IRS Should Ease Loan Refinancing Process, Help Student Debt

For over 50 years, Bloomberg BNA’s renowned flagship daily news service, Daily Tax Report® has helped leading practitioners and policymakers stay on the cutting edge of taxation and...

By Colleen Murphy

May 11 — A push from lawmakers to clear obstacles keeping nonprofit lenders from offering student loan refinancing could give students and families more flexibility, higher education interest groups said.

Sens. Chuck Grassley (R-Iowa) and Jack Reed (D-R.I.) are among a bipartisan group of lawmakers who wrote to the Internal Revenue Service and Treasury Department, urging officials to make it easier for nonprofit lenders to use tax-exempt bonds to refinance student loans.

That change “will result in more options and a better deal for more Americans working to pay down their student debt,” the senators said in their May 5 letter.

Reps. Todd Young (R-Ind.) and John B. Larson (D-Conn.) are leading the group's effort on the House side. In an identical letter dated May 5, House lawmakers asked for additional clarification on Notice 2015-78, which explained requirements for tax-exempt bond financing relating to state supplemental student loan programs (220 DTR G-4, 11/16/15).

Matthew A. Crellin, a senior associate at the National Center for Higher Education Management Systems, said the proposed changes would “expand the range of borrowers” who can refinance by clarifying that nonprofit lenders, like states, can follow the practices of for-profit lenders.

“This does seem to introduce a new level of flexibility for students (and families) to pay down student loan debt,” Crellin told Bloomberg BNA in an e-mail.

Don’t ‘Hamstring’ Refinancing

The lawmakers said the IRS should clarify that tax-exempt bonds issued for refinancing aren't refunding bonds, particularly if the issuer uses a new volume cap allocation.

“If this were the case, it would greatly hamstring any refinancing program,” their letters said.

The IRS should explain how loan issuers can determine if an original loan meets size limitations, the lawmakers said. The group said a safe harbor provision could “provide certainty” that the refinancing bond’s tax-exempt status wouldn't be questioned if due diligence requirements are met.

Requiring issuers to retroactively confirm original loans were in compliance “would be a highly burdensome and time-consuming process,” the letters said.

‘A Family Responsibility.’

The November notice didn't address if a student can refinance a parent’s loan or if a parent can refinance a student’s loan, which the members said is necessary to give borrowers flexibility.

The letters said the option should be available regardless of who took out the loan because “financing the costs of higher education is a family responsibility” and a borrower’s financial situation could change in the time between taking out a loan and refinancing.

Under current rules, states can issue tax-exempt bonds based on the student’s state of residence or school attendance. Similar flexibility should be extended to parents, the letters said.

Crellin said having that option is necessary because parents may help their student qualify for a loan without understanding the repayment process.

“This is a consumer information issue, but circumstances also change where one party or the other are able to repay the loan, and having this option could feasibly ease the burden on students and families in the future,” he said.

Options for Students

Because of the high interest rates for student loans, the option to refinance “is probably worth analyzing,” D. Bruce Johnstone, professor at the University at Buffalo Graduate School of Education, told Bloomberg BNA on May 11.

Beth Akers, a fellow at the Brookings Institution’s Center on Children and Families, said refinancing with a private lender means giving up “safety nets” that come with federal student loans, like income-based repayment and forgiveness.

Still, she said refinancing could be a good option for borrowers who have consistent earnings and strong credit, because they can lock in terms that are more generous than their federal loan.

“Granting nonprofit lenders the ability to pay for refinancing operations with a tax advantage means that refinancing could become a better deal for some students, with lower interest rates, and more widely available,” Akers said in an e-mail.

To contact the reporter on this story: Colleen Murphy in Washington at cmurphy@bna.com

To contact the editor responsible for this story: Brett Ferguson at bferguson@bna.com

For More Information

Text of the senators' letter to IRS and Treasury is in TaxCore.