Student loans in England explained and options for reform

How does student finance work for those who started university from 2012 onwards?

Universities charge tuition fees for their courses. These are capped at £9,250 per year for home students, with fees for most courses set at or close to this level. Students living in England and studying for their first undergraduate degree can take out a government-subsidised loan to cover the full cost of tuition. In addition, students are eligible for maintenance loans to cover part of their living costs while they are studying. The maximum amount they are entitled to borrow depends on their living situation and their household income (typically their parents’ income).

Students are liable to start repaying their loans from the April after they finish their course. For employees, student loan repayments are deducted automatically from their earnings by their employer. How much graduates repay depends on their earnings: graduates make no repayments if they earn below a certain threshold (currently £27,295) and repay 9% of their earnings above that threshold. Interest is normally added to the loan balance at a rate between the rate of RPI inflation and RPI inflation plus 3%, depending on a graduate’s earnings. Any outstanding balance is written off at the end of the repayment period (currently 30 years) with no adverse consequences for graduates.

What changes to student finance were announced in 2022 for existing borrowers?

Under previous policy, the repayment threshold – the amount graduates can earn before making loan repayments – was set to rise each year in line with average earnings. This meant that a graduate whose earnings rose only in line with the economy-wide average, who was not becoming better off relative to other workers, would see the same share of their earnings protected by the repayment threshold.

In 2022, the government announced three important changes affecting people who started courses between 2012 and 2022 (who have ‘Plan 2’ student loans):

• The repayment threshold was frozen at its level in the 2021–22 fiscal year of £27,295 until 2024–25, instead of rising with average earnings.
• From 2025–26, the threshold will instead rise in line with the Retail Prices Index (RPI). This means that it will likely increase more slowly than under previous policy.
• The interest rate thresholds – the earnings levels which determine how much interest is applied to loan balances – were also frozen, and will also rise in line with the RPI in future years.

These changes mean that many will be required to make higher loan repayments than under the previous policy: up to £280 more in the 2023–24 financial year, with the difference set to grow year-on-year. On average, graduates from the 2022 starting cohort can expect to repay £11,600 more in (CPI) real terms over their lifetimes as a result. The biggest impact will be on middle-earning graduates, who can expect to repay nearly £20,000 more on average. The flipside of these higher repayments are big savings for the taxpayer, reducing the long-run taxpayer cost of providing higher education to this cohort by around £5.3 billion.

What will be new about student loans for those starting university from 2023?

Those starting courses in the 2023 academic year or later will instead be eligible for ‘Plan 5’ student loans, which have different repayment terms. In particular:

• The repayment threshold will be frozen at £25,000 until 2026–27 inclusive, and will then rise in line with the RPI. 
• The repayment period after which loans are written off is being extended from 30 to 40 years, meaning many will make repayments for longer, potentially into their 60s. This particularly affects low and middling earners, who are more likely to have remaining loan balances after 30 years.
• The interest rate will be the rate of RPI inflation, rather than up to the rate of RPI inflation plus 3%. This will mean higher earners who can expect to fully repay their loan will accrue less interest and fully repay their loans in fewer years.

Under this new system, no borrower will repay more than they borrowed in (RPI) real terms. The highest lifetime earners can expect to repay significantly less than if they had started university in 2022, as a result of the lower interest rate. Low-earning graduates can expect to repay considerably more, as they will repay more each year because of the lower repayment threshold and will make repayments for more years due to the extended loan term.

We estimate the share of graduates fully repaying their loan will increase from 49% for the 2022 university entry cohort to 79% for the 2023 entry cohort. This is mostly a result of lower interest rates meaning higher earners will have to repay less before they have fully repaid their loans. On average, we expect lifetime repayments to fall by £5,700 per borrower (in CPI real terms) relative to the 2022 university entry cohort.

We estimate that the changes for the 2023 entry cohort increase the total long-run government cost of financing higher education for the 2023 entry cohort from £1.6 billion if the system had remained the same as for 2022 entrants to £4.1 billion with the changes. However, a quirk in the way student loans are reflected in the public finances means this change actually reduces the initial cost of loans for the Treasury from £6.1 billion to £2.6 billion.

How do student loans affect the public finances?

Accounting for the cost of student loans is a challenging task, as it requires predicting student loan repayments decades into the future, and taking a stance on how future receipts should be valued relative to current expenditure.

Since 2018, the Office for National Statistics (ONS) has used a ‘partitioned loan–transfer approach’ to recognise student loans in the National Accounts. This splits loans when they are issued into a loan asset and a capital transfer to the borrower (a portion which is not expected to be repaid). The ‘write-off share’ (or ‘transfer proportion’) is the share of loans that the government expects to be written off.

An alternative measure of the long-term cost of student loans is the Department for Education’s ‘RAB charge’ (resource accounting and budgeting charge). This measures the proportion of loans issued each year that is not expected to be repaid when future repayments are valued in present-value terms using the Treasury discount rate. This assumed discount rate is meant to capture the opportunity cost of government funds – the cost of funding student loans rather than undertaking other government projects.

These different approaches to how future receipts are valued relative to current expenditures produce different measures of the cost of student loans. It is the ONS accounting methodology which is most relevant for the public finances. A counterintuitive feature of this methodology is that the initial ‘write-off share’ on student loans falls if the interest rate on student loans is reduced, even though future loan repayments will fall as a result. The reason is that lower interest rates mean that loans become more ‘affordable’ for graduates, with a higher share of each student loan paid off with interest and a smaller share of each loan written off. The paradoxical implication for the public finances is that lowering interest rates and thus making loans more attractive for students also reduces the initial cost of loans for the Treasury.

Importantly, this considers only the cost of financing higher education, but higher education also has wider impacts on the economy and the public finances. Research at IFS has found that, on average, those attaining an undergraduate degree earn substantially more over their lifetimes than if those same individuals had not attained a degree, and thus pay more in income tax and National Insurance contributions. From the point of view of the taxpayer, these increased revenues as a result of higher lifetime earnings are expected to more than make up for the cost of financing undergraduate degrees.

What are some of the issues facing current students? What has happened to maintenance support?

The current system ensures that students attending university for the first time do not need to pay any fees up front and have access to living costs support in the form of maintenance loans. However, the amount of maintenance loan a student is eligible for depends on their living situation and their parents’ income, and even the maximum rates are low compared with living costs in many parts of the UK. As a consequence, most students spend more than the maximum maintenance loan, and many students who do not receive transfers from their parents rely on part-time work to fund their studies.

Maintenance loan entitlements are adjusted each year in line with a forecast for one measure of inflation: RPIX (the Retail Prices Index excluding housing costs). In general, this should ensure that the value of entitlements is maintained over time. However, inflation has turned out much higher than official forecasts in recent years. This means that the support students receive has been cut substantially in real terms – by nearly 10% over two years. Students entitled to the maximum level of support and living outside London received around £1,000 less in real terms in the 2022–23 academic year than the same students would have received in 2020–21. This is likely causing significant financial hardship for many current students.

Importantly, these cuts in support will affect students not only this year but potentially for many years to come. There is no mechanism in place for these cuts ever to be undone, as past forecast errors are not considered when the adjustment in entitlements for the following year is determined. This means that – unless and until policy changes – any cuts will stay in place.

Entitlements have also become gradually less generous over time for another reason. Students are entitled to the maximum level of support if their parents earn below a certain threshold (the lower parental earnings threshold). Above that threshold, support is tapered away, with students losing around 14p for every additional £1 of parental earnings. Students whose parents earn above a higher threshold are entitled to the minimum level of support. This means-testing assumes that parents earning above the lower earnings threshold will contribute towards students’ living costs.

The lower parental earnings threshold has been frozen at £25,000 since 2008, despite significant growth in nominal earnings across the economy since then. If the lower threshold had been uprated since 2008, it would be around £36,500 (46% higher) in 2023–24. This means fewer students now qualify for the maximum and many more qualify for less support than they would have done in previous years, even if their parents are no better off.

What could the government do to help students with the cost of living?

The most direct way to provide additional living costs support to all students is through the maintenance system. In January 2023, the government announced that maintenance loan entitlements would increase by 2.8% for the 2023–24 academic year, in line with the policy of basing increases on forecasts for RPIX. While framed as a ‘cost of living boost for students’, persistent high inflation means this increase is likely to be a further small real-terms cut, and it does nothing to reverse the substantial real-terms cuts to support over the previous two years. For the cohort starting courses in 2023, restoring the generosity of maintenance support to 2020 levels (a 16% rise) would mean issuing £1.5 billion more in maintenance loans. We expect the vast majority of this would be repaid, so that the total long-run government cost would only be £0.4 billion.

Another way to provide additional support to students is through universities’ own hardship funds. While many universities increased the support they provide in response to the ‘cost of living crisis’, they have received very little extra government funding to do so. An additional £15 million from government in 2022–23 was equivalent to just £10 per student, and this funding is not being continued into 2023–24. Indeed, total funding from government for ‘student access and success’ is being cut by 6% in cash terms in 2023–24; this is an even bigger cut accounting for rising student numbers and inflation.

The government has also framed the continuing freeze in tuition fees as benefiting students by reducing the amount of debt they take on. However, the freeze in fees does not help students with their living costs in the short run, and will only affect their loan repayments once they are near to fully repaying their loans. For most, this will not be the case for decades. In fact, the freeze in tuition fees is squeezing the finances of the same universities that the government expects to step up support for students.

What are the problems of the current student finance system for graduates?

The income-contingent repayment system in England protects graduates from the worst problems associated with student loans in many other countries. Countries that have mortgage-style student loans (which must be repaid over a given period regardless of graduates’ earnings) typically have high rates of default, with serious consequences for borrowers’ access to credit in the future. In the English system, the lowest earners do not have to make any repayments, and any outstanding balances are written off after a certain number of years with no adverse consequences for graduates. 

However, people may still be concerned that monthly repayments under the current system are unaffordable for some. One measure of loan affordability is the average repayment rate or ‘repayment burden’ – repayments expressed as a share of earnings in a given year. Under the Plan 2 loan system that applies to those who entered university between 2012 and 2022, someone earning £30,000 a year can expect to make repayments of £20 a month, equivalent to 0.8% of their gross earnings. This rises to £170 a month (4.1%) for someone earning £50,000, and £320 a month (5.5%) for someone earning £70,000. While relatively low by international standards, these repayment burdens may still make an appreciable difference to graduates’ living standards and ability to, for instance, afford mortgage repayments, particularly in the context of rising living costs.

Under the current system for Plan 2 loans, the average repayment burden is highest amongst those in the highest third of graduate earners for around the first 20 years after graduation; it peaks at just over 5% at around age 30 for this group. When the 2022 entry cohort reaches their 40s, some of the highest earners will have fully repaid their loans, and the middle third of earners in each year will face the highest repayment burden, at around 4% of earnings on average.

Even if they can afford the repayments, many graduates find having student loan debt stressful. This concern may be exacerbated when nominal interest rates are high, so that loan balances continue to increase in cash terms even if graduates make sizeable repayments. However, unlike for a mortgage-style loan, high interest rates do not affect the size or affordability of monthly repayments under the current system, as these depend only on a student’s earnings. In fact, many low-earnings graduates with Plan 2 loans will never repay anything towards the interest on their loans before the outstanding balance is wiped.

How could the student finance system be made less burdensome for graduates?

Under the current loan system, the only two ways to reduce monthly repayments for all graduates who are making repayments are:

• increasing the repayment threshold (so that graduates can earn more before making repayments), or
• reducing the repayment rate (the proportion of earnings above the threshold that is repaid).

Without also making other changes, this would increase costs to the taxpayer. For instance, reducing the repayment rate from 9% to 7% would reduce monthly repayments for someone earning £50,000 with a Plan 2 loan from £170 to £132 a month. Over their lifetimes, graduates from the 2022 university entry cohort could expect to repay £3,800 (8%) less on average in CPI real terms, with the largest falls for middle-earning graduates who would repay £7,000 less. This would increase the long-run government cost of financing higher education for this cohort by £1.7 billion.

Reducing monthly repayments for those repaying now can only be revenue-neutral in the long run if some graduates repay more at some point. This could be achieved, for instance, through a longer repayment term or a higher interest rate, both of which would mean some graduates would make repayments for longer. Reprofiling payments through the life cycle – shifting more of the burden to times in their lives when graduates may find repayments more affordable – may be desirable. 

One suggestion which is sometimes made to reduce the burden on existing borrowers is reducing the interest rate on student loans. However, this would not reduce repayments in the short run. Like the reforms made to the system for the 2023 entry cohort, it would primarily benefit high-earning graduates who can expect to fully repay their loan with interest and would pay off their loans sooner (in their 30s or 40s). Reducing the maximum interest rate from RPI+3% to RPI+1% would reduce lifetime repayments from the highest-earnings tenth of graduates from the 2022 university entry cohort by around £15,000.

How could repayments for future cohorts be made more progressive?

The reforms that will affect university entry cohorts from 2023 onwards will increase lifetime repayments from lower-earning graduates and reduce those from high-earning graduates. Because of this, these changes are often criticised as ‘regressive’. A number of proposals are being discussed for countering these effects, thereby increasing the ‘progressivity’ of the system.

Repayments from the lowest earners could be reduced by increasing the repayment threshold, or by reducing the loan term so that outstanding balances are wiped more quickly. However, within the structure of the current system, the only way to increase lifetime repayments from the highest earners who are expected to fully repay their loans in real terms is to reintroduce a maximum interest rate above inflation. Any other change that was revenue-neutral for the government would only redistribute between low- and middle-earning graduates.

Some commentators have proposed introducing stepped repayment rates, with higher marginal repayment rates on income above specific thresholds, similar to the way the basic and higher rates of income tax work currently. However, with the same top rate, repayments under a system with stepped rates will always be less progressive than those under one with a single rate that raises the same revenue. While the top repayment rate could be increased, it is worth noting that effective marginal tax rates for some graduates are already extremely high if benefits withdrawal and student loan repayments are counted as ‘taxes’. For instance, the marginal ‘tax’ rate is already 78% for a lone parent or higher earner with two children earning between £50,271 and £60,000 and repaying both a Plan 2 and a postgraduate loan.

What has happened to the interest rate on student loans?

For those with Plan 2 loans (who started their courses between 2012 and 2022), interest is typically applied to loan balances at the rate of inflation measured by the Retail Prices Index plus 3% (‘RPI+3%’) while studying, and then at a rate between RPI inflation and RPI+3% depending on a graduate’s earnings each year. Importantly, the interest rate applied is capped at the ‘prevailing market rate’, which is based on market interest rates for unsecured consumer credit. This means that, despite very high RPI inflation in recent years, the current maximum interest rate on Plan 2 loans is 7.1%. This is lower than the current rate of inflation, which means that even with interest accruing at the maximum rate, the real value of outstanding student loan balances is falling in real terms.

How are universities funded? What problems does the current student finance system create for universities?

The majority of universities’ teaching resources come from tuition fees they charge to students. Universities also receive grants from government (through the Office for Students) which were equal to £1.3 billion in 2022–23 – equivalent to around £1,000 per student. The cap on tuition fees has been increased only once since 2012, meaning the real value of tuition fees for home students has fallen by around 20% over the last decade. Overall, per-student resources for teaching home students have declined by 16% since 2012, and the continued freeze to tuition fees means that this is set to continue. Recently, universities have also faced additional demands for hardship support from their students as the real value of maintenance loans has fallen. Universities have received very little additional funding from the government to meet these additional costs.

Restoring teaching resources to the same real level as in 2017–18 through an increase in tuition fees would require raising the cap by 23% to £11,370. This would come at an up-front cost of an additional £2.6 billion in student loans to the 2023 entry cohort, although most of this would eventually be repaid by graduates, so that the long-run cost to the government would only be £0.6 billion.

Tuition fees that universities charge to international students are not subject to the same cap and are typically much higher. Some institutions have relied on increasing cross-subsidisation from international student fees to make up for the real-terms fall in resources for teaching home students. This leaves them more exposed to falls in demand from international students. Furthermore, if capacity is limited (which it may be in the short run), then international students may crowd out home students at some institutions.

The Office for Students has a duty to monitor the financial sustainability of registered higher education providers. In May 2023, it assessed that the higher education sector as a whole was in good financial shape, although it highlighted some medium-term risks including the impact of inflation, the costs of recruiting and supporting students and staff, and over-reliance on international student recruitment.

I have an idea for a policy change. Who would gain or lose? How much would it cost?

The IFS student finance calculator produces rough estimates of the cost and distributional consequences of the system for financing higher education in England, and can be used to estimate the impacts of policy changes. For instance, you could look at the impact of changing the tuition fee cap or the repayment threshold, or restoring maintenance loan entitlements. The calculator can also be used to look at more radical changes to higher education financing, such as reintroducing maintenance grants, varying the repayment rate with earnings or years since graduation, or implementing a graduate tax.

The model is based on the simulated lifetime earnings profiles of 20,000 representative graduates, which are used to estimate loan repayments under different systems. There is enormous uncertainty in these estimates: they depend on policy remaining constant for many decades into the future and on forecasts for economic growth and inflation into the 2060s. We also assume that the student loans system does not affect students’ choice of subject or graduates’ gross earnings. The more radical the changes to the system, the less plausible this assumption becomes.

Use our student finance calculator

Why do the figures from the IFS calculator not match official forecasts?

Each year, the Department for Education (DfE) publishes forecasts of student loans in England, including forecasts of borrowing per student, lifetime repayments, and the long-run cost of the system to the taxpayer. This is based on a series of models maintained by the department, which in turn draw on confidential student loans data.

As the government’s student loan model is not publicly available, we have developed our own model of individual graduates’ loan amounts, earnings and repayments using a different methodology. This is based on Higher Education Statistics Agency (HESA) data, survey data (the Family Resources Survey, the Labour Force Survey and the British Household Panel Survey / Understanding Society), and official forecasts for average earnings and inflation. The number of borrowers, years of borrowing and average loan outlay per borrower per year are set to approximately match assumptions underlying the DfE student loan outlay model.

For the 2023 university entry cohort, our estimate of the RAB charge calculated using the government’s preferred discount rate (RPI–1.3%) stands at 2%, which translates into a long-run government cost of £1.9 billion, and our estimate of the write-off share stands at 13%, which translates into an initial accounting write-off of £2.6 billion.

Partly due to methodological differences in the student loan model, these estimates differ from official government estimates. The difference is especially large for our estimate of the RAB charge: for the RAB charge on student loans issued to full-time students in the 2023–24 fiscal year, the DfE estimate is 27%, which is roughly comparable to our 2%. The main reason for this discrepancy appears to be that the RAB charge is now very sensitive to assumptions about graduates’ mid-career earnings, and our model is substantially more optimistic about these earnings than the DfE model.

What other approaches are there to financing higher education?

There are other approaches to financing higher education, which have been taken by other countries or are being discussed in the UK, including:

• Classic mortgage-style loans, where repayments are made over a certain number of years and do not depend on a borrower’s earnings. These are common internationally but, unless robust systems for supporting low earners are in place, can lead to a high repayment burden on low earners and high rates of default.
• General taxation, with the costs shared by all taxpayers (including non-graduates) instead of concentrated on those who benefited from the spending. Scotland and Germany provide subsidised loans for living costs but tuition fees are effectively met by the government instead of students; Denmark and Sweden have free tuition and a combination of loans and non-repayable grants for living costs.
• A graduate tax, which could operate as a supplementary income tax on graduates. This could be similar in design to an income-contingent loan with an infinite interest rate (which is never considered ‘fully repaid’), and could generate much higher repayments from very high earners. However, there would be significant practical challenges in implementing a graduate tax – not least, deciding who counts as a ‘graduate’ for the purpose of the tax – and it may distort people’s decisions about whether to attend higher education and pursue high-earning careers.