The Bank of Mum and Dad (and its parent company, the Bank of Gran and Grandad) have done thriving business as cost pressures on younger generations mount.
For those who can afford it, helping their children or grandchildren to access the property ladder and financing university fees upstream confers significant financial advantages. If you had to pick just one, how might sweeping changes to the student loan system change the equation?
Under the current system for post-2012 graduates in England and Wales, only the highest earners will repay their student loans (and interest) in full – around one in four borrowers.
The rest will pay a 9% ‘graduate tax’ on earnings above the repayment threshold of £27,275 for up to 30 years, when the loan is forfeited.
Suppose the parents have a lump sum equivalent to the average graduate debt of around £45,000. For the majority of students who will never repay in full, it probably makes more sense to use it as a housing deposit.
There are a lot of variables to consider, but if your child never earns more than the repayment threshold, they won’t have to repay a penny. What they could save in rent versus mortgage payments over decades could exceed the “college tax” they would pay – plus, they would end up with an asset.
What about the proposed new system? From 2023, future graduates will start repaying their student loans earlier (the threshold rises from £27,275 to £25,000) and will continue to repay them for much longer (up to 40 years).
The sweetener is a lower interest rate. The current maximum interest rate on student loans is RPI plus 3% (note that rates are capped at the equivalent rate in effect for unsecured personal loans).
In the new system, the rate would simply be RPI.
These may seem like small adjustments, but they will have a big impact on graduate finances for decades to come.
About 60% of prospective students will now repay their loan in full, according to an analysis by the Institute for Fiscal Studies. Could this therefore strengthen the arguments of parents who try to repay in advance?
Surprisingly, if your child is among the highest earning graduates, the answer is no.
Top earners will earn £24,000 under the new system, according to the IFS, as lower interest rates and a faster repayment rate will allow them to pay off their debts faster.
There is little difference for the lowest earners, who will pay nothing at all if their income remains below the £25,000 threshold.
The overall impact is about the same for those with higher average incomes (who typically earn around £46,000 by age 30). Under the current system, they would not have repaid their loans in full. Now they will, but the lower interest rate makes up for the extra years of repayment.
And the biggest losers? Graduates with lower average incomes (typically earning around £37,000 by age 30) who would need to repay around £19,000 extra, according to the IFS. They won’t earn enough to repay all of their loans and interest, so they’ll effectively be locked into a higher tax rate for another 10 years.
It’s hard to predict your child’s earning potential over the next 40 years, but once they graduate and land their first job, it’s a little easier.
Since those with high incomes will pay off their debts much faster, could parents try to help low-income siblings first?
And should they prioritize helping daughters over sons?
According to the IFS, men will pay around £5,500 less under the new system, while women will pay around £6,600 more.
“That’s because women tend to spend more time out of work than men and earn less on average than men even when they’re working,” says Ben Waltmann, senior research economist at IFS. “As a result, men are much more likely to repay their loans and benefit from lower interest rates.”
If you can afford to help your kids with student loans or home deposits, they’re really lucky.
The obvious risk for millions of low-income people who continue to pay off student debt into their 60s is a much lower level of retirement savings, especially if they are paying off a 40-year mortgage.
I also wonder if students and parents really understand how the system works.
Your Juno, a financial education platform for Gen Z women in their twenties, was alarmed to discover that its members listed ‘prepayment of student debt’ as one of their top priorities. financial.
The urge to wipe out debt is laudable, but student loans don’t work like other debt. Paying back a few hundred extra pounds is like choosing to pay an extra tax.
“So many people have student debt, but so few people actually understand it,” says Margot de Broglie, co-founder of Your Juno. “Why isn’t this properly explained when people take out student loans?”
Data from the Student Loans Company shows that in the last financial year 117,700 borrowers in England opted to make ‘voluntary repayments’ totaling £317million, an average of £2,700 per person.
It is impossible to say whether this money comes from wealthy parents or worried graduates. The Refunds webpage warns to only do this “if you think you can pay off the entire balance before the end of the term”, but how many understand that?
In future the government will make it impossible to get student loans unless you are proficient in GCSE maths and English. Why not introduce an additional requirement: pass an online module on how student finances really work?
This could cover the difference between tuition fees and maintenance loans, and how the maximum amount you can borrow depends on your parents’ income (wealthier parents are tacitly expected to take a larger share initial costs).
Given the bias inherent in the new system, we need to ensure that students understand how lifetime costs may vary depending on their income and how reimbursements will be taken from their future salary (perhaps they could take a refresher module before graduation).
This means that prospective students will enter into those long-term financial contracts with their eyes open and hopefully begin to think about the biggest financial equation of all – whether a college degree is worth it.
Finally, some of the money recovered from higher reimbursements should be invested in world-class career counseling for school and college graduates.
Decisions about what to study, and even whether to go to college, should not be rushed. It is essential that the graduates of tomorrow do not spend the next 40 years regretting their decision.