The US Congressional Budget Office (CBO) has released new forecasts for federal student loan programs. These forecasts show an increase in loan volumes and falling interest rates. Overall, the CBO estimates that federal student loan programs will not be profitable for the federal government. Costs of 20 to 26 cents per dollar lentdepending on the type of accounting method.

The annual student loan volume will increase This is due to an increase in the number of borrowers and an increase in the average loan amount per borrower.

The amount of loan subsidies depends on the type of loan and the repayment plan. Income-based repayment plans are much more expensive than fixed-term repayment plans. The CBO predicts that more than Two-thirds of government education loans are repaid in income-based repayment plans.

FCRA vs. Fair Value Accounting

Estimates of the cost of a student loan over the entire term are based on a net present value calculation, which discounts future cash flows to the present.

The net present value calculates how much money would have to be invested now at a rate of return equal to the discount rate in order to make future loan payments.

Cash flows include amounts paid out and repaid less amounts defaulted and amounts forgiven or forgiven.

The subsidy cost is then the difference between the net present value and the amount originally paid out. The “subsidy cost” is the dollar amount taxpayers pay for the program.

The CBO uses a methodology based on the Federal Credit Reform Act of 1990 (FCRA) that bases discount rates on interest rates on Treasury securities of comparable maturity. For example, cash flows two years from now would be discounted based on the interest rate on two-year Treasury securities.

Fair value accounting, on the other hand, uses a discount rate based on market value. This takes market risk into account, whereas FCRA does not. Fair value accounting typically results in a higher discount rate than FCRA. A higher discount rate results in a lower net present value of future cash flows.

Critics of federal student loan programs argue for fair value accounting because it makes federal student loan programs appear more expensive. However, the federal government is not subject to the same market risk as private investors, so the discount rate under fair value accounting is likely too high. Proponents of fair value accounting are also selective in their application of fair value accounting, applying it only to programs they do not support rather than to all programs. Valuations under fair value accounting are more volatile than valuations under the FCRA, more subjective, and more susceptible to manipulation.

In any case the costs of the federal student program have increased significantly in recent yearsregardless of whether one applies FCRA or fair value accounting, because interest was waived during the payment holiday, the number of borrowers eligible for forgiveness and relief increased, the resumption of repayment was delayed by student loan approval, there was a shift in the distribution of borrowers among repayment plans, and there was a net change in the terms of the repayment plans due to the implementation of the SAVE repayment plan.

This, in turn, affects the subsidy rates on government education loans. It also affects the revaluations and changes in loan amounts used to measure cumulative subsidies.

Projected increase in student loan volume

The CBO projects that the annual volume of federal student loans will increase from about $85.9 billion in fiscal year 2024 to $89.9 billion in fiscal year 2025. It will then grow by an average of $2 billion to $3 billion annually until it reaches $112.0 billion in fiscal year 2034, an annual increase of 2.7%.

The increase in the total volume of federal student loans is partly due to an increase in the number of borrowers from 12.3 million in fiscal year 2024 to 12.5 million in fiscal year 2025 and finally to 13.7 million in fiscal year 2034. This represents an annual increase of 1.1%.

At the same time, the CBO expects the average loan amount to increase from $7,008 in fiscal year 2024 to $7,192 in fiscal year 2025 and finally reach $8,170 in fiscal year 2034. That represents an annual increase of 1.5%.

These forecasts may be inaccurate. On an academic year basis, federal student loan disbursements have steadily declined, from $106.1 billion in the 2011-12 academic year to $76.7 billion in the 2022-2023 academic year.

The CBO’s forecasts assume a reversal of this trend and an unusually strong increase in loan disbursements of 12 percent within a year.

Expected subsidy rates (FCRA)

The subsidy rate for all government education loans is 20.2% in fiscal year 2024. This means that every dollar borrowed by the federal government costs the federal government, on average, about 20 cents.

This is significantly higher than shortly before the pandemic, when the figure was 0.25%.

CBO projects that the subsidy rate will decline to 18.1% in fiscal year 2026 and then continue to rise until it reaches 19.5% in fiscal year 2034.

The subsidy rates for fiscal year 2024 vary depending on the type of loan.

The negative number for Parent PLUS loans means that the CBO calculates that the Parent PLUS loans are profitable for the federal government under FCRA, which yields 17 cents per dollar borrowed, while the other loans have net costs of 19 to 35 cents per dollar borrowed.

Related: Why Parent PLUS loans are excluded from most repayment plans and debt relief options

Costs of student loans with fixed repayment plans

The subsidy rates for fiscal year 2024 also depend on the repayment plan. For repayment plans with a fixed repayment period, the subsidy rates are:

• Subsidized student loans: 7.5%
• Unsubsidized student loans: -4.0%
• Unsubsidized graduate loans: -15.7%
• Grad PLUS loan: -26.3%
• Parent PLUS loan: -16.5%

In addition to subsidized student loans, which do not charge interest during the study period, the grace period and the deferment period, Loans with fixed repayment periods are profitable for the federal government.

Student loan costs for income-dependent repayment plans

However, the subsidy rates for loans under income-based repayment plans in fiscal year 2024 are all positivewhich means net costs for the federal government.

The funding rates are:

• Subsidized student loans: 47.7%
• Unsubsidized student loans: 38.9%
• Unsubsidized graduate loans: 29.5%
• Grad PLUS loan: 34.4%

No subsidy rate is provided for Parent PLUS loans because few borrowers choose income-driven repayment plans, partly due to limited access to income-driven repayment plans.

The CBO projects that 68% of subsidized student loans will be repaid in an income-driven repayment plan in fiscal year 2025, 73% of unsubsidized undergraduate loans, 76% of unsubsidized graduate loans, and 85% of Grad PLUS loans. Income-driven repayment plans will be the default choice (pun intended).

These projections may be affected by pending litigation seeking to block the SAVE repayment plan, as well as the Biden administration’s second attempt at comprehensive student loan forgiveness.

Projected subsidy rates (fair value accounting)

Under fair value accounting, CBO estimates that the subsidy rate for all federal education loans will be 26.4% in fiscal year 2024, 6.2 percentage points higher than the 20.2% subsidy rate under the FCRA.

Broken down by loan type, the subsidy rates for the 2024 financial year under fair value accounting are:

• Subsidized student loans: 39.1%
• Unsubsidized student loans: 32.3%
• Unsubsidized graduate loans: 24.3%
• Grad PLUS loan: 30.8%
• Parent PLUS loan: -3.1%

Therefore, Parent PLUS loans are still profitable under fair value accounting, but significantly less than under FCRA, namely -16.5% versus -3.1%.

With fixed repayment terms, the subsidy rate for unsubsidized student loans fluctuates to 3.7%. Student loans and parent loans are less profitable. Subsidy rates also increase with income-based repayment plans.

Projected interest rates

The CBO projects that interest rates on federal student loans for undergraduate students will fall from 6.53% in 2024–25 to 6.19% in 2025–26, then fall to 5.64% in 2027–28 and rise to 6.16% in 2034–35.

Similar projections exist for federal graduate student loans and PLUS loans. The CBO projects that interest rates on these loans will fall from 8.08% and 9.08%, respectively, in 2024–25 to 7.74% and 8.74%, respectively, in 2025–26, then fall to 7.19% and 8.19%, respectively, in 2027–28, and then rise to 7.71% and 8.71%, respectively, in 2034–35.

If the Federal Reserve lowers interest rates later this year, it is safe to assume that they could also be lower in the next academic year.

Final thoughts

These updated projections show that CBO expects the federal student loan program to cost the federal government more in the coming years. Before the pandemic, the government spent about $0.25 per $100 of loans. In fact, the federal student loan program has almost paid for itself.

However, the CBO projects that the government will ultimately have to spend $20 per $100 of loans as more borrowers become eligible for debt forgiveness, defaults rise due to various recovery programs, and student loan repayment plans have changed significantly.

This corresponds to an 80-fold increase in the planned subsidies in a relatively short period of time.