forgiveness, forbearance, etc. An ISA would not have any of these government options.

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How to Get an ISA?

There is a push to increase the use of ISAs because of the student loan epidemic right now. ISAs are viewed as a possible alternative to financing education without getting into debt.

While ISAs haven’t taken off rapidly yet, some students are already using ISAs to fund college.

Two companies that currently offer ISAs are Upstart and Pave (here is an interview with Pave CEO about ISAs). As a student, you may be able to enter into an agreement whereby you are given money to fund your education in exchange for promising to pay a percentage of your income to the company after you graduate from college.

To find more companies that offer ISAs, you have to search pretty hard right now. That may change over time as ISAs gain popularity. So far, it is private companies that are offering ISAs (similar to a company that offers to refinance your student loan in that it’s a private company that you are making a contract with).

The specifics as to how you can be approved and qualify for an ISA for a particular company will depend completely on the company’s terms and requirements. As ISAs become a more readily available alternative (and as legislation is passed), the structure through which you can apply and qualify for an ISA may become more standard.

If you are interested in using an ISA as an alternative to funding your education, consider researching various companies that offer ISAs and comparing what you would likely repay with a student loan to what you would promise to pay as a percentage of your income. It will be more difficult to determine what your overall cost will be of an ISA because you can’t predict, for certain, what your income will be after graduation. However, you can consider your projected career path and the average incomes in that field as an estimate.

[How to Set Up Income-Driven Repayment Plans]

ISAs May Still Be Elusive

ISAs are an alternative to student loans that allow the student to borrow money from an entity (investor, bank, employer, etc.), and in return pay a percentage of his income to the entity after graduation for a specific amount of time (the student does not have to repay any principal or interest).

One criticism of ISAs is that it would benefit investors to invest in students attending top universities and those who are likely to be high earners. If that were the case, this would not help the student loan epidemic for the middle class. But for students getting professional degrees, ISAs could be a real solution to their education financing problems.

While there is hope that ISAs will reduce the burden of student loan debt, it is yet to be seen what the true impact will be.

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