What if there was a way to pay for your education without incurring debt?
Historically, debt-based financing options have been the primary method of funding for students in bootcamps, colleges, and other educational institutions. However, recently, student debt has reached a crisis level—around $1.6 trillion in student debt is owed in the United States. According to a 2019 study by the Institute for College Access and Success, the average debt burden for a student who graduated from a four-year college was $29,650. Moreover, the amount of people relying on debt to finance their education is increasing every year.
One of the solutions being pioneered by a variety of colleges and bootcamps around the U.S. is a financial tool called an Income Share Agreement, or an ISA. In this arrangement, students agree to pay back a percentage of their future income in exchange for the upfront funds they need to pay for their education. Students who enroll in ISAs only pay back a percentage of their future income if they earn over a certain amount after graduation. The students who do not succeed—that is, they earn under the minimum income threshold or don’t find a job—pay nothing back toward their ISA. ISAs are being used as an alternative to student debt, which has various fiscal and emotional impacts on borrowers, and varying effects on the economy as a whole.
What Schools Already Offer Income Share Agreements?
Perhaps the most prominent ISA program in the coding bootcamp space is through Lambda School. Lambda School provides students with high-quality, nine-month courses in various areas—for example, iOS development and full stack web development. Further, they offer students hands-on career support to help them get hired. In exchange, students agree to pay back 17 percent of their income for the first two years they are employed—but only if they earn over $50,000 per year. If a student is really successful after graduation, the maximum they will ever pay is $30,000, after which their ISA will be complete. Students can also elect to pay $20,000 upfront, rather than sharing their future income.
Other prominent ISA programs include those offered by Kenzie, Flatiron School, Make School, Thinkful, and Holberton School.
Income Share Agreements are also being used in higher education. In 2016, Indiana’s Purdue University launched their “Back a Boiler” ISA fund. It allows students to borrow the money they need for college in exchange for a percentage of their future income. Students of any major can agree to share between 1.73 percent and 5 percent of their monthly income over a period of time in exchange for the money they need to finance their education. Students can borrow $10,000 per year, but they will pay back no more than 2.5 times the initial amount borrowed. Lackawanna College, Messiah College, and the University of Utah are among dozens of other universities currently exploring income share agreements.
Income Share Agreement Pros
Income share agreements have a number of advantages for students. The most important benefits ISAs offer are incentive alignment, increased access to education, and movement of risk from students to institutions. As ISAs become more popular, these benefits will become clearer, and ISAs should start to represent a larger portion of the student financing market.
Incentive Alignment: “We’re on the Same Team”
The first major benefit of using income share agreements over traditional student debt is that it aligns the incentives of the school and the student. If a student enters into an ISA, the school only earns a return from that student if the student succeeds after graduation. Therefore, the school is incentivized to provide a high-quality education to the student and offer all the support they need to prepare for their desired position. In essence, the school and the student are on the same team. This has led to a direct increase in the quality of education offered by schools that use ISAs. Indeed, if their education does not satisfy student needs–that is, students graduate and are unable to find lucrative jobs–the students pay nothing back to the school.
Incentive alignment has led many schools to update their offerings to ensure they meet the evolving needs of students. Lambda School, for example, has invested more resources in career support to students and has begun offering them many opportunities to interact with prospective employers during the program. In this way, students expand their networks before they start looking for a job.
Lambda School, among other bootcamps, has also used income share agreements to explore options like living stipends. Living stipends help students focus on their education rather than worry about getting a part-time job to cover living costs. However, because schools using ISAs only earn a return if their students succeed, they have an additional incentive to explore these new options, which could lead to better outcomes for students.
Increased Access to Education
Income share agreements can also increase access to high-quality education for different groups. ISAs eliminate the barrier of capital and ensure everyone can pursue their dream education without having to worry about taking out a loan.
One of the ways in which ISAs increase access to education is by allowing anyone who shows potential, regardless of their past financial history, to access the capital they need to finance their education. That is to say, students don’t have to worry about their financial background to pursue their dream education with an ISA.
Further, ISAs allow people who cannot find a co-signatory to pursue education. Around 90 percent of private loans require a co-signer. So, many people who cannot find one are unable to borrow the money they need through traditional debt. However, with an ISA, a student does not need a co-signer. Instead, the student will be evaluated based on her ambition and potential.
ISAs have also been used by institutions to increase access to education for people from underrepresented backgrounds. For example, Colorado Mountain College (CMC) recently announced their Fund Sueños program, which allows students to borrow the money they need for their education in exchange for a percentage of their future income. This fund is specifically targeted at DACA recipients who are ineligible for federal student loans. This means Dreamers can pursue an education at CMC, no longer needing to rely on federal student loans.
The University of Utah operates the “Invest in U” program, which allows students to finance their education through an ISA. This fund helps people in their final year access the capital they need to finish their education. In Utah, 26 percent of people who started college never graduated, with lack of capital the number one reason they couldn’t finish. The Invest in U fund means that people who are unable to raise the money they need to complete their college education can do so without having to worry about taking on more debt.
Income share agreements also offer an alternative for people who are unwilling to take out a traditional student loan. There has recently been an increase in the number of people who are unwilling to take out a loan to pursue further education. Thus, they skip going to college or pursuing other education options altogether. One of the main reasons for this, highlighted by a 2018 PayScale survey of 248,000 people, is that more people are regretting taking out loans for college. The survey found that college debt was the top regret after chosen area of study by survey respondents. Many people also feel uncomfortable taking out a loan for a bootcamp—especially newer bootcamps—because they do not confer credentials and are seen as riskier by some.
Moving Risk to Schools
Another benefit of ISAs over traditional debt is that it moves the risk away from the student and onto the institution. Many people are reluctant to take out a loan because, if they fail, they will still have to pay back the loan. Two-thirds of students at flagship state universities fail to finish on time. Taking out a loan is a big risk, and if you don’t complete your degree, you still have to pay back the loan, though you won’t have the diploma or credential to go with it.
Also, if you take out a loan, your payments will be tied to a specific schedule. This means you will have to pay back a certain amount—with interest—at predefined times, regardless if you are working in a well-paying job. With an ISA, however, if the student fails to get a well-paying job after they’ve finished their education, they will not have to repay the money they borrowed. The institution takes on all of the risk. If the institution fails to prepare the student for success in the job market, the student will owe nothing. Therefore, students can have more confidence in pursuing further education—especially bootcamps.
Critics have highlighted a number of concerns with income share agreements, especially as they have become a more popular method of education financing. Perhaps the most common concern is that ISAs are unregulated. Thus, in a sense, they are riskier than traditional student debt options.
Lack of Regulation
ISAs offered by institutions such as Lambda School, Messiah College, and Purdue University operate under a set of industry best practices, derived from proposed legislation and market demand. Further, the ISA Student Protection Act, which was recently introduced into the U.S. Senate, aims at creating a clearer regulatory framework that protects both students and innovation in this space. The legislation, among other things, would appoint a federal regulator, set a national minimum income threshold, and create guidelines around consumer disclosures and borrower protections. Although there is no clear regulation in place right now, these recent developments indicate an increased interest by regulators in ISAs. There has also been interest by local workforce boards in offering ISAs to help expand access to “upskilling” programs, which indicates that local governments are also starting to get involved with ISAs. In time, the regulatory environment should become more stable.
Another common concern associated with income share agreements is that they could lead to more discrimination in education financing. Sen. Elizabeth Warren and a group of Congressional Democrats outlined this concern in Sen. Warren’s letter to the Secretary of Education, Betsy DeVos in June. One concern was that ISA funders may be able to “flout existing federal consumer protection and anti-discrimination laws.” The ISA Student Protection Act aims to amend acts such as the Equal Credit Opportunity Act and the Military Lending Act to ensure anti-discrimination laws present in the student debt market will also apply to ISAs. This will reduce the risk that ISA providers will adopt discriminatory practices and ensure students are evaluated solely based on merit. Lenders such as Lambda School have been very open about how they evaluate students and have adopted a stance based on evaluating students’ abilities rather than optimizing for returns. Either way, future legislation will mitigate this risk and ensure students are not judged unfairly when applying for an ISA.
Sen. Warren also highlighted that ISAs could perpetuate existing discrimination due to the projected earnings of people of color relative to other groups. Students of color often need more debt to finance their education, according to Sen. Warren, but discrimination in the labor market has resulted in some people of color being paid on an unequal basis. This is not a problem with ISAs, but rather with discrimination in the workplace. Legislation such as the aforementioned ISA Student Protection Act should combat this issue and ensure students are protected against any such problems.
Critics also cite adverse selection as a concern. Adverse selection is where one party has more information than another and uses that information to make a more informed decision about a student. In the context of ISAs, there have been concerns that lenders may only offer ISAs to students who are already the best, and those who are not already on a track to success would not be offered an ISA.
In September 2018, a study by Purdue University found that there was no adverse selection in their Back a Boiler fund by student ability among borrowers. The study found that in order to mitigate the risk of adverse selection, a provider must correctly structure an ISA program and implement protections, such as only offering ISAs to students who have already completed their first year. There is no data to substantiate claims that adverse selection—or prioritizing students who could earn a better return for an ISA fund—is occurring. And most ISA lenders actively work to ensure students are evaluated based on their potential, not their ability to earn a return.
The Bottom Line on Income Share Agreements… For Now
It is important to note that income share agreements, at least right now, are not an alternative to student debt, nor a “solution” to the student debt crisis. Rather, ISAs are another option for those who are unable or unwilling to take out a loan to finance their education. ISAs still represent a very small corner of the student financing market, and it is expected that debt options and ISAs will co-exist for years to come. ISAs will never fully replace student debt—debt still works for many people, especially those who have a consistent income—but they should start to grow in the future.
Income Share Agreements are a revolutionary new way to increase access to education, align the incentives of students and schools, and move the risk of pursuing further education off of the student. Although there are concerns with ISAs, including the lack of regulation, they present a promising solution to the difficult problem of student financing. ISAs are at a nascent stage, and this is only generation one. We will likely see even more ambitious versions of these agreements in the future.
One thing is certain: ISAs are a funding option that works not only for students, but for schools, as well. As demand increases for ISAs—and as they are explored more by regulators—we will see more programs become available so students at any school can finance their education. Income share agreements are the future of student financing; debt is no longer the only option for pursuing a bootcamp or college.