A New University Year With an Old Issue…

The new academic year is beginning, with important changes for some new entrants to the system. However, there are also some familiar aspects that have not changed for students.

The new student loan system in England

Student finance is a devolved responsibility, meaning that each of the UK’s four constituents adopt a different approach to how university costs are covered. In England, with by far the largest number of students, the system has changed, but only for those starting their courses this autumn. To date, Scotland, Wales and Northern Ireland have not made any similar reforms, but over time costs may force them to move in a similar direction.

The two main changes to English student finance are:

• The maximum repayment period before any outstanding student loan is written off has been extended to 40 years (from the April after ending the course). The previous generation of students faced a maximum 30 years.

• Once repayment begins, it will be at the rate of 9% of income above £25,000. This threshold will be frozen until April 2027, after which inflation-linked increases are planned…but plans do not always become reality. The threshold for existing graduates was meant to be linked to earnings growth (usually higher than price inflation) but has been fixed at £27,295 since April 2021.

The combination of the extra ten years of repayment period and a lower income threshold that grows more slowly in the longer term, is projected to make a significant difference to how much student debt is eventually written off by the Government. One estimate is that the proportion of loans that will be repaid in full will rise to 52% from the current 19% and the cost of student finance to the Treasury will more than halve.

The impact on graduates in the new system is subtle. Compared with their immediate predecessors:

• They will begin graduate life making marginally greater loan repayments – probably no more than about £20 a month. That gap will widen over time if – and it is a big if – threshold increases are inflation and earnings growth linked.

• Much more significant is that any outstanding loan will not be written off when they reach their early 50s – there will be another decade to run, almost through to retirement.

Old fashioned inflation and modern interest

Interest on student debt has traditionally been linked to inflation, as measured by the March RPI each year. The Government has generally abandoned the use of RPI, which is no longer an official statistic, but continues to apply it where the Treasury can benefit (currently RPI is running at 9.0%, 2.2% higher than CPI). The maximum interest rate for students in the new loan scheme will be RPI, whereas the existing scheme has a sliding scale of interest that can reach RPI +3%. In both instances, there is an override which puts a market-related cap on the interest rate charged if commercial rates are lower than the RPI-linked charge.

From 1 September 2023 to 30 November 2023, that cap is 7.3%. The relevant RPI (for March 2023) was an eye-watering 13.5%, which implied interest for existing graduates could have been as high as 16.5%. At current interest rate levels, many graduates will see their loans increasing despite their supposed repayments. For example, a graduate in England with student debt of £40,000 will need to be making repayments of just over £243 a month simply to cover 7.3% interest. On the current £27,295 threshold that implies income of close to £60,000 a year.

The need to plan and review

Under the previous loan scheme, about four out of five graduates are projected to see their outstanding loans written off. That has meant that paying off part of the loan early or even not taking the loan at all was potentially an unwise choice. In effect, for most graduates, student loan repayment has been a de facto 9% graduate tax, payable for 30 years.

The new loan scheme is projected to lead to about half of students repaying their loan before the 40 years write off point arrives. If the odds on clearing the debt are evens, that makes any decision on early repayment (or not taking loans) more difficult. If the debt is not going to be written off, the focus falls on the interest rate charged.

Similar issues arise for student loans elsewhere in the UK, as the broad loan structures are much the same.