November 15, 2018
By Dennis Price, Impact Alpha
Income share agreements provide students with upfront funding for college tuition, fees, books, and other living expenses. In exchange, each student agrees to pay a portion his or her future income for a fixed period of time.
Experiments with ‘ISAs’ as both a complement and alternative to traditional student loans are underway at a growing number of universities, coding bootcamps, private schools and college alternatives in the U.S. and internationally. But few have had an explicit focus on building educational pathways for lower-income students.
Now, Better Future Forward, a nonprofit focused on making ISAs more accessible, has launched a pair of funds to test the viability of ‘ISAs’ with more than 200 low-income students in the city of Chicago and states of Minnesota and Wisconsin. Key to the model are partnerships with college success and coaching programs that provide lower-income students with the kind of support wealthier students take for granted when they arrive at college.
“We want to replicate the experience that upper-middle class students get by default,” says Better Future Forward founder Kevin James, a former legislative aide and research fellow at the American Enterprise Institute, worked on reform of the federal student loan system.
Risk transfer
ISAs promise to relieve some of the strain of student loans, by aligning the interests of student borrowers and lenders, or rather human capital and investors. In effect, ISAs function more like equity than debt.
Rather than require students to pay a fixed principal-plus-interest payment, regardless of income, ISAs give the funder a claim on a percentage of the student’s future income. This design ties investors returns to student success in a way a regular student loan doesn’t.
“Risk transfer is central to the model,” says James.
Student who opt into the BFF agreement, for example, will be required to pay percentage of their income over an eight- to 12-year period. The percentage varies based a variety of factors but is generally in the low- to mid-single digits. (Play with BFF’s calculator here).
If the student’s income falls below $27,000 for the Chicago ISA (or $20,000 in Minnesota/Wisconsin agreement), students pay nothing. Income above roughly $70,000 won’t count toward the student’s obligation. BFF and its foundation backers, therefore, are now on the hook for the students’ success.
Student success
In Minnesota and Wisconsin, Better Future Forward’s fund will provide ISAs to 120 students enrolled in the college success organization College Possible. The fund is backed by a $1.1 million loan, in the form of a program-related investment, from the Jack Kent Cooke Foundation.
Universities partners include University of Minnesota-Twin Cities and the University of Wisconsin-Madison to Marquette University and St. Olaf College.
In Chicago, the BFF fund has raised $500,000 to fund 75 Chicago students from college coaching programs College Possible, Bottom Line, OneGoal and One Million Degrees. Schools approved for the program include DePaul University, Loyola University Chicago, University of Illinois-Chicago and Northern Illinois University.
The Chicago fund is anchored by a PRI loan from ECMC Foundation and financing from two Chicago-based foundations.
“For too long there’s been a separation of education outcomes and what happens afterwards,” ECMC Foundation’s Peter Taylor told ImpactAlpha. Income-share agreements “build a lifelong relation between the institution and the young person that goes through it.” Added Taylor, a board trustee of the California State University system, “Everybody has to be connected to their success.”
To mitigate the risk of failure and increase the likelihood of success of the program’s low-income students (and therefore returns to investors), BFF turned to college success and coaching organizations to support students during and after their time at school.
In underwriting agreements, James says forward-looking indicators like enrollment at a university with a high-mobility ranking, rather than a student’s credit score, are a better indicator of future success.
One such indicator of university quality is economist Raj Chetty’s college mobility-rate rankings. The index ranks universities that are most successful in moving students from the bottom 40% of income earner families to the top 40%. Top of this list are mid-tier public universities, not elite schools.
Growing market
The model is growing in popularity around the world. One of the earliest ISA providers, Colombia-based Lumni, has agreements with about 10,000 students across Latin America, and licenses its platform to Better Future. Earlier this year Lumni acquired NYC-based Paytonage and Base Capital in Chicago to boost its presence in the U.S. Other providers in the U.S. market include 13th Avenue, Cumulus Funding, Upstart, Pave and Vemo.
Better Future’s James advised one of the more well-known experiments in ISAs, now underway at Purdue University. The Purdue program now has more than 750 students, who have received about $9.5 million funding. The university initially financed the program from its endowment, and is now raising capital from outside investors after seeing returns of 5% to 7%. Schemes are also under way at Clarkson University in New York, Lackawanna College in Pennsylvania and other universities.
Last month, coding bootcamp General Assembly launched its ‘Catalyst’ ISA program, which allows students to take courses in web development, data science, or UX design, then pay back their balances with 10% of their income (if they make more than $40,000) over 48 months. In April, San Francisco tech training startup Holberton School raised $8.2 million from Daphni, Trinity Ventures, Omidyar Network and others for a similar model which requires repayment over three years.
Even billionaires are getting in on the action. Blackstone’s Tony James has set up the Education Finance Institute to work with universities, public agencies and students to expand the use of ISAs. The agreements, he said, “could take a lot strain out of the system and be healthier and more aligned all around.”