Are ISA's really more expensive than a loan?

22.06.20 06:17 PM Comment(s)

In recent years, income share agreements (ISAs) have been touted as an alternative to college loans. The people pushing for this change claim that they are more balanced in risk vs reward for the person pursing a college degree. While that may be true, many critics claim that they are often more expensive and just a predatory loan with a new name. They argue that an ISA is more expensive than just using a traditional loan, but is that really the case?

ISA's aren't loans

It's hard to compare apples to oranges. While both ISAs and loans are used to help with funding, especially for college, the way they work and are repaid is extremely different. These differences lead to confusion about what an ISA can cost someone in the end.

The biggest difference between an ISA and a loan is that an ISA is not based off of interest. ISA payments are tied to a percent of your income, so the cost will be variable and the total amount paid will be unknown. With a loan, you have a principal balance and an amount of interest that accrues, so you know how the total will change day to day. However, the ISA accounts for changes that may make you unable to pay by pegging the payment to your income.

Another difference between the two is that ISAs define the payment term and you know that you will never be in the contract longer than a certain amount of time, even if you can't make payments. In a loan, if you can't make payments, the balance will continue to rise until you are unable to ever pay it back. With an ISA, your obligation will end after a set time, even if you don't repay the original amount given to you. 

ISA Cons

Like most things, ISAs aren't perfect and have flaws. It is true that you could pay more with an ISA, but that entirely depends on your situation. If you are successful in your career and your income rises at a fast rate, then you may pay more than you would have with a loan. However, most ISAs also have a built in payment cap. This payment cap, normally up to 2.5x the amount funded, ends your ISA immediately if you reach the amount. It can protect you from paying astronomical amounts if your income really goes up. 

Another downside of an income share agreement is the uncertainty it presents. With a loan, you know of the interest rate, the expected monthly payment, and the term. When you use an ISA, because your payments and income fluctuate, you aren't always sure how much you will end up paying. However, you are certain about the max amount of time it will take. And you can take solace in the fact that your payments will always be affordable. 

ISA Benefits

But income share agreements are still beneficial. The greatest benefit is that payments are always affordable. Because they are just a small percent of your income, you know you can make your payment each month. In fact, most income share agreement programs include a minimum level of income of periods. If your income ever fall below such a minimum level, you will enter deferment and not be responsible to make any payments. You also don't have to worry about interest building up and a growing balance during these periods of nonpayment. 

Your payments scale with income. So early on they're cheaper than later on, when your income grows. This makes your payments affordable in the part of your life when you need it most. You can think of this as back-loading your contract to pay more when you're earning more and save money upfront. 

We talked about how you can pay more with an ISA, you could also pay less than you would with a loan. Again, if your situation allows for it, you can save money with an ISA. This will, of course, depend on your individual situation. However, if your income doesn't grow at a crazy rate, your payments won't grow that much either and ultimately, your payments will be less than with a loan. There's even special cases where you won't pay anything through an entire ISA. It depends completely on your unique situation.

Final Thoughts on ISAs being more expensive than a loan

While ISAs have their benefits and their cons, they can still be a great option for many people. ISAs can also be designed to be predatory. That's why it's important to look at the details. While an ISA could be more expensive than a loan, it depends on your situation and what happens to your income over time. If you do really well in life, you would end up paying more in an ISA than a normal loan, but it means you're doing well in life. An ISA can balance the risk and reward of funding by making sure payments are always affordable.

This article was written by ​Defynance​, a company that specializes in providing ISAs in order to refinance student loan debt.