Student debt can be taxing

• New idea reveals how Britain can deal with student debt
• Current student loan system has not carried popular support since its inception
• England should move from a fees system to a graduate tax
• Remove interest charges and replace with an index against inflation
• Have repayment at a fixed percentage of income above a threshold and capped with higher repayment for higher earners
• Faster repayment and lower default rate means graduates are freed from debt earlier but the state gets a better return from its investment

The current system of student loans by which university education in England is financed has been dogged by controversy since it was brought in by the Labour Government under Tony Blair. This was compounded by fees rising to £3000 per annum in 2004 and to £9250 under the Coalition Government. Critics of the policy regularly claim that it discriminated in favour of middle class students and those from well-off backgrounds.

At the election in June the Labour Party pledged to scrap tuition fees altogether and insinuated they would look again at dealing with the debt burden by students that had already graduated. Student voters are thought to have flocked to Labour as tuition fees financed by student loans shift the finance of university education away from older taxpayers towards a cash-strapped younger generation.

A new report by the Adam Smith Institute says that while the current scheme has positive features - including the increased numbers of pupils from disadvantaged backgrounds going to university - the complexity and fears of high levels of personal debt continue to dog the system.

Repayment has proved difficult in practice with the default rate estimated at 45% and the average student accruing £5,800 of interest before they graduate. The system of funding also incentivises students and institutions towards courses that do not, on average, lead to high salaries. Institutions that offer low-cost arts and humanities courses now attract 47 percent more income per student than they did in 2011, whereas the highest-cost courses only attracted 6 percent more income.                 
            
Madsen Pirie, President of the Adam Smith Institute and author of the report, says that all this is undermining the government’s desire to ensure a fully funded system and boost take-up of places in core subjects such as science, maths and engineering.

While loans given to students are not like conventional loans - with repayment delayed until earning and dependent on salary - it operates like a graduate tax. The current system has the disadvantages of both tax and loan based systems. Students are told the full value of debt they are accruing at the time when their earning power is at its weakest. Adult taxpayers that earn well are funding the courses of those that earn little. Education is not perceived as free and not all graduates end up paying the tax that funds it.

The suggestion is made in the paper for a new model of graduate tax, one capped at a level commensurate with the amount of education consumed and with a high threshold for repayment. Dr. Madsen Pirie suggests repayment could start at £22,500 per year, above the current level, with a 5% tax on salary level, rising to 8% beyond an earnings threshold of £30,000. This could allow for quicker repayment and reduce the level of non-payment in the system.
                    
The report also calls for incentives to boost take-up of places in a number of core subjects, those that have high remuneration for graduates. One suggestion made is to remove the obligation to refund their education if awarded a first class honours degree in a core subject. What constitutes a core subject would be decided by a body of academics so people actually involved in education were making the judgements, rather than politicians or civil servants.          
            
Students will see in this tweaked system that they can receive an education free at point of take-up and would see repayment as a tax based on their earnings. They will not pay fees when they enrol and will not have to take out loans to do so - removing the fear of large personal debts built up during a time they are not earning. This gives students more security, universities a greater degree of independence and the nation a continued flow of highly qualified graduates.    

Madsen Pirie, President of the Adam Smith Institute and author of the report, says:

“Students in England have been short-changed by a complex and expensive loans system which leaves them feeling a huge burden of debt, made worse by high interest rates. A simple and fair reform like that proposed in the paper, would allow students to pay for the benefit of their education through a graduate tax surcharge and without interest.”

For further comments or to arrange an interview, contact Matt Kilcoyne, Head of Communications, matt@adamsmith.org | 07584 778207.

The full report is available to read here.

The Adam Smith Institute is a free market, neoliberal think tank based in London. It advocates classically liberal public policies to create a richer, freer world.