Can Donald Trump end America's $1.8 trillion student-debt nightmare?

Mint

02-07-2025

In recent years, America's student-loan policy has come to resemble an alphabet soup. During the covid-19 pandemic, relief came from the CARES, ARPA and HEROES acts. Repayment plans ranged from the appropriately named (SAVE and PAYE) to the less so (PSLF and TEPSLF). Even seasoned bureaucrats at the FSA will have struggled to keep track. Owing to these various policies, some $189bn in student debt was forgiven, and more than $260bn of payments waived.
Such relief may have been welcome at the time, but America is now waking up to reality. The last of the pandemic-era forbearance ended in September 2023; defaults began to appear on credit records in the first quarter of this year. And the picture that is emerging is not pretty. Delinquencies have spiked (see chart 1). According to TransUnion, a credit-reporting bureau, some 21% of federal student-loan borrowers are in default, the most ever, up from 12% in February 2020. More difficulties may lie ahead. On May 5th President Donald Trump instructed the Treasury to resume collections from borrowers in default; by the end of the year loan forgiveness, which often occurs automatically after two decades of repayments, will once again be taxed at a federal level.
America's repayment woes are the culmination of a trend that has been building for decades. In the 20 years before the arrival of covid, student loans were among the fastest-growing forms of household borrowing, having swollen from 10% of non-mortgage debt in 2003 to 33% by 2020 (see chart 2). By 2010 they had overtaken credit cards and car loans as the largest single slice of household liabilities. By 2012 they led in delinquencies, too. When covid struck, student debt was an obvious—if controversial—option for federal relief.
The Biden administration's acronym barrage stopped delinquencies from rising still further. Defaults on federal student loans fell to nearly zero, and monthly payments to the Treasury more than halved. At the same time, the debt burden continued its relentless upwards march. The federal student-loan portfolio has grown to $1.8trn; the average borrower balance sits at $40,000, according to the Education Data Initiative, a research group.
If the picture appears bleak for America's graduates, it is bleaker still for Uncle Sam. Student lending was once profitable for the federal government. Now it loses 25 cents on every dollar lent. All told, officials expect their student-loan portfolio to cost around $450bn in the next nine years.
Why the shortfall? Graduates are doing worse, and so are less likely to repay their loans. They are also more likely to have borrowed for postgraduate courses, a growing number of which seem to provide poor value for money. Yet perhaps the most important factor is an underappreciated one: a shift from fixed repayment schedules to income-driven plans (see chart 3). Although these take various forms, with different repayment schedules, payment periods and more, all set payments as a share of wages. First introduced in 2009, such plans have surged in popularity and now account for 56% of outstanding federal-student-loan balances. For borrowers, they offer the promise of payments that are less likely to become unmanageable. For taxpayers, though, they are a burden. According to the Congressional Budget Office, a watchdog, the government earns a return on most fixed-repayment loans, but loses money on every dollar lent via such flexible options (see chart 4).
In part, this may reflect adverse selection: borrowers who expect low wages are more likely to opt into an income-based plan than those confident of high salaries. Australia and England avoid this dynamic by mandating a single repayment structure. However, America's income-driven borrowing plans are also expensive for the taxpayer by design. Balances are forgiven after 20 or 25 years, regardless of the repayment progress, compared with a 40-year write-off period in England. And the required payments, which can be as little as 5% of discretionary income, were lowered by the Biden administration in lieu of outright debt forgiveness.
If there is a glimmer of hope, it may lie in—of all places—Mr Trump's free-spending 'Big Beautiful Bill', which is currently making its way through Congress. The versions drawn up by the House of Representatives and Senate may differ, but they share the makings of sensible student-loan reform. Rather than maintaining the Biden administration's alphabet soup, the draft legislation proposes a streamlined system where students can choose between two options: fixed or income-driven. This would reduce administrative costs and limit carve-outs that are currently to the advantage of everyone from married couples to public-sector workers.
There is bipartisan consensus on another front: the need to hold universities to account for how well their students do upon leaving campus. Both bills include penalties for colleges that produce graduates with low earnings relative to their debts. And both take steps—albeit cautious ones—towards curbing runaway balances for graduate students. Although such students represent just a fifth of borrowers, they account for half of outstanding debt. Much of that reflects pricey tuition at law and medical schools, where subsequent salaries often justify the cost. But a growing share stems from expensive, low-value courses that arguably should not qualify for federal lending.
Both bills, to be sure, have room for improvement. For example, some of the accountability measures do not adequately target shorter courses that are often money-spinners for colleges; their loan limits for graduate students may be too stingy for those studying for professional qualifications. And even if the legislation rightly limits costs for the government, whatever emerges will be tougher for many borrowers. Yet streamlining repayment, limiting borrowing and cracking down on predatory courses could be a rare bipartisan achievement. After decades of drift, America's student loan system may at last be approaching a graduation of its own.