Income Sharing Agreement: What Is It And How Dos It Work?

Income Sharing Agreement: What Is It And How Dos It Work?

An Income Sharing Agreement, or ISA, is an agreement between a college student and investor. The investor invests in the student by funding his or her tuition. In return, the student agrees to pay a fixed percentage of their earnings for a fixed number of months.

An income sharing agreement is an alternative to taking out student loan debt. Total student loan debt is roughly $1.6 trillion in 2020, which is even greater than the total outstanding credit card debt in America.

Because colleges don't guarantee its graduates a job, only an education, student loan debt continues to increase. An income sharing agreement eliminates the need for student loan debt.

In essence, an income sharing agreement is a partnership between the student and the investor.

How Does An Income Sharing Agreement (ISA) Work?

An Income Share Agreement is designed to help students save money on their education by bypassing the archaic traditional student loan model. Here's how an Income Sharing Agreement works.

1) Pay a fixed amount

Students pay a fixed amount of their income to investors each month so long as they are currently employed and make at least a pre-set minimum income threshold. The minimum income threshold is usually at least $30,000 – $40,000 a year.

The total payments are made over a predetermined fixed payment term and are designed to meet the needs of the student. Repayment percentages are meant to be affordable and flexible.

For example, the Income Sharing Agreement may have an agreed upon fixed payment term of seven years based on a minimum income threshold of $40,000.

If a student is unable to repay due to job loss or earning below the minimum income threshold, repayments are paused under an Income Sharing Agreement.

2) Loans Are Capped

Interest generally does not accrue under an Income Sharing Agreement, unlike the traditional student loan model. Before accepting an Income Sharing Agreement, students know the maximum amount they will repay over the life of the loan.

In general, the loan is capped at 1.5-2 times the original Income Sharing Agreement amount. Further, because repayments are based on a fixed percentage of graduates’ income, students will never be in a position to repay more than what they can afford due to ballooning interest payments.

3) Payment amount is related to income earned.

Some students will pay less than the total payment cap, and others will repay less than what they borrowed! The total payment will depend on the income the student earns over the Income Share Agreement term.

A fixed repayment term is attractive because it means that no matter what, there will be no more payments to the ISA after the fixed repayment term is over. Alternatively, there could be a fixed payment amount which can be more quickly achieved if the student ends up making more money than anticipated.

Income Sharing Agreement contract terms generally range between 24 – 120 months.

How To Qualify For An Income Sharing Agreement

Not every student qualifies for an Income Sharing Agreement. A student must apply for eligibility and the school must have an ISA plan set up. If the student is approved for an ISA, the ISA platform pays the school directly. Students are not involved in the tuition payment process.

Upon graduation and when the student becomes employed, students are required to start making payments back to the Income Sharing Agreement. Payments are only required if their job makes them more than the defined minimum, which is typically around $30,000 – $40,000 a year, depending on the  school, area of study, and location. 

The payments required will vary and are entirely dependent on the income of the student. The less a student makes, the less payment is required. The more the student makes, the larger the payment.

Here's a video highlighting how Purdue University decided to launch Income Share Agreements to help its students pay for college. Essentially, a student sells a stake in themselves to investors. And investors make a bet that its students will succeed after college. Therefore, choosing the right student, the right major, and the right college is important.

How To Invest In An Income Sharing Agreement

If you want to invest in students from top universities graduating with high demand majors, you may want to invest in Income Sharing Agreements. The only ISA platform for retail investors I'm currently aware of is Edly. But I'm sure more will be created as this asset class grows.

Growth of Income Sharing Agreements over time

Edly has a team that heavily screens school programs and invests in only the top performing programs. These are programs with proven track records of providing students with positive career outcomes.

Below is a snapshot of graduating students from various universities and the median starting salaries. The higher the ranked the university and the more in demand the major, the potential better investment outcome for the investor.

Income Sharing Agreement platform and universities and median income

Instead of investing in individual students, Edly has created funds for investors to invest in. These two funds are:

  • EdlyOutcomes I, High Yield which directs investment opportunities they believe to be the most profitable based on students and programs. The target return on this strategy is currently 14% (IRR).
  • Edly also offers the same portfolio of investments but wraps them in a principal protected strategy using U.S. Treasury STRIPS in EdlyOutcomes I, Principal Protected. Because of the lower risk, the target return on this strategy is currently 8%

Edly reports historical data from their ISA's and reports a historical return to investors of 16.57%. This return is without principal protection. Edly has funded over 2,500 students to date.

Don't Go Into Student Debt

An Income Sharing Agreement is a win-win for students and investors. Students get to pay for their college tuition fairly with future income. Investors get to invest in high-performing students from top colleges. In essence, the student and the investor have created a partnership.

Student loan debt really is a big problem. Colleges aren't looking to lower their tuition costs any time soon. Hopefully, the growth of Income Sharing Agreements will make attending college more affordable for students.

For other passive income sources, check out my passive income rankings. Investing in an ISA could very well be the next big passive income ida.