Month: October 2023

Inflation and the actual cost of living

The misery index, the sum of unemployment and inflation, may understate misery because the cost of living to households and the affordability of key products are affected by myriad factors in addition to the rate of inflation.


Introduction:

Many analysts confound the concept of inflation and the cost of living.  Inflation is the change in the average price of goods and services in a basket of goods.   The cost of living is the total amount of money needed to meet basic expenses. 

The cost of living will increase with inflation, but this relationship is impacted by the way inflation is measured and other factors specifically loans and interest rates.

Economic or political arguments based on current and projected inflation numbers, which ignore other factors impacting the cost of living, often lead to specious conclusions. 

Often advocates of a particular policy argue that aggregate price indices either over or under state inflation to support their policy position.

  • An economist in a recent CNBC argued that the Federal Reserve Board should cut interest rates because the housing shelter cost component of the CPI provided a misleading estimate of housing cost increases.  (Saw on TV, sorry can’t find link.) 
  • Several economists, most notably the Boskin commission, argue a failure to adjust product prices for quality improvements has led to an overstatement of the CPI and inflation. 
  • Some politicians and economists have called for linking Social Security benefits to an alternative price index, which has a higher weight on health services.

Another major difference between inflation and the cost of living is that the later concept is substantially impacted by lending, loan terms, and interest rates while the former concept is exclusively based on prices of goods and services. 

This memo discusses the impact of different measures of inflation, cost of living and affordability on the current economic situation.

Analysis of components of the Consumer Price Index:

The measurement of three components of the CPI – shelter, health insurance, and advanced goods like computers – does not reflect the impact on affordability of these goods for many households.   

Shelter:    

The cost of shelter in the consumer price index, the single largest component (around one third of the basked of goods) is determined by  actual and imputed rents.

The use of imputed and actual rents to measure shelter costs makes more sense than the use of house prices because volatile asset prices increase wealth and inflation can decrease real wealth.  Actual shelter costs as measured by rent and imputed rent are sticky and tend not to fall, hence actual and imputed rent does track annual changes in costs. 

However, housing affordability, especially for first-time home buyers has fallen.  The Goldman Sachs housing affordability index (based on three factors household income, housing prices and mortgage rates) reached a record low in October 2022.  Recent research has documented the link between housing prices and homelessness.   Moreover, unaffordable housing situations has led to an increase in the number of people retiring with mortgage debt.  

Housing affordability may be more closely related to financial stress associated with high house prices than the shelter component of the CPI.

Health insurance: 

The CPI uses an indirect measure of health insurance premium inflation.   The CPI health insurance premium cost estimate is the portion of insurance premiums not used for medical 

Medical services and goods have a separate index.  

Most private health insurance in the United States is obtained through employers.  Typically, both the employer and employee pay a portion of the health insurance premium with the employee share varying across firms and changing overtime.  

The CPI price inflation index measures the combined cost of the health insurance to the employer and the employee.  It does not measure the cost to the household which is impacted by the employee share of the health insurance premium, the deductible and coinsurance and copay rates.   By contrast, a cost-of-living statistic would directly measure the amount households spend on their own insurance premium.  Note that an increase in total premiums will increase household expenses even if the employer share of the health insurance remains constant. 

Health plans require insured households to share in the cost of health expenditures with the share being determined by the deductible and coinsurance rates and other terms in the plan.  These health plan features also change over time and vary across firms.  A report by the Kaiser Family foundation founds the average general deductible of covered workers rose by 13 percent over the past five years and 68 percent over ten years.  The CPI does not account for the increased share of premiums paid for by households. A cost-of-living statistic would account for this shift.

Deductibles are not the factor impact the cost of health insurance for households.  Co-insurance rates define the portion of health expenses paid for by the household.  The in-network and out-of-network health coinsurance rate will often vary, and some health plans do not allow out-of-network service.  Coinsurance rates also differ for different types of services. Copayments are often charged for lab or doctor visits. The CPI does not account for any of these factors, but all of these factors impact the cost of health care and the cost of living.

The enactment of the Affordable Care Act allowed people to use a tax credit that is linked to income to purchase health insurance on state exchanges.  The total premium is linked to age.  It is higher for older people than younger people.  Many middle-income and upper-income people pay more for their health insurance under state exchanges than under employer-based plans because many employer-based plans pay a substantial share of the health insurance.  (Middle-income young adults could typically pay 100 percent of state exchange health insurance and around 30 percent of the premium of employer-based plans.) 

The CPI does not capture the increase in costs stemming from a shift towards state exchange health insurance.  A weighted average cost of living index would measure the higher cost imposed on some households.

Computers and other advanced goods:

Several products in the basket of goods used to calculate the CPI are adjusted for changes in quality via a hedonic price index.   The adjusted price used in the calculation of the aggregate price index and underlying inflation is lower than the actual price because the new computer or cell phone or software is better than the old one.    The theory is that the improved product causes increased productivity and utility, hence the higher price of the new product is not reflective of inflation.

One problem with this argument is that quite often the old product is unavailable, and consumers have no choice but to spend the actual price on the new product.  A replacement purchase is mandatory if new software does not work on the old device.

Second changing social norms can make the purchase of a new product unavoidable.  A cell phone is now almost mandatory for most people in the workforce.  The improved quality of the cell phone does not obviate the fact that it is now an essential product.

Third, some improvements in quality prove illusory.  Hertz is cutting back on its purchase of electric vehicles partially because of higher than expected repair costs.  EVs also have limited range. 

Fourth, increases in prices due to quality improvements lead to higher insurance costs.  Even if insurance prices remain constant, an increase in the amount of insurance purchased due to the higher price of the vehicle will increase the cost of living. 

It may be appropriate to adjust the CPI for quality improvements, but quality improvements don’t always lead to lower living costs.

The impact of debt and lending terms on the cost of living:

The CPI and inflation measures do account for the increased use of debt and alterations in the terms of debt on the cost of living.  

The largest impact of debt on living costs pertains to the increased use of student loans.  Debt per student has risen from $18,230 in 2007 to $37,650 in 2023.  This increase in debt is larger than the rate of inflation.  (Figures adjusted for inflation are $26,720 in 2007 to $37,650 in 2023.). The increased use of student debt will result in an increased use of unsubsidized student debt, which leads to higher total repayments because interest because the federal government makes interest payment on student loans while the student is in school. 

The average maturity of car loans, which is now near 70 months, has increased over time.

The CPI and measures of inflation do not account for higher living costs induced by increased debt and changes in the terms of debt.

Concluding Thoughts:

The misery index, the sum of the unemployment and inflation rate, suggests the economy is moving in the correct direction.  However, official inflation rates understate misery because changes in average prices do not measure all factors impacting the cost of living.

Authors Note:  Recent posts by David Bernstein include, The Case Against Medicare Advantage, An Interest Rate Forecast and Investment Advice, and Questions and Answers on IDR loans and the SAVE program.

The case for a third party in the House of Representatives

Could the problem-solving caucus select a speaker and going forward do we need a third party determining control of the House?

The House of Representatives is dysfunctional for a variety of reasons

The speaker’s chair has been vacated because of a few MAGA Republicans.

Democrats are more interested in positioning themselves for control in 2024 than restoring stability to Congress, a strategy they may soon regret.

The shoe would be on the other foot in a future congress if “progressive” Democrats that literally support Hamas blackmail a future Democratic speaker. 

The shoe would also be on the other foot if a Republican House refused to confirm a vice president the way Ford and Rockefeller were confirmed by a Democrat controlled House.  (This would be a great screenplay, especially if the House did not have a speaker that could schedule a vote.)

At this time moderates of both parties need to put the interests of the nation over the interest of their party and elect a speaker to get the House of Representatives working again. The fact that in the past the speaker was elected entirely by the majority does not relieve the Democrats of their obligation to do what is best for the country now.

Chaos is not the only manifestation of Congressional dysfunction.  Legislation passes through Congress on a party-line or near party-line basis with very little input from individual Congressman.  The desire to spend and not tax has led to an acceleration of the government deficit, even though economic growth remains fairly robust.

This situation must be extremely frustrating for the majority of representatives who are concerned about Ukraine and Israel, support environmental incentives but view newly enacted subsidies as a tad excessive, want to go further with health care reform, and address the Social Security Solvency problem sooner rather than later.

The dysfunction in the House could be fixed two ways.  The first solution involves strengthening the bipartisan problem-solving caucus.  The second involves the creation of a third party focusing on House and Senate elections. 

The problem-solving caucus is a group of over 60 relatively centrist House members from both parties who attempt to reach common ground. 

A decision by a united problem solvers caucus to support a single candidate for the speaker and to persuade members of Congress who are not members of the caucus to support the middle-of the road speaker could resolve the current impasse, prevent similar situations, and facilitate better legislation.

The total number of votes obtained by the candidate with two lines on the ballot (either Democrat and problem solver or Republican and problem solver) is the sum of votes from both lines on the ballot.

The problem-solver party could nominate a Democrat, Republican or a third candidate. 

A person with Republican leanings would never vote for the Democrat but could vote the Democratic candidate on the problem-solving line of the ballot.

Alternatively, a person with Democrat leanings would likely not vote for the Republican but could vote for a moderate Republican on the problem-solving line.

The existence of a third party option for the House or Senate in a deep blue or red area would create a viable option that could win if the dominant party goes too extreme.  A viable moderate option unencumbered by a national party, which appears extreme to local voters, could encourage the dominant party to move towards the center.

In many rural Congressional districts and states the candidacy of the Democrat is the fool’s errand.    Consider Texas.

  • The Democrats have not won a state-wide election in Texas since the 1990s.
  • The Republicans currently control 24 of 38 House seats in Texas.
  • In all but three of the Republican controlled House seats in Texas the victor had more than 60 percent of the vote.

Perhaps in Texas the Democrats should disband and make room for the problem-solvers caucus.

In many districts and states the election outcome is determined by the outcome of the contest for the Republican nomination.  The winner is often a MAGA republican.  The people in the rad area are not pure MAGA as demonstrated by their votes against abortion bans and for Medicaid expansion. But the Democrat candidate loses, in state, Senate and House races, because the left wing of the party is toxic on issues like war and peace and immigration.  

The third party movements could also be viable in deep blue areas with extreme “progressive” Democrats Ilhan Omar just barely won the Democratic nomination in 2022 and could be beaten if Democrats against Omar and Republicans unite under the problem-solvers label.

Most discussion of third parties revolves around the Presidential election.  The creation of a third party for presidential elections is a narcissistic fool’s-errand exercise.  However, a third-party, even if it only gets 10 or 20 seats could hold the balance of power in the House.  

More immediately, a unified problem-solvers caucus could end current chaos.

Authors Note:  Insightful Memos more typically addresses financial and economic issues like Medicare,student debt, and interest rates.   Please subscribe for essays on economics, finance, and politics.  

Authors Note:  David Bernstein is an economist who writes on economics, finance, and politics.  A longer paper on health care reform can be found at Kindle.   A recent empirical paper on student debt and household finances can be found at SSRN.  Recent posts at Finance Memos include questions and answers on Income Driven Replacement loans and an assessment of Medicare Advantage plans.

The Case Against Medicare Advantage

Medicare Advantage plans have significant restrictions on provider choice and a capricious pre-approval process.

It is once again open season for selection of a Medicare plan and the airwaves are insulated with advertisement urging people to select Medicare Advantage over traditional Medicare.  The advertisement campaigns for Medicare Advantage are as ubiquitous and as misleading as the advertisements for a political candidate in the closing days of a campaign.

Some Medicare Advantage plans provide good comprehensive health insurance, but some plans are inadequate and the selection of Medicare advantage over traditional Medicare always creates substantial limitations in health care choices and financial risk.

A recent Wall Street Journal article describes the potential catastrophic impacts of the choice of Medicare Advantage on people who choose Medicare Advantage over traditional fee-for-service Medicare.  One applicant enrolled in a Medicare Advantage plan found he could not obtain adequate treatment after being diagnosed with prostate cancer and was unable to both switch to a combination of traditional Medicare and Medigap because the best time to purchase a Medigap policy is immediately upon turning 65.

Several government studies, academic papers, and news reports show many Medicare Advantage plans provide limited access to doctors and hospitals.

  • This article discusses Vanderbilt Health dropping some Medicare advantage plans in Tennessee. 
  • This article discusses the exclusion of some Medicare Advantage plans by a health system in Oregon.
  • Research summarized here found that Medicare Advantage enrollees in rural areas of California had difficulty obtaining access to specialists. 

Another difference between Medicare Advantage and traditional Medicare is that Medicare Advantage plans often require prior authorization for treatments or even to see a specialist while Medicare does not.

A recent survey conducted by the American Medical Association (AMA) found that 94 percent of doctors found prior authorizations delay care, 80 percent of respondents found that prior authorization could lead to patients abandoning a prescribed course of treatment, and one third of doctors stated that prior authorizations led to an adverse medical outcome.

A report by the office of the inspector general from the Department of Health and Human Services found that 13 percent of denials of denials of prior authorization requests by Medicare Advantage plans would have been automatically approved under standard Medicare guidelines. The auditor found in some cases a claim of inadequate documentation by the Medicare Advantage plan was incorrect.  Medicare Advantage plans appear to be routinely denying requests for services that the provider deems medically necessary.

Many individuals choose Medicare Advantage plans over traditional Medicare plans to lower premiums and obtain extra benefits.  The Biden Administration is finalizing rules  targeting misleading advertisements for Medicare Advantage plans. 

However, misleading advertisements are not the major problem in this industry.  Honest Medicare Advantage advertisement lacks information about the risks inherent to narrow-network health insurance which restricts access to specialists and hospitals and denies requests for medically necessary procedures.  

There is considerable support for Medicare Advantage on both side of the political aisle because these plans lower costs to taxpayers and enrollees.  Donald Trump signed an executive order expanding Medicare Advantage plan.  Medicare Advantage plans were a central feature of the health care reform plan offered by Vice President Harris when she was a candidate for president.

Go here for a better way to balance the need to control costs and provide comprehensive quality health insurance coverage.

Many doctors warn their patients about the risk associated with Medicare Advantage plans but the warnings are drowned out by a barrage of advertisements. 

People are making their choice of Medicare plan based on advice from commercials and salespeople rather than health professionals capable of weighing relative risks.  Perhaps the best advice on the question of whether one should select a Medicare Advantage plan would be the same advice given by Nancy Reagan to teenagers considering drugs — “Just Say No.” 

Authors Note:  The author of this newsletter has examined several financial topics including student debt,  interest rates, the use of 529 plans to fund a Roth IRA, and the need for people near retirement to prioritize elimination of the mortgage.  Please subscribe to Insightful Memos.

An Interest Rate Forecast & Investment Advice

Even if the Fed pauses interest rates, especially the 10-year Treasury rate, will continue to rise. Focus on fixed-income investors should be on ladders with max maturity of two years.

Introduction:

Many analysts quoted in the popular press believe that interest rates have peaked, inflation is receding, the fed has tightened too far, and a recession is likely.

  • A July 7, 2022, a CNBC article suggested there was a high likelihood of a recession because of the inverted yield curve  (The 2-year T-bill rate was 4.9 percent and the 10-year rate was 3.9 percent at the time.)   
  • An October 6, 2023, Reuters article stated that a bear steepening of the U.S yield curve dashes ‘soft landing’ hopes.  (The 2-year interest rate is 5.1 and the 10-year rate is 4.7 at the time of the Reuters article.)
  • Analysts, in this CNBC article  anticipate Fed cutting interest rates and inflation receding in 2024.

The analysis presented here confirms that considerable increases in interest rates off their lows has occurred.  However, interest rates are by no means high compared to to historic figures. Moreover, the 10-year Treasury bond rate remains low relative to other interest rates and will continue to rise under the most realistic economic scenarios.

Some observations about interest rates:

Until recently, interest rates have been abnormally low and additional tightening while not immediately necessary could occur.

  • The median Fed Funds rate between 2011 and 2023 of 0.16 percent was far lower than the median Fed Funds rate of 5.50 between 1976 and 2010.
  • The current Fed Funds rate of 5.33 is close to the median Fed funds rate from the 1976 to 2010 period.
  • The Fed could go further if inflation accelerates.  The Fed funds rate went as high as 19 percent in 1981.

While Fed policy impacts interest rates, market forces also matter.  There is substantial disparity in recent movements of different rates.  In particular, the 10-year Treasury rate appears abnormally low compared to the Federal Funds rates and rates determined by the market.

  • The current two-year Treasury rate slightly above 5.0 percent is pretty close to the average two-year interest rate over the 1976 to 2023 period.
  • The current 30-year fixed rate mortgage of 7.89 percent is 21 basis points higher than the average over the 1976 to 2023 period.
  • The current 10-year Treasury interest rate of 4.71 percent is 118 basis points below the average over the 1976 to 2023 period.
  • The current differential between the 30-year fixed rate mortgage and the 10-year Treasury bond is 318 basis points.  By contrast, the average differential between 1976 and 2023 is 179 basis points.

Discussion:  The recent bear curve steepening is not over.  I expect the 10-year Treasury bond rate will continue to rise until it is in line with Fed policy and rates on other assets in the market.

My most likely economic scenario assumes the Fed will pause but not cut rates and that inflation will remain near its current levels.  The following recommendations are based on this outlook.

  • Continue to eschew the purchase of long-term bonds and bond funds without a fixed maturity date.
  • Focus most fixed-income assets in a bond/CD ladder with a maximum maturity of two years.
  • Allocate a small portion of the fixed-income portion of the portfolio to agency debt with a maturity of five years.
  • Continue purchasing Series I Savings bonds.

This strategy is premised on the view that inflation remains stable near current rates and the 

Fed pauses rate increases.  This scenario is more likely than additional Fed tightening, a soft landing and a hard landing into an immediate recession.

My next macroeconomic post will be on the likely of higher wage-push inflation and its impact on the economic outlook.  

Authors Note:  The author, an economist, is planning to publish and market a quarterly economic outlook.  He is available for economic and financial consulting projects.   His recent paper on the impact of student debt and additional education on household finances can be found here.  Also, please considering the kindle paper, A 2024 Health Care Reform Proposal.

Questions and Answers on IDR loans and the SAVE program

This post addresses some general issues on IDR loan payments and some specific issues raised by the Biden Administrations reform efforts.

What determines the choice between an IDR student loan and a traditional student loan?

An IDR loan is the most viable way to prevent default tor many people leaving college with substantial student debt and a relatively modest starting salary.

  • A student borrower leaving college with $25,000 in student debt at a 5.0 percent interest rate would pay $3,182 per year on their student loan.  Total loan payments on an IDR loan that charges 10 percent of disposable income would come to $1,813.

The payment differential between the conventional and IDR loan will change with changes in income and marital status.

Increases in salary increase IDR loan payments which can cause the borrower to shift to a conventional loan.  The decision to convert the IDR loan to a conventional loan ends the possibility of a partial loan discharge.  (It would usually be very foolish for a person to turn down a nice raise at work to remain eligible for a loan discharge).

Increases in household income after marriage will often increase IDR payments and can induce the borrower to shift from IDR loans to conventional loans.  A married IDR borrower can reduce the increase in the student debt payment by filing a separate return but a decision to file separate returns will often result in a substantial increase in tax obligations which, as discussed below, offsets any savings on student loan payments.

When should married couple with an IDR loan file a separate return instead of a joint return?

A married couple where one or both spouses have an IDR loan could reduce their combined student loan payments by choosing filing status married filing separately, but it is highly likely this choice will substantially increase their tax obligations. 

Articles on whether a married couple should file a joint return, or a separate return generally focus steps a taxpayer must take to insulate themselves from their spouses tax liability and the loss of tax deductions and credits.

A larger impact of the decision to choose the file married separately returns stems from a shift in tax deductions towards the spouse with lower income.

  • A married couple making $120,000 filing a joint return taking the standard deduction of $27,700 will pay federal tax of $10,921.    The additional loss of the tax deduction for student loan interest would reduce the couple’s tax obligation to around to $10,371.
  • The same married couple where one spouse makes $40,000 and the other spouse makes $80,000 where each spouse takes the standard deduction of $13,950 will pay a combined household tax of $12,787.

The decision to file separate returns instead of joint returns will for this couple result in an increased tax obligation of $2.408.  The increase in tax obligations may exceed the reduction in student loan payments from the IDR option.

Many newly married student borrowers will immediately switch from an IDR loan to a conventional because of this tradeoff.

What is the potential income of divorce on successfully paying off a student loan under IDR programs.

IDR relief may not be available for a person who switches from an IDR plan to a conventional plan upon marriage and then gets divorced and wants to reenter an IDR program.  A current Biden Administration effortto update and modify IDR loan records, described below, includes a provision that allows for payment credits on IDR loans for payments made under multiple plans.  But this one-time fix may not be available in the future.

Changes in student loan payment obligations caused by changes in income or marital status make IDR loans a risky way to provide student loan debt relief.  The more effective option outlined here involves selective elimination of interest charges at the beginning of a career and upon the maturity of the loan.

Why are so few people getting IDR loans discharged?

Even after accounting for conversions from IDR to conventional loan programs due to changes in income and marital status relatively few student borrowers are obtaining timely debt discharges from IDR loans.  A GAO report found that as of June 1, 2021, only 157 IDR loans had been approved for forgiveness even though another 7,700 loans were potentially eligible for forgiveness.

Both borrower and loan servicer errors result in inaccurate reporting of student loan payments and annual recertifications as documented in this  CFPB report.  One reason why it is difficult to track payment errors is that in some years or months the required payment on the IDR loan is zero, an amount that is indistinguishable from the amount received if the person failed to make a payment on time. 

A failure to annually recertify income and household size can result in loss of IDR payment status.  This document  indicates that applicants under the SAVE program who fail to recertify will be ineligible for a loan discharge while applicants on the PAYE, IBR or ICR plan can remain in the IDR plans, but their payment will be based on the 10-year standard repayment plan.

What can be done to increase on-time IDR discharges?  What are the limits of efforts to improve the administration of IDR loan programs?

There have been several attempts to facilitate IDR discharges by reviewing, modifying, and updating student loan payment records.  Congress passed legislation in 2019 to help facilitate IDR loan discharges.   The Biden Administration announced an IDR review effort in April 2022. The current Biden Administration effort to update and modify IDR loan records adjusts payment counts for forbearances, deferments and payments made under other payment plans.

The Biden Administration has been fairly aggressive about helping IDR loan applicants obtain a loan discharge. Future Administrations may not place a high priority on facilitating student loan discharges, hence IDR loans unlike other loans are impacted by a form of political risk.

Despite these ad-hoc payment count adjustment efforts the number of IDR discharges remains low, and many discharges occur later than stipulated under the contract.  Again, the better solutions outlined here involves selective elimination of interest charges at the beginning of a career and upon the maturity of the loan.

What are the major changes to the IDR program under the Biden Administration’s SAVE program?  

The major changes announced under the SAVE program listed here include:

  • Increase protected income for loan payments from 150 percent of the federal poverty line (FPL) to 225 percent FPL.
  • No interest charge when the IDR payment is lower than interest due.
  • Allows married borrowers to exclude spouse’s income when filing separately.
  • Disallows existence of spouse in household size calculation when filing married separately.
  • Starting in 2024, cuts payment rate on SAVE loans to 10 percent to 5 percent of disposable income.
  • Links number of years needed to obtain a loan discharge to initial size of the loan balance. Students with loan balances below $12,000 are eligible for a loan discharge at 10 years.  Each additional amount borrowed of $1,000 results in one additional year for eligibility of a discharge up to 20 or 25 years.

Does the SAVE program prevent loan balances from increasing overtime?

The SAVE feature prohibiting interest charges when the SAVE payment is less than the interest charge will prevent an increase in the student loan payment when the borrower makes payments on time.  However, student loan balances could increase if the borrower fails to make payments or if the borrower pauses student loan payments to go back to school.  

Does the SAVE program create an incentive for people with less than $12,000 in debt from going back to school and pursing more education.

The SAVE rules appear to create a disincentive for more education by recipients of a two-year degree with less than $12,000 in student debt.  

The person with up to $12,000 in debt who chooses to stop further education will have the remaining balance on the initial $12,000 in debt forgiven after 10 years, as long as the person makes the payment on the SAVE loan.

The person who goes back to school and formally pauses student debt payments will likely have around $30,000 in total debt upon completion of a bachelor’s degree and no chance for a loan discharge for another 20 years.

It may be possible for a student to maintain payments on the original IDR loan while in school and get a partial discharge of debt after 10 years.  The rules appear ambiguous on this point.  This is a question for the Department of Education.

How does the SAVE option impact student debt payments for a typical Bachelor’s degree recipient? 

The typical bachelor’s degree recipient will end school with around $30,000 in student loans and start her career at a relatively low salary.   The initial payment on the loan, currently 10 percent of adjusted gross income over 225 percent of the federal poverty line, is relatively small and is unlikely to initially cover the interest on the loan.  

The SAVE loan borrower essentially has a zero-interest loan with an unchanged $30,000 balance until the borrower’s salary rises to the point that her payment (defined as 10 percent of the difference between AGI and 225 percent of the FPL) falls below interest charges.

A person who maintains a low-salary and low household income will make modest student loan payments for twenty years and have the loan forgiven assuming the loan payments were correctly reported by the loan servicer.

A student borrower who obtains a higher salary or household income would have to make higher loan payments.  The SAVE loan does not limit the monthly payment on the loan when AGI rises.   Other programs like PAYE and IBR cap the monthly payment at the payment for a 10-year standard loan, but these programs would allow the loan balance to increase if the loan payment did not cover interest costs.  

Dave Ramsey has noted that many IDR borrowers could pay more on their student loan than the borrower with a standard 10-year loan both because payments could persist for 20 to 25 years and could rise substantially with income.

Is debt forgiven under IDR programs taxable?

The American Rescue Plan exempted dischargeable student debt from federal tax for debt discharged prior to December 2025.  However, some states treat dischargeable student loans as taxable income.

Authors Note:  A newly published SSRN paper examines the impact of both additional education and additional student debt on the ability of households to make a $400 emergency payment.