Upstart Income Share Agreements

For a time, it looked like a radical credit system devised by Milton Friedman in the 1950s, and ultimately turned to the generalist market. Over the past two years, income-sharing agreements – contracts that allow individuals to raise money from investors by selling shares themselves, that is, a portion of their future profits – have been taken from economic limbo by several technology companies that were thinking about how to finance education and finance young people. In April, they appeared in the national spotlight as Sen. Marco Rubio (R-Fla.) and Rep. Tom Petri (R-Wis.) Laws that promised to extend the use of income participation agreements (ISAs) by formally defining their terms. An Income Participation Agreement (ISA) is a way to pay for post-graduation university education by a percentage of the salary earned instead of using a traditional student loan. The economic references for this type of financing are proven. In 2002, Miguel Palacios, an assistant professor at the Owen Graduate School of Management at Vanderbilt University, co-founded Lumni to help mostly young people from low-income families in Latin America enter university. “Credit is a bad way to finance education,” says Professor Palacios, who has a particular interest in asset pricing. “This is especially true for students from low-resource families. There is a great influence in having someone who cannot go to university because it is too risky.┬áDespite these barriers in the ISA market, two recent developments in the ISA landscape indicate that the ISA market may not be completely dead.

As reported in the New York Times, Purdue University recently announced a pilot program (Back-a-Boiler) in which the Purdue Research Foundation will begin making available to juniors and purdue seniors for the 2016-2017 school year. According to the current description of the university program, it seems that it works more like a traditional ISA with the potential for investors up, and that the percentage of income paid under the ISA may be based on the college student major. The Purdue program raises a number of questions: Does Purdue`s step indicate that it believes the market is ready for ISA? Can Purdue better tout ISAs by focusing on its own graduates? Is there a charitable dimension to the program, like scholarships? What about regulatory issues? How is ISA treated tax-wise? These regulatory and tax issues will be important if the pilot is successful and external investors are sought to expand the program. Investors and candidates agree on the investment, the percentage of the salary to be paid and the repayment period. Repayments are generally valid over a 10-year period and account for about 3 per cent of revenues. Most candidates have several investors. The latter is called the Income Participation Agreement, a concept originally proposed by economist Milton Friedman in his 1955 essay The Role of Government in Education. Under an ISA, a company (could be an investor, bank or even an employer) would give money to a student to pay for a university or postgraduate education in exchange for a fixed percent of the student`s future income paid for a specified period.

Another major problem is the cost of an ISA. For a traditional student loan, you pay until the money is repaid (plus interest on the lender`s problems). And with income-based repayment options for federal student credits, there`s an extra safety net: even if you don`t earn enough money to pay it back, the credit means there`s a light at the end of the tunnel.

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