Debate: Are Student Loan Interest Proposals Fair?

Two professors discuss whether ending student loan interest capitalization in certain situations is a good idea.

Student loan deferments and forbearances are granted under many different scenarios. In most, however, interest on the loan continues to capitalize even during the time when the student loan borrower is not making payments under an approved agreement.

Borrowers enrolled in income-based repayment plans often make monthly payments that are not large enough to cover all of the interest that has accrued during the period, which also leads to interest capitalization.

Now, proposals have been floated to end interest capitalization under certain situations, including when borrowers resume repayment. The new rule, if adopted, would apply prospectively only, instead of providing retroactive relief.

We asked two professors and authors of ALM’s Tax Facts with opposing political viewpoints to share their opinions about ending interest capitalization on student loans in certain circumstances.

Below is a summary of the debate that ensued between the two professors.

Their Votes:

Bloink
Byrnes

Their Reasons:

Bloink: The current rules are patently unfair to student borrowers, who continue to accrue interest in a period of deferment or forbearance. We allow borrowers leeway in repaying student loans in extreme circumstances, such as when the borrower has lost their job and is unable to make payments.

The current interest capitalization rules punish borrowers for taking advantage of legitimate deferral programs.

Byrnes: We provide student borrowers with much too much leeway as it is. These are the very borrowers who have enjoyed the benefit of higher education and chosen to finance that education.

If we were talking about any other type of debt, the borrower wouldn’t be given the option to not repay their own debt in certain situations.

Bloink: Some borrowers are forced into situations where they end up owing more on the loan than they originally borrowed. How does that happen? Through interest capitalization. If we’re going to offer student borrowers valid ways to pause their student loan payments, we shouldn’t penalize them for taking advantage of those valid arrangements.

Byrnes: By ending student loan interest capitalization, we’re talking about punishing lenders even more by not allowing them to recoup interest during periods where the loan remains outstanding.

If we’re going to allow student loan borrowers to take advantage of forbearance and deferrals, they should have to pay the price — which currently comes in the form of increased interest accrual.

Bloink: We should be working to make student loans more affordable for ordinary Americans. Ending interest capitalization won’t necessarily be a game changer for every borrower who takes advantage of deferment or forbearance options.

However, over the life of a loan, people with high student loan balances could see significant savings. We should be doing everything possible to make student lending as fair as possible, and ending interest capitalization is a step in the right direction, even if it won’t completely fix the system.

Byrnes: Ending interest capitalization in most cases would make it more difficult for lenders to justify making these loans in the first place. We provide student loan borrowers with option after option so that they can make required payments on their loans.

We also need to consider the lenders who are extending this credit in the first place. These loans earn interest and that’s the primary way student lenders make money so that they’re able to continue extending these loans.

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