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Economix Blog: Let Your Rich Uncle Pay for College

July 15, 2013 by Leave a Comment

Nancy Folbre, economist at the University of Massachusetts, Amherst.

Nancy Folbre is an economics professor at the University of Massachusetts, Amherst.

If you borrow money to go to college, you should be able to pay it back from your higher post-graduation income. Rather than a loan, you could offer an equity investment — a share of your future earnings.

Today’s Economist

Perspectives from expert contributors.

Most education in modern economies is financed either through debt or equity. The big issue is who’s making the investment and on what terms.

The Oregon state legislature dramatized this issue with its decision to develop a pilot program to eliminate tuition and fees for students in the state university system who agree to pay about 3 percent of their income for the next 20 years to help finance the education of future students.

The “pay it forward” scheme, proposed by students at Portland State University and building on a model developed by the Economic Opportunity Institute, has re-energized debate over ways of alleviating the burden of student debt. As it happens, the Oregon legislature voted to pursue it on the same day that federal student loan interest rates doubled to 6.8 percent from 3.4 percent.

Would you be better off paying 3 percent of your income for 20 years, or 6.8 percent on a specific loan amount? The answer depends both on your projected income and the amount you need to borrow. In general, students from low- and middle-income families would fare better than students from rich families under the Oregon plan, because they are more dependent on loans to pay for college.

The Oregon plan would improve educational opportunity and reduce income inequality, raising more payback money from high earners than low earners. Yet it is less egalitarian than the largely free public university system that once existed in the United States and currently survives in countries including Denmark, Sweden and Norway.

Subsidized public higher education is also based on a “pay it forward” principle. College graduates are expected to earn more and, as a result, pay more in income and other taxes over their lifetime. The reciprocity is just less direct. Instead of helping pay only for future college students, graduates help reimburse all past taxpayers — including the older generation — for the taxes they invested in previous years.

At the other end of the spectrum, “human-capital contracts” can be fully privatized, with students offering investors a share of their prospective earnings in return for an upfront investment. This model, originally suggested by Milton Friedman, developed in some detail by Miguel Palacios of the Cato Institute and advocated by Luigi Zingales in a commentary in The New York Times, was put into practice by a student-loan company called My Rich Uncle about 10 years ago.

Both socialized and individualized human-capital contracts help solve an important problem, increasing productive investments and contributing to economic growth. Yet neither type of contract is foolproof.

Critics of public investment in higher education often contend that it is inefficient, because it subsidizes students who goof off along with those who indulge in the development of skills with little market payoff — such as theater arts. Public subsidies can also have the effect of reducing pressure on providers of higher education to cut costs or to encourage students to develop job-specific skills.

Advocates of public investment in higher education assert that there are compensating benefits. They often couch their arguments in terms of political rights to educational access and enhanced equality of opportunity. These political rights have economic consequences. Students develop general skills in college that don’t necessarily pay off in higher wages but may nonetheless generate tangible benefits for themselves and others. College graduates may become better informed citizens, more successful parents and more creative members of society.

Some students who may not seem like a good bet either for private investors or public taxpayers at age 18 can be transformed by their college experience.

It’s pretty hard to assign a specific value to their human capital, however you define it.

The lifetime payoff to a college degree depends on many factors other than individual effort or choice of major, including global supply and demand for educated workers, and a business cycle that economists don’t fully understand.

On the Marginal Revolution Web site, Tyler Cowen registers his skepticism with the Oregon model, suggesting it would suffer from adverse selection: “At the margin I would expect this to attract people who don’t have a vivid image of the distant future.”

But if everyone’s vision of the distant future is blurred, public investment in human capital becomes especially important. The large number of students taking part in the payback scheme pools risk and provides more effective insurance against unanticipated declines in earnings.

This insurance helps encourage human capital investment. As the Economic Opportunity Institute report points out, “pay it forward” systems in Australia and Britain have contributed to increased college enrollments there.

Do you doubt the significance of risks to private investments in human capital? Consider that the lending enterprise known as My Rich Uncle declared bankruptcy in 2009, exercising a legal privilege of getting out from under its obligations that most student debtors are denied.

Students who don’t have a family member or other angel investor willing to finance their college education might consider moving to Oregon. Or, they could start organizing to win more generous support from their Uncle Sam.

Article source: http://economix.blogs.nytimes.com/2013/07/15/let-your-rich-uncle-pay-for-college/?partner=rss&emc=rss

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Today’s Economist: Casey B. Mulligan: Massachusetts Employees Will Keep Their Health Plans

May 22, 2013 by Leave a Comment

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Casey B. Mulligan is an economics professor at the University of Chicago. He is the author of “The Redistribution Recession: How Labor Market Distortions Contracted the Economy.”

Massachusetts and a few neighboring states are likely to experience the Affordable Care Act a lot differently than the rest of America.

Today’s Economist

Perspectives from expert contributors.

Massachusetts is often held up as a window into America’s health insurance future, because it embarked on what came to be called the Romneycare reform six years ago. Like the Affordable Care Act provisions going into effect nationwide next year, Romneycare aimed to increase the fraction of the population with health insurance by imposing mandates on employers and employees and by subsidizing health insurance plans for middle-class families without employer plans.

Because the subsidized plans are available for only low- and middle-income families whose employers do not offer affordable health benefits, some analysts fear employers around the nation will drop their health benefits as the Affordable Care Act goes into full effect, resulting in millions of people losing the opportunity to get health insurance through an employer.

But some people say they believe this fear is likely to be unfounded, because the propensity of Massachusetts employees to receive employer-sponsored health insurance was hardly different after Romneycare went into effect than it was in the years before.

The details and dollar amounts in the Massachusetts health care law differ from the national Affordable Care Act, and for that reason alone I hesitate to infer too much from the Massachusetts experience. Even if the two laws were essentially the same, the effects in Massachusetts could be different than the national effects because Massachusetts has a different population and business environment than the rest of the nation.

Last week I explained how specific types of employers could be expected to drop their health benefits during the next couple of years: those employers that currently offer benefits but nonetheless pay much of their payroll to people living in households below 300 percent of the federal poverty line, who are eligible for the most generous federal subsidies as soon as their employer ceases to offer benefits.

Massachusetts has an extraordinary fraction (almost two-thirds) of its population above 300 percent of the federal poverty line, and as a result practically all Massachusetts employers will prefer to retain their health benefits over the next few years, even though a significant fraction of employers elsewhere will not.

One way to quantify the difference between Massachusetts employers and employers elsewhere is in the percentage of payroll going to employees from families below 300 percent of the poverty line. At a national level, the percentage varies from 4 percent in Internet publishing to about 50 percent in restaurants and private household employers. The national average is 20 percent, compared with 13 percent in Massachusetts.

Employers have a variety of factors to consider in their benefit offering decisions, but I have made some estimates that focus on the payroll-composition statistics noted above. By my estimates, employers with percentages of 26 to 35 percent of employees above 300 percent of the poverty level have a sufficiently high percentage that they are likely to have been offering health insurance benefits before the Affordable Care Act. Yet they have a low enough percentage that their employees gain on average if the employer health benefit is dropped and employees take the subsidies available through the Affordable Care Act’s health insurance exchanges.

About 10 percent of employees with health insurance live in a state and work in an industry with compensation percentages in the range where profits are to be gained by dropping employer health insurance. But none of them live in Massachusetts, and some states that border Massachusetts, including New Hampshire and Connecticut, are in a similar situation.

A number of states and industries – especially the industries I emphasized last week – have more than 35 percent of their payroll paid to people in families under 300 percent of the poverty line and are unlikely to be offering employee health benefits.

But those employers in Massachusetts who have 35 percent of their payroll paid to people in families under 300 percent of the poverty line are more likely to offer some kind of health benefit, in part because of Romneycare’s incentives to create “cafeteria plans” in which employees authorize pretax salary to be withheld from their paychecks for the payment of health insurance premiums.

Under the federal law, the Massachusetts cafeteria plans will lose some of their advantages to employers in terms of avoiding penalties for failure to offer health benefits.

Based on the combination of these two factors — that no Massachusetts industries have 26 percent to 35 percent of their employees under 300 percent of the poverty line, and that Massachusetts employers will lose the advantages of their cafeteria plans — I calculate that employers offering health insurance in Massachusetts are one-third as likely to drop their employee health plans over the next couple of years as are employers in the rest of the nation.

That’s because the percentage of the United States work force at risk of losing its employer insurance (because of the tendencies of their industry and states to have low- and middle income employees) is three times the percentage of the Massachusetts work force in the same situation.

Article source: http://economix.blogs.nytimes.com/2013/05/22/massachusetts-employees-will-keep-their-health-plans/?partner=rss&emc=rss

Filed Under: Economy News Tagged With: , ,

DealBook: New Buffett Manager Gets Higher Taxes and Less Pay, by Choice

September 20, 2011 by Leave a Comment

Ted Weschler shows that the rich do not necessarily make all decisions based on the financial bottom line for themselves.Matt Eich/LUCEO, for The Wall Street JournalTed Weschler shows that the rich do not necessarily make all decisions based on the financial bottom line for themselves.

How would you feel about taking a pay cut and paying more in taxes?

Meet Ted Weschler. He just did both. And he’s happy about it.

You might have heard about Mr. Weschler. He was hired by Warren E. Buffett last week to help invest Berkshire Hathaway’s piles of cash.

Mr. Weschler, a successful but little-known 50-year-old hedge fund manager, plied his trade from a small office in Charlottesville, Va., above an independent bookstore, reaping huge returns for his investors, some 1,236 percent over a decade. In the process, his $2 billion fund put him comfortably in the millionaires’ club, and at the rate he was going, he was on his way to the more exclusive cadre of billionaires.

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Here is a quick measure of his wealth: he paid $2,626,311 in a charity auction to have lunch with Mr. Buffett in 2010. That’s how they met. A year later, Mr. Weschler paid $2,626,411 to dine with him again.

In his new job at Berkshire, he is expected to be paid significantly less than he was making. (We’ll get to the formula for his compensation in a moment.) And he is going to be giving up a huge tax break. Instead of paying the 15 percent capital gains rate on most of his income like most hedge fund managers and private equity executives, he is going to be taxed at the 35 percent ordinary income level as an employee.

His decision — and his compensation structure — are worth considering as the country weighs President Obama’s proposal to increase taxes for the ultra wealthy in what has been called the “Buffett Rule.”

The plan is aimed at ensuring that millionaires pay the same effective rate as middle-income families. In part, it takes aim at the controversial “carried interest” income, or the profits that hedge fund managers and other big investors take home as part of their pay. That compensation is now taxed at the capital gains rate of 15 percent, far below the 35 percent top rate on ordinary income. Mr. Obama hopes to close that loophole.

Many Republicans have derided the Buffett Rule, saying it would hurt the economy. “If you tax job creators more, you get less job creation,” Representative Paul D. Ryan, Republican of Wisconsin, argued on “Fox News Sunday. “If you tax investment more, you get less investment.”

Perhaps Mr. Ryan should dine with Mr. Weschler. The view that “millionaires and billionaires” will stop, or slow down, working or investing may be a myth.

“When you have enough money to live the lifestyle you want,” Mr. Weschler told me in a brief conversation, money and taxes are less of a consideration than “who you want to work with.”

Mr. Weschler — and his colleague Todd Combs, another successful hedge fund manager who joined Mr. Buffett last year — demonstrate that people of great wealth don’t necessarily make all decisions based on their own financial bottom line.

“Neither would have voluntarily paid more than 15 percent when working at their hedge fund simply because of the feeling that they were a favored class,” Mr. Buffett said. “But neither will feel the least bit abused because the earnings from their daily labors will now be taxed at a higher rate.”

Like Mr. Buffett, Mr. Weschler says he doesn’t believe the tax loopholes for hedge fund managers make sense. “When my accountant first told me about it,” he said he responded “You can’t be serious.” But he added quickly, “I’m not complaining.”

That’s not to say he will be paid like a pauper at Berkshire. Mr. Weschler and Mr. Combs will earn seven figures, and potentially more. But they won’t make John Paulson money. He reportedly made $5 billion last year.

Unlike hedge fund managers, at Berkshire Mr. Weschler and Mr. Combs don’t take home the standard “2 and 20,” collecting a 2 percent management fee and 20 percent of all the profits. Instead, Mr. Buffett has tightly linked their pay to the performance of the Standard Poor’s 500-stock index, a system that some big institutional investors should be pressing hedge funds to adopt.

“Both Todd and Ted will have performance pay based on 10 percent of the excess return over the S.P., averaged over multiple years,” Mr. Buffett told me. “If the S.P. averages 5 percent annually in the future, this means that the average hedge fund manager has received a 1 percent performance fee — 20 percent of 5 percent — before Todd and Ted receive anything.”

“Nevertheless, I expect them to make a lot of money,” he added. “The difference is that they have to earn it by true investment performance.”

In addition, both men receive modest salaries that Mr. Buffett said “will work out to about a tenth of 1 percent” of the assets they manage. “This compares to the 2 percent nonperformance fee which most hedge fund managers charge, even if they are losing money.”

Mr. Buffett’s critics complain that while he supports higher taxes on the wealthy, Berkshire is structured to pay little in taxes and he has sidestepped Uncle Sam by giving away his wealth.

Some have even suggested that he mail the Treasury a check if he wants higher taxes. The Senate minority leader, Mitch McConnell, Republican of Kentucky half-jokingly said on NBC News program “Meet the Press,” “if Warren Buffett would like to give up some of his benefits, we’d be happy to talk about it.”

But Mr. Buffett shrugs off the naysayers. “When I ran my partnership in the 1950s-1960s, I was generally taxed at 25 percent, considerably below the rate on similar amounts of ordinary income,” he said. “I knew I was getting favored treatment compared to the local doctor, lawyer or C.E.O., but I made no voluntary payments to the Treasury, nor does any hedge fund manager of whom I’m aware.”

Article source: http://feeds.nytimes.com/click.phdo?i=988b3f126ae00a652a5abaf365eb3d10

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