Federal Student Loans: It's the Administrative Costs

While all of Washington is focused on the topic of federal student loans, now is a good time to bring up a little-known but important point about what these loans cost the government – and no, this is not about risk or fair-value accounting. It is much easier to understand and not the slightest bit controversial, but makes a big difference.

Whenever federal budget agencies report the cost of the student loan program, they almost always exclude the cost of actually running the program. Instead, the figures include only the projected interest payments, default losses, collections, etc. on the loans, also called the subsidy cost" of the loans. What’s missing is a measure of what the U.S. Department of Education spends (in-house or on contractors) to disburse loans, collect payments, process applications, answer borrower questions, and the like.

Excluding these costs has nothing to do with the debate over whether loan program costs reported under the Federal Credit Reform Act (aka the official government estimates) or fair-value methodology best measure costs. Under either approach, the Congressional Budget Office usually excludes administrative costs.

Why? The practice is rooted mainly in the fact that the student loans themselves are permanently funded unless Congress changes the law (i.e. an entitlement) and therefore exist on the “mandatory” side of the budget. Meanwhile, administrative costs are funded one year at a time through the appropriations process and therefore appear on the “discretionary” side. But practically speaking, they are all costs of the loan program. Making matters more complicated, budget agencies tend to report the two types of costs using different accounting methods (accrual for the loans and cash for the administrative costs) so that they can’t be compared or added together easily.

Fully measuring loan program costs means that one must do some digging – through the pages of the president’s budget appendix. There we find that the administrative cost of a federal student loan is 1.7 percent of the amount lent. That is the total lifetime cost of administering the loan in today’s dollars. For example, the government will incur $17 in total administrative costs (in today’s dollars) on a $1,000 loan over the entire duration of the loan.

That might not sound like much, but when the government disburses over $100 billion annually and over $1 trillion in a 10-year budget window, administrative costs can be measured in billions of dollars. But the administrative costs are important for another reason. The table below shows that, with administrative costs factored in, federal loans to undergraduates over the next five and 10 years will cost $5.1 billion and $16.7 billion, respectively, and almost all of those costs are due to administrative expenses. Yet when journalists, lawmakers and even budget agencies cite the cost of the federal student loan program, they aren't including those administrative expenses.

Note that the loan costs in that calculation are the official Congressional Budget Office estimates done according to the Federal Credit Reform Act, plus the official administrative expenses as reported by the U.S. Department of Education in the president’s budget request. They are not fair-value estimates. Officially then, federal loans to undergraduates, even using official government cost estimates, are made at a cost to taxpayers, not a profit as some claim.