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Are Student Loans Really a Tax?
May. 25th, 2013 09:31 amI've been doing a few back-of-envelope calculations, and they don't make pretty reading. As maths and I have an uneasy relationship, I'm happy to have my figures and assumptions corrected - I only hope they're wrong.
[ETA Some corrections were offered elsewhere: see following post for a discussion of these.]
Student fees at most English universities are £9,000 per annum. For a three-year degree, that adds up to £27,000.
For students starting now, the interest rate is 3.5% plus RPI. RPI varies a good deal, but if we look at it over the long term I think it's reasonable to take 3% as an average figure. So, for back-of-envelope purposes, the loan is charged at 6.5% compound interest.
Of course, the interest begins to accrue from the moment the first loan is taken out at the beginning of the first year of college, so by the time the three-year degree is finished, we can expect almost £2,000 worth of interest to be added to the loans themselves, making a total of £29,000.
This is a best case scenario, in which the student's living and accommodation costs are fully-funded by parents, bar work, etc. In reality, all but a very few students will need to supplement the fees loans with other loans to cover these costs. For most students, these extra loans will amount to many thousands of pounds, but to make the maths simpler let's say that our student has waalthy, generous parents and a fearsome taste for part-time work, and gets away with borrowing just £1,000. Total debt at the time of leaving uni with that precious 2.1? £30,000.
People who defend this system often justify it by pointing out that the money doesn't have to be paid back at once, but only when a graduate's income exceeds a certain amount (currently £21,000). After that, you pay 9% of your income over that sum. They don't often mention that interest will be mounting up throughout that period.
In the current climate I think it's reasonable to expect our student to take a couple of years to find a job that pays over £21,000. By that time the interest on the £30,000 will have bumped the amount up to £34,000. In other words, there will be around £2,000 per year (and rising) to pay in interest alone. How much more than £21,000 will our graduate need to earn just to service the interest - i.e. to stop the amount they owe from rising?
Well, £2000 is 9% of (about) £22,220. So, that's the amount above the threshold they will need to earn to keep up with the interest on their loan: requiring an actual salary of £43,220p.a. But of course, they won't earn that much immediately (quite possibly they'll never earn that much - the average salary in the UK is well under £30,000). To keep it optimistic, let's stay that our whizz-kid takes just another two years to get to this break-even point. By this time of course it is no longer the break-even point because meanwhile the loan has climbed to £38,000 and they'll actually need to be earning more like £46,000 to start paying it off. Never mind, let's be implausibly generous and give them a salary of £46,000 in their mid-twenties.
So, within four years of uni our lucky graduate is earning £46,000 (it took me till my late forties to earn that much) and is ready to start paying off the loan rather than just servicing the interest payments. Let's give them a successful career. Promotions follow, and soon they're earning £56,000. On that salary, they will be paying over £3,000 per year towards their loan, though only £900 of that will go towards paying off the capital (at least at first - the portion going on interest will of course decrease over time). At that rate, the loan would be paid off in another 23 years - around half a working lifetime.
That, of course, is pretty much the best conceivable case - a case in which virtually no loans for accommodation or living expenses are incurred during college, and in which a secure, very well paid job is obtained within a short time after graduation. For the vast majority of students, neither circumstance will apply. As far as I can see, anyone who is not in the top 10% of earners (i.e. more than £50,000p.a.) has effectively no chance of ever paying off their loan, at least through the government's preferred method of taking it out of earnings. They've very little chance of even servicing the interest on the debt. For them, the graduate loan scheme is actually a lifetime extra 9% income tax.
It's not actually a graduate tax, of course, because graduates like me (and the ones who introduced the scheme) don't have to pay it. It's really a punitive tax on the young.
[ETA Some corrections were offered elsewhere: see following post for a discussion of these.]
Student fees at most English universities are £9,000 per annum. For a three-year degree, that adds up to £27,000.
For students starting now, the interest rate is 3.5% plus RPI. RPI varies a good deal, but if we look at it over the long term I think it's reasonable to take 3% as an average figure. So, for back-of-envelope purposes, the loan is charged at 6.5% compound interest.
Of course, the interest begins to accrue from the moment the first loan is taken out at the beginning of the first year of college, so by the time the three-year degree is finished, we can expect almost £2,000 worth of interest to be added to the loans themselves, making a total of £29,000.
This is a best case scenario, in which the student's living and accommodation costs are fully-funded by parents, bar work, etc. In reality, all but a very few students will need to supplement the fees loans with other loans to cover these costs. For most students, these extra loans will amount to many thousands of pounds, but to make the maths simpler let's say that our student has waalthy, generous parents and a fearsome taste for part-time work, and gets away with borrowing just £1,000. Total debt at the time of leaving uni with that precious 2.1? £30,000.
People who defend this system often justify it by pointing out that the money doesn't have to be paid back at once, but only when a graduate's income exceeds a certain amount (currently £21,000). After that, you pay 9% of your income over that sum. They don't often mention that interest will be mounting up throughout that period.
In the current climate I think it's reasonable to expect our student to take a couple of years to find a job that pays over £21,000. By that time the interest on the £30,000 will have bumped the amount up to £34,000. In other words, there will be around £2,000 per year (and rising) to pay in interest alone. How much more than £21,000 will our graduate need to earn just to service the interest - i.e. to stop the amount they owe from rising?
Well, £2000 is 9% of (about) £22,220. So, that's the amount above the threshold they will need to earn to keep up with the interest on their loan: requiring an actual salary of £43,220p.a. But of course, they won't earn that much immediately (quite possibly they'll never earn that much - the average salary in the UK is well under £30,000). To keep it optimistic, let's stay that our whizz-kid takes just another two years to get to this break-even point. By this time of course it is no longer the break-even point because meanwhile the loan has climbed to £38,000 and they'll actually need to be earning more like £46,000 to start paying it off. Never mind, let's be implausibly generous and give them a salary of £46,000 in their mid-twenties.
So, within four years of uni our lucky graduate is earning £46,000 (it took me till my late forties to earn that much) and is ready to start paying off the loan rather than just servicing the interest payments. Let's give them a successful career. Promotions follow, and soon they're earning £56,000. On that salary, they will be paying over £3,000 per year towards their loan, though only £900 of that will go towards paying off the capital (at least at first - the portion going on interest will of course decrease over time). At that rate, the loan would be paid off in another 23 years - around half a working lifetime.
That, of course, is pretty much the best conceivable case - a case in which virtually no loans for accommodation or living expenses are incurred during college, and in which a secure, very well paid job is obtained within a short time after graduation. For the vast majority of students, neither circumstance will apply. As far as I can see, anyone who is not in the top 10% of earners (i.e. more than £50,000p.a.) has effectively no chance of ever paying off their loan, at least through the government's preferred method of taking it out of earnings. They've very little chance of even servicing the interest on the debt. For them, the graduate loan scheme is actually a lifetime extra 9% income tax.
It's not actually a graduate tax, of course, because graduates like me (and the ones who introduced the scheme) don't have to pay it. It's really a punitive tax on the young.