Last week, I blogged about my disappointment with the Throne Speech. However, I left out one really promising thing; namely, the idea that it would make possible free, automatic tax filing for simple returns to ensure citizens receive the benefits they need. This is good, but in some ways insufficiently ambitions. They should go further and fully modernize the system to make possible the collection of loans through the income tax system and thus make possible a more fully income-contingent loan system.
Income-contingent loans are a long-standing idea. If you want to sell the idea to right-wingers, tell them the idea came from Milton Friedman in the 1950s (which is sort of true, though he was advocating something closer to a graduate tax). If you want to sell it to left-wingers, tell them that James Tobin – he of the global financial transaction taxes that bear his name – designed the first working system of income-contingent student loans at Yale in 1971 (which is sort of true, though in fact his system had some weird collective-insurance features which made it unpopular/unworkable). Or, you could just go the practical route and note that in 1988, Australia introduced a scheme linking student “contributions” to future income levels collected through the tax system and soon thereafter New Zealand and the UK created systems of student loans where students could repay through the tax system, based on their income.
In New Zealand, payments are 12% of every dollar over NZ $20,020 (roughly C$19,400); in the UK they are 9% of every pound over £26,575 (New Zealand, as you can imagine, has higher recovery rates than the UK). Australia requires no repayment until income reaches A$45,880 (Canadian and Australian dollar are near par), but then they require 1% of total income and the percentage of total income then increases in steps to 10% at $134,000 p.a., which creates a weird step function that no one outside Australia thinks is even vaguely sensible, but whatever.
Now, Canada has what I would call a mostly income contingent system of loans. Under $25,000 in income, you pay nothing (the 2019 Liberal election manifesto was to raise this to $35,000, but as far as I know this has not kicked in yet). Above $25,000, you pay 20% of your marginal income for the loan until the point where your monthly payment equals what you would normally pay on a 15-year amortized loan. This system has been getting more generous over time, but basically this has been the story since about 1998. The US has a variety of loan programs which work on a similar basis.
What distinguishes the North American systems from the other anglophone systems is the degree of integration with the tax system. In the UK, New Zealand and Australia, the tax system is used to track income, calculate repayment levels, and collect the repayment at source. In North America, it is not: you must apply for benefits, show proof of income, etc. Comparatively speaking, this is very inefficient and a lot of people who could be getting relief on loan payments are not.
Why haven’t North Americans adopted the helpful-sounding Brit/Aussie/Kiwi (BAK) systems? In the American case, it’s because the entire tax system is built around family income rather than individual income and it is therefore really hard to introduce individual debts into a system like that. Canada’s excuse is different. It’s simply that our tax system is decades out of date and does not possess enough data for a workable tax-collected loan system. Basically, the Canada Revenue Agency has no idea how much anyone makes at any given point of the year. In fact, it does its best to avoid knowing this information more than once a year when you submit a T4 at tax time. Every two weeks, your employer calculates your wages, and adds it together with all your co-employee wages. CRA then asks the employer to throw all this data away, give it the totals, and remit payroll and withheld income taxes based on this total.
Now, it is to collect loans this way. The government does not know who employs you at any given moment, so it cannot link your loan file to anything other than your annual tax file. And so, we could just make one big loan collection annually (this is how the Australian system worked for a few years at the start), but that would create problems for anyone who hadn’t been diligently putting money aside on their own. This undermines the “simplicity” aspect that makes tax-collected loan payments so attractive.
In New Zealand, on the other hand, the tax authorities know where you work and how much you make every two weeks. In their version of the T1 form, there’s a little box you tick indicating whether you have a student loan. Ticking it tells your primary employer to start deducting 12% of your income above $385/week (it also has a box to indicate whether this is a second job, in which case you just pay a flat 12%). And your social insurance number links your payment to your loan. Easy peasy lemon squeezy, everything is up to date every two weeks, in a way that is completely impossible in Canada.
Now, as it stands, the Throne Speech commitment doesn’t quite get us to a BAK system, but it is moving us in the right direction. Soon we might have one, and this is good because it will mean extra protections for students who do not apply for aid. But it also creates some new policy possibilities: the main one being, do we shift from the current mostly-income-contingent system, in which monthly payments default to a mortgage-style system once income rises to a certain point or do we go full income-contingent and ask for a percentage of marginal income? The decision will exclusively impact higher income earners: the current system extends repayment over a longer period of time, while a pure percentage of income would accelerate repayments, which pinches borrowers more in the short-term but reduces total repayments because less interest is paid.
Anyways: something to anticipate – provided the CRA’s modernization program doesn’t end at automatic filing.
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Under the BAK systems, can a person pay off a student loan early? Is there incentive to do so, or not?
In Australia, the “contribution” at one. time could be paid-off up-front on a present value discounted basis (which also helps the government’s cashflow.) Otherwise there is no incentive to accelerate payment. Of course, a person who has the wherewithal to accelerate payment is probably in a higher tax bracket, which itself accelerates payment.
Yes, income-contingency is an alternative well worth consideration in Canada. The CRA, however, is not the only hurdle within the Canadian model of fiscal federalism. As the CRA advised HRDC and some provinces in the mid-1990s when they seriously studied the Australian HECS, there is a difference between collecting a tax surcharge and loan re-payments. The CSLP is exactly what its name signifies: a loan program. Repayment is based on a fixed schedule, which can be extended on the basis of income, but remains a fixed schedule. Only need-tested graduates with loans participate. Cost is defined by provincial tuition fee policies. Ability to pay is tested up-front. Applicants have to apply for remission by extension, the cost of which is borne by government.
There is a difference between what in Canada is called income contingency and what that term means elsewhere, not only in Australia, New Zealand, and the UK. All students participate, which enables income-contingency to pool risk as insurance against loss of “lifetime earnings.” Government assumes the actuarial risk of default. Cost is standardized through nationally set tuition fees. Ability to pay is determined after the fact, based on taxable income.
Canada might have, as you say, a “mostly income-contingent” system, but it is not at all an income-contingent repayment system. It does not adjust ability to pay on the basis of “lifetime earning” as surrogate private rates of return. Risk is not pooled. In other words, whatever might be said in favour of CSLP and its provincial counterparts, it is a poor foundation on which to build a true income-contingent contribution scheme. In any case, there will be two stumbling blocks. Under current constitutional and transfer payment policies, the federal government cannot impose standardized tuition fees nation-wide. That provincial governments would or could agree on such a schedule would be a long-shot of epic magnitude, especially given how far apart they would start in terms of public per student subsidies. That CRA – or indeed the general public — could be persuaded, absent a true tax surcharge model, to share personal tax return information with another agency, presumably ERDC, is also a long-shot. Maybe some provincial systems would be a better starting point.