Income Driven Repayment Plans: 88% Don’t Know How They Work

August 20, 2020

By Joseph Reinke, CFA, Founder of FitBUX

“Income-Driven Repayment” In Context

Income-driven repayment plans are the fastest growing student loan plans in the country. Below is a chart that highlights how fast they have grown as well as how much they are now dominating the student loan industry.

Income-Driven Repayment Plans Are the Fastest growing plans in the industry

Income-Driven Repayment Plans Are Extremely Confusing

Just to illustrate how confusing these plans are, the term “Income-Based Repayment” is what most students, new grads, and industry professionals call these plans.

However, “Income-Based Repayment” (IBR) is actually the formal name of only one Income-Driven Repayment plan offered by the government. The term IBR should not be used as a “catch all” acronym when discussing Income-Driven Repayment plans.

To make things even more confusing, the government offers a total of 5 different Income-Driven Repayment plans: PAYE (Pay As You Earn), REPAYE (Revised Pay As You Earn), IBR (Income-Based Repayment), IBR for new borrowers and, lastly, Income-contingent Repayment).

How ‘Income-Driven Repayment’ Became The Fastest Growing Segment

In general, a great (albeit incomplete) sales pitch…

Picture this: You are a new grad and you are told your standard payment is $750 per month if you remain on the standard 10-year Federal student loan plan.

But, then you are told that you qualify for a 20-year plan with the following characteristics:

  • Your monthly payment would only be $150 per month.
  • Your payment would be tied to your income. Therefore, if your income goes down so does your payment. Thus, your student loan payment is always affordable.
  • THE KICKER…at the end of 20 years, whatever you still owe is forgiven by the government.

That is the tip of the iceberg and is what loan servicers tell new grads. The bottom of the iceberg…potentially ugly implications that most borrowers don’t know about.

There are two main caveats missing from the “sales pitch” above:

  • The monthly payments aren’t actually enough to cover the interest on the loans. Therefore, the loan balance (what they owe) will keep increasing day after day, and
  • People on IDR plans will owe taxes on the amount forgiven at the end of their plan.

To make things worse, most people new grads go to for help aren’t equipped to help them.

This is important to understand because there are two key places new grads go to for help:

  • Financial Aid Officers: These individuals are not financial experts. There primary purpose is to help students secure loan(s), not instruct them how to pay them off.
  • Student Loan Servicers: They are not there to help figure out the optimal path forward. Their job is to collect payments for the government.

Here is the thing…loan servicers are actually instructed to tell new grads about plans that would provide them with the lowest monthly payment. These plans often times are….you guessed it…‘income based repayment’ plans.

Recent graduates who are proactive and want to understand the different repayment options will log onto the Government’s calculator and compare the costs of the programs.

However, the government’s calculator doesn’t show an estimated tax amount and some of the assumptions used are not realistic, in our opinion. (For instance, their calculator assumes a 5% annual earnings increase throughout the duration of the IDR plan. (Side note: We saw these flaws and fixed them in our IDR calculator and IDR Tax Savings Solution.)

FitBUX’s Income-Driven Repayment Survey

Having helped young professionals manage and eliminate over $1 billion in student loans, we were (and still are) astonished at the lack of understanding and planning around student loans.

Specifically, the lack of understanding when it comes to income based repayment and the tax implications.

Here are a few mind-bogging quotes we’ve heard:

“My school had someone come in to talk to us. He basically told us we are all stupid if we don’t use an income-based repayment plan. That is really all I know about them.”

“What do you mean there is a tax?”

“I wasn’t aware that my payment wasn’t enough to cover the interest so my loan keeps getting bigger and bigger.”

“Financial aid didn’t tell me anything nor did my loan servicer. I only know about the tax because of a FitBUX student loan workshop I attended.”

We kept hearing quotes like these so we decided to put some numbers around it. We surveyed approximately 550 young professionals including physical therapist, occupational therapists, physician assistants, physicians, dentists, lawyers etc…,

Survey Results

Income Based Repayment Survery

As we discussed above, the tax liability is a big component of these plans. Yet, 88% don’t know about it (those answering ‘What are IDR plans’ and ‘No, I wasn’t aware of it’). This is a ticking time bomb to put it mildly.

More Data About IDR

We’ve gathered other data points based on FitBUX’s proprietary research.

Thanks to our uniquely targeted set of data gathered from our Members and other surveys we’ve done for FitBUX Articles, we’re able to provide unique insights into the student loan crisis. Below are a few examples as to why the lower monthly payments of IDR plans are so appealing:

  • There are plenty of reports indicating that more and more recent graduates elect to move back home after graduation. One of the main reasons cited is the need to save money and use this “rent money” to pay off student loans. To put things in perspective, 37% of FitBUX’s Members have moved back home post-graduation.
  • Financial institutions heavily rely on an applicant’s Debt-To-Income ratio to assess his/her financial health. At FitBUX, we like to go a little bit deeper when it comes to student loans and use a Student Debt-To-Income ratio (SDTI) to quantify the student debt load of our members.
    1. The median gross income for all FitBUX members is $65,000 ($58,000 average) with an median of $121,000 in student debt.
    2. If one were to stay on the default 10-year plan to pay off that student debt and a 6% interest rate, the required monthly payment would be $1,343. Using the median gross income above, this represents 24.5% of gross income.

When trying to answer “is going to college worth it?, the recommended ratio is 15% or less, using a traditional 10-year plan. To stay within these recommended ratios, this means that someone making $65,000 should have $75,000 in student debt at most….

If you need help or have questions, our FREE student loan planners have helped thousands of Young Professionals manage and eliminate over $950 million in student loans. We help you develop your plan for free because planning your financial future should not cost you your financial future.

If you’d like to learn more about PSLF, a feature of IDR plans, make sure to visit our comprehensive PSLF resource page.

FitBUX student loan help, IBR, IDR, Income Based Repayment, income driven repayment, PAYE, PSLF, REPAYE, Student Loan Forgiveness, Student Loans

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