Notes on Income Share Agreements

In recent years Income Share Agreements have caught on as a new mechanism to better align incentives in fields such as education finance. What is an income sharing agreement? Here’s the basic definition from Wikipedia

An income share agreement (or ISA) is a financial structure in which an individual or organization provides something of value (often a fixed amount of money) to a recipient who, in exchange, agrees to pay back a percentage of their income for a fixed number of years.

In the simplest terms – I pay you something today (or pay for your degree, or provide you some educational program, etc), and you pay me X% of your income for a set period of time. 

From an ‘alignment of incentives’ perspective, depending on who does the paying this can have a big advantage over traditional student loan financing. If you have to pay a university $200,000 for a degree, they have a strong incentive to take your money, give you a credential, and send you on your way into the world. If you have to pay a university 10% of your income for five years for a degree, they have a strong incentive to make sure you are developing skills that will provide a significant boost to that income, because they get paid more for it too. As student debt has become a much larger issue in today’s society, ISAs have gotten more focus. 

In the traditional university setting, Purdue University is emerging as a leader in ISAs under Mitch Daniels’ leadership, with a ‘Back a Boiler’ program they began in fall 2016 – the first such program offered at a four-year university in the US. Sophomores, Juniors, and Seniors can borrow funds in lieu of private student loans, with a variable percentage of your income (varied by major) repaid over 7-10 years. All ISAs include a total repayment cap limiting the total amount a student would have to repay. The program remains quite popular as of fall 2019. More info from the school is available here, and The Atlantic does a pretty good job covering it here.  

Here’s a nice WaPo opinion piece on ISAs from Mitch Daniels, too.

Perhaps the best known example outside of colleges is Lambda School, a startup and coding academy where students pay no tuition but then pay 17% of their income for two years (or $30,000 in repayments, whatever comes first) once they get a job making over $50,000 after graduation. Assuming the school does its job, total repayment often ends up being more than what a normal coding bootcamp would do. But also assuming the school does its job, students end up in a much better position than they were before. There’s about a zillion articles on Lambda School, but here is a random assortment of them. 

Good a16z podcast on ISAs with Austin Allred here.

While many see these as a solution to the student loan crisis, as these programs have grown in popularity, some politicians and others have begun to sound alarms that ISAs can cause harm to borrowers, like resulting in very high interest rates to the borrowers. I think it certainly makes sense to have some sort of guardrails in place, to ensure transparency and ensure borrowers understand what they’re signing up for, but I have to confess I don’t understand that particular criticism at all. Again, it comes back to alignment of incentives. The high interest rate (compared to a traditional student loan) scenario only occurs when an individual ends up being successful and getting a job and achieving the financial outcome that everyone says they want. If the school fails to deliver the sort of education or financial outcome that results in the student achieving success, they don’t end up worse off at all! We can call it another form of a ‘student loan,’ but at the end of the day it’s equity, not debt. 

Another really interesting aspect is when this notion of income and incentive alignment will start to spill over into other domains. For example, here’s Placement, a new startup helping to place jobseekers in new positions (and help them relocate to new markets, if useful) for a 10% income share in their new jobs. It’s an interesting idea which might end up being much more useful for jobseekers than the typical headhunters who work for companies, not candidates.  

As a last resource, Here’s CareerKarma’s 2019 ‘State of the Market’ report on ISAs – including a pretty helpful market map on who’s doing what in the new field. 

Somewhat-relatedly, government FFELP student loans have started having somewhat of an income-based repayment format as a new option for student borrowers. This doesn’t align incentives the way a true ISA would, but it helps make payments more affordable for borrowers, which is nice. Here’s some info about it from the Manhattan Institute and why enrollment in such programs needs to be radically simplified to help borrowers.

Last updated 1 January 2020