A Study of the Feasibility of the IRS 

Collecting Repayntents of 

Federal Student Loans 

Department of the Treasury 

Department of Education 

June 1995 
SEC RETA RY OF THE TREASURY 

DEPARTMENT • OF THE TREASURY 

WASHI N GTON , D .C . 

J une 28 , 199 5 

The Honorable Albert Gore, Jr. 

President of the Senate 

Washington, D.C. 20510 

Dear Mr. President: 

The Conference Report accompanying Public Law 103-66, The Omnibus 

Budget Reconciliation Act of 1993, directs "the Treasury 

Department, in consultation with the Department of Education, to 

conduct a study of the feasibility of implementing a system for 

the repayment of Federal student loans through wage withholding 

or other means involving the IRS. . . . The feasibility study 

and any plan that is developed, together with any legislative 

recommendations that the Secretaries may deem advisable, should 

be submitted to the Congress ... " 

Pursuant to that provision, we hereby submit "A Study of the 

Feasibility of the IRS Collecting Repayment of Federal Direct 

Student Loans." 

A similar letter is bei ng sent to the Honorable Newt Gingrich, 

Speaker of the House of Representatives. 

Sincerely, 

Robert E. Rubin 

Secretary of the Treasury 

Enclosure 

\ 

Richard w. Riley 

secretary of Educat1on 
SECRETARY OF THE TREASURY 

DEPARTMENT • OF THE TREASURY 

WASHINGTON , D .C . 

June 28, 1995 

The Honorable Newt Gingrich 

Speaker of the House of Representatives 

Washington, D.C. 20515 

Dear Mr. Speaker: 

The Conference Report accompanying Public Law 103-66, The Omnibus 

Budget Reconciliation Act of 1993, directs "the Treasury 

Department, in consultation with the Department of Education, to 

conduct a study of the feasibility of implementing a system for 

the repayment of Federal student loans through wage withholding 

or other means involving the IRS. . . • The feasibility study 

and any plan that is developed, together with any legislative 

recommendations that the Secretaries may deem advisable, should 

be submitted to the Congress ••. " 

Pursuant to that provision, we hereby submit "A Study of the 

Feasibility of the IRS Collecting Repayment of Federal Direct 

Student Loans." 

A similar letter is being sent to the Honorable Albert Gore, Jr., 

President of the Senate. 

Sincerely, \ 

Robert E. Rubin 

Secretary of the Treasury ~-~ Secretary of Educat1on 

Enclosure 
A Study of the Feasibility of the IRS 

Collecting Repaylllents of 

Federal Student Loans 

Department of the Treasury 

Department of Education 

June 1995 
EXECUTIVE SUMMARY 

A centerpiece of the Administration's efforts to promote national service and make paying 

for college easier was fulfilled through the enactment of the Student Loan Reform Act of 

1993 (fitle IV of the Omnibus Budget Reconciliation Act of 1993-0BRA '93), and its 

companion legislation, the National and Community Service Trust Act of 1993. 

The conference report accompanying the Student Loan Reform Act directed the Departments 

of the Treasury and Education to study the feasibility of implementing a wage withholding 

system and involving the Internal Revenue Service in servicing and collecting payments on 

student loans. A team from the Departments of the Treasury and Education was formed to 

carry out the study. Using the following criteria, the study identified and evaluated a 

number of scenarios: c~stomer service, default rate, impact on collections and budget, and 

burden on business. At least five concerns voiced by the Conference Report were also 

addressed and evaluated: 

1. Whether the IRS could implement such a system of student loan repayment with 

its current resources and without adversely affecting its ability to collect tax revenues. 

2. The cumulative impact of increased disclosure of tax information and increased 

IRS involvement in nontax collection activities on voluntary compliance with the tax laws. 

3. The ability of the IRS to enforce collection of student loans using an alternate 

system of dispute resolution, penalties, and collection devices. 

4. The effect of separating loan collection from other loan servicing functions. 

5. The anticipated effect on the management of Federal student loan collections and 

on borrower repayment of such loans. 

Potential IRS participation in direct lending was also examined within the context of the 

existing IRS systems and programs. The IRS, however, is in the process of undergoing a 

major change. The IRS is modernizing its 1960's tax systems and reinventing tax 

administration. Voluntary compliance, tax refund fraud , and IRS efforts to deal with these 

problems continue to receive intense review from both the Administration and the Congress. 

For example, improving total collections to 90 percent of the true total tax liability is a major 

IRS goal. Despite Congress's interest in and demand for these improvements, full funding 

for the Tax Systems Modernization (fSM) Program has not been provided because of overall 

budgetary concern. 

Because resources are finite, the IRS concentrates its collection resources on higher dollarvalue tax delinquent cases than ED does for defaulted loans (which deals with an average 

ii 
,-------------------------------------------------------- -----

defaulted student loan debt of $2,800). The IRS does not, cannot within its current system, 

and will not under TSM as presently designed, be able to maintain monthly account data on 

taxpayer status. Validation of taxes paid and owed, reflecting reconciliation of employer 

reported data and individual tax returns, does not now occur until some six months after the 

close of the tax year. To maintain real time data on taxpayers, tax withholding and reporting 

requirements would have to be changed for all employers. Nevertheless, as discussed below, 

several approaches· were identified that could further involve the IRS in student loan 

collection to varying degrees without requiring such broad (and costly) revision of the tax 

withholding and reporting system. 

Four feasible options were analyzed and evaluated: 

Option 1. IRS Student Loan Special Operations. (Using Federal FIE or 

contractors). Education would originate the loan. IRS would then provide 

borrowers the full range of services - from billing through collection. Work 

would be performed by IRS staff or contractors. A separate system of wage 

withholding would be established outside the tax system. Employers would be 

required to offer borrowers wage withholding and would transfer payments to 

the IRS. 

Option 2. Split Servicing: IRS uses the tax system for wage withholding. 

IRS would collect loans through the tax system whenever borrowers elected to 

repay through employer wage withholding. Loans repaid by all methods other 

than wage withholding would be collected by Education. Education would 

service all borrower accounts. 

Option 3. Education administers loan programs. IRS provides additional 

infonnation to enhance Education's collection capability. Education would 

retain responsibility for all aspects of student loans - origination, collection and 

servicing. IRS would share additional tax return information to enhance 

Education's collection capability. Employers would not be required to offer 

wage withholding, but Education would provide incentives to employers to do 

so. If employers did offer wage withholding, they would transfer payments 

directly to Education. 

Option 4. Education carries out all functions. Mandatory wage withholding 

for finns with ten or more employees. This option closely parallels Option 3. 

The difference is that businesses with 10 or more employees would be required 

to offer wage withholding. 

Treasury and Education have concluded that it is not feasible to expand the participation of 

the IRS in the collection of student loans. Further, the Departments also concluded that the 

Department of Education should continue to administer all aspects of the student loan 

program, as described in Option 3. 

iii 
Option 3 would meet customer service goals by giving borrowers rapid access to account 

information and allowing them the flexibility to switch repayment plans. It does not have the 

drawbacks of other options, such as overtaxing IRS resources and decreasing tax collections 

of a higher dollar value. Voluntary employer participation would mean minimal opposition 

from the business community. This option would add no additional budget costs and does 

not require additional legislation. 

iv 
TABLE OF CONTENTS 

I. Student Loan Reform Act and the Study of IRS Involvement . . . . . . . . . . . . . . . . 1 

II. :Lending Reforms . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 

ill. IRS Reforms Already Underway . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 

N. Policy Options for IRS Involvement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 

A. Option 1. IRS Student Loan Special Operations (Federal FfE or Contractors) 4 

B. Option 2. Split Servicing: IRS Uses the Tax System for Wage 

Withholding, Education is responsible for administering all other 

aspects of the Direct Loan Program . . . . . . . . . . . . . . . . . . . . . . . . 6 

C. Option 3. ED carries out all loan functions and provides incentives to 

business to maximize availability of wage withholding. The IRS 

enhances ED's debt collection capability . . . . . . . . . . . . . . . . . . . . . 8 

D. Option 4. ED Carries Out all Functions with Mandatory Participation for 

Firms with Ten or More Employees . . . . . . . . . . . . . . . . . . . . . . . . 10 

V. Summary Analyses . . .. . . ... .. . .... . . ... . . ..... ... . .... ... .. II 

A. Customer Service. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . li 

B. Default Rate and Collections Impact. . . . . . . . . . . . . . . . . . . . . . . . . . II 

C. Budget Consequences .. . . .. . . ... . .... . . . . . . ... ... .... ... 1I 

D. Required Resources and Impact on Tax Revenues . . .. . . . . . · .. ... . .. 12 

E. Impact of Increased Disclosure and Increased Involvement in nontax 

Collection on Voluntary Compliance .. . .. .. . .. . ... . . . . .. . . .. I2 

F. The Ability of the IRS to Enforce Collection of Student Loans . . . . . . . . . . I2 

G. Effect of Separating Loan Collection from Loan Servicing . . . . . . . . . . . . . 13 

H. The Effect on the Management of Student Loan Collections . . . . . . . . . . . 13 

I. Burden to Businesses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 

VI. Policy Implementation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 

v 
Appendices 

1. Conference Report Language: Omnibus Budget Reconciliation Act of 1993 

2. Recommendations for the Department of Education from 

Financial Management Service, Department of the Treasury, 

June 1994 

3. IRS Cost Methodology 

4. Student Loan Repayment and Wage Withholding Employer Reporting Burden 

vi 
I. Student Loan Reform Act and the Study of IRS Involvement 

A centerpiece of the Administration's efforts to promote national service and make paying 

for college easier was fulfilled through the enactment of the Student Loan Reform Act of 

1993 (Title IV of the Omnibus Budget Reconciliation Act of 1993--0BRA '93), and its 

companion legislation, the National and Community Service Trust Act of 1993. Under the 

President's Direct Loan program, all aspects of the loan process are simplified and 

streamlined to better serve the needs of students and postsecondary education institutions, 

while saving taxpayer dollars. Specifically, under the Direct Loan Program, the complex 

array of lenders, servicers, secondary markets, and guaranty agencies are eliminated. 

Borrowers are provided with a variety of repayment plans to allow them to make career 

choices without undue concern over the level of post-graduate income needed to repay loans 

taken to fmance a college education. 

Before passing the Student Loan Reform Act, Congress deleted an Administration proposal 

that would have enabled the Internal Revenue Service (IRS) to participate in loan collection if 

the Secretaries of Education (ED) and Treasury believed it to be feasible. Congress then 

substituted a requirement that the two Departments study and report on the feasibility of IRS 

participation. The Conference Report accompanying OBRA '93 directed "the Treasury 

Department, in consultation with the Department of Education, to conduct a study of the 

feasibility of implementing a system for the repayment of Federal student loans through wage 

withholding or other means involving the IRS". The Report asked that the study include 

analyses which would help determine: 

1. whether the IRS could implement such a system of student loan repayment 

with its current resources and without adversely affecting its ability to collect 

tax revenues; 

2. the cumulative impact of increased disclosure of tax information and increased 

IRS involvement in nontax collection activities on voluntary compliance with 

the tax laws; 

3. the ability of the IRS to enforce collection of student loans using an alternative 

system of dispute resolution, penalties, and collection devices; 

4. the effect of separating student loan collection from 

other servicing functions; and, 

5. the anticipated effect on the management of Federal student loan collections 

and on borrower repayment of such loans. 

The conference report required the Secretaries of Education and Treasury to submit the 

feasibility study, any implementation plan, and any legislative recommendations deemed 

advisable within six months of enactment of the legislation. Due to the complexities of the 

analyses, the Departments requested an extension. This report responds to the conference 

report mandate. 
ll. Direct Lending Reforms 

The Direct Loan Program authorized by OBRA '93 is being phased in over five years 

beginning with fiscal year 1994 (FY94). Under current law, total direct lending is projected 

to rise from 5 percent of new student loan volume in FY94 to at least 60 percent of new 

student loan volume in the fifth year, or nearly $18 billion. The new program improves loan 

access and borrower service, simplifies administration, reduces defaults, and improves 

collections. It also saves taxpayers money by eliminating middlemen and subsidies that do 

not directly benefit students. 

Direct lending improves on the old guaranteed loan program by replacing the bank and state 

agency structure with a new program under which ED administers all aspects of loan 

origination, disbursement, accounting, and servicing through the use of competitive contracts. 

This permits efficient monthly tracking and billing, as well as frequent contact with 

borrowers. Frequent contact is essential to maximize customer service and to minimize 

defaults. Direct lending also maximizes program oversight since ED has timely access to 

program data. 

To ease the financial burden of repaying their loans, direct lending offers borrowers the 

opportunity to tailor loan repayment to their career needs, and to take low-paying public 

service jobs without the danger of default. Direct lending offers borrowers several 

repayment plans: income contingent, graduated, extended, and standard-fixed. Borrowers 

are allowed to switch between plans as circumstances change and are also allowed to obtain 

deferments and forbearance. Borrowers are also offered several repayment methods such as 

coupon books, checks, and bank debits (which have the automatic repayment features of 

wage withholding). It is widely recognized that payments made automatically through wage 

withholding can reduce delinquencies and defaults. Furthermore, ED is developing a 

voluntary employer wage withholding program which will encourage widespread employer 

participation. The range of repayment options available to borrowers enables them to reap 

the benefits of their educational investment while allowing maximum flexibility in repayment. 

ED cannot mandate participation in the Direct Loan Program by either students or schools. 

Voluntary participation relies on the key features of the Direct Loan Program: 

responsiveness to students, less burdensome administration and quick disbursement of loans. 

Although still in its early stages, student feedback and school participation rates suggest that 

the Direct Loan Program is a success. For example: 

• 

• 

At a recent round of national forums, student feedback was clearly 

enthusiastic, especially with regard to the flexible repayment plans. This was 

pointedly expressed at the Presidential roundtable at the University of 

Michigan. 

Currently, 104 schools are participating (representing the loan volume targeted 

by statute for academic year 1994-1995). Although approximately 2,300 

2 
schools applied to participate in the second year, ED could only select 

approximately 1,500. That was the number needed to meet the statute's goal 

of 40 percent of the loan volume. Other schools must wait for the next round 

beginning in July 1996. 

Under the old program, 85 percent of borrowers made loan payments on schedule. Of the 

borrowers who do not pay their loans on time, many default or become seriously delinquent. 

However, defaults and serious delinquencies may be reduced in the Direct Loan Program. 

This may occur through the new income contingent "pay-as-you-can" plan, which at least 18 

percent of all borrowers are expected to select. Payments contingent on the ability to pay 

should reduce the likelihood of nonpayment and result in increased collections over time. 

The ability to repay student loans through automatic payments such as wage withholding or 

electronic bank debits should also contribute to a decrease in defaults. Some of those who 

now cannot pay will be able to remain in good standing (albeit accruing interest). 

The loan collection methods that have proven to be successful under the guaranteed loan 

program will be retained under direct lending. These currently include the most effective 

method, the Tax Refund Offset Program: whereby potential income tax refunds for referred 

defaulters are applied to the defaulted loans instead of being issued to the taxpayer. This 

program, which started in 1986, has increased collections of defaulted loans by 43 percent 

and yields over $600 million annually. The IRS is also authorized to assist ED by 

performing a computer match to locate defaulted debtors. As a result of this matching 

program, overall collections have improved by 5 to 10 percent. Finally, ED is implementing 

its new administrative wage garnishment authority to further increase defaulted loan 

collections. 

ill. IRS Reforms Already Underway 

Potential IRS participation in direct lending was also examined within the context of the 

existing IRS systems and programs. The IRS, however, is in the process of undergoing a 

major change. The IRS is modernizing its 1960's tax systems and reinventing tax 

administration. Voluntary compliance, tax refund fraud, and IRS efforts to deal with these 

problems will continue to receive intense review from both the Administration and the 

Congress. For example, improving total collections to 90 percent of the true total tax 

liability is a major IRS goal. Despite Congress's interest in and demand for these 

improvements, full funding for the Tax Systems Modernization (TSM) Program has not been 

provided because of overall budgetary concern. 

Because resources are finite, the IRS concentrates its collection resources on higher dollarvalue tax delinquent cases than ED does for defaulted loans (which deals with an average 

defaulted student loan debt of $2,800). The IRS does not, cannot within its current system, 

and will not under TSM as presently designed, be able to maintain monthly account data on 

taxpayer status. Validation of taxes paid and owed, reflecting reconciliation of employer 

reported data and individual tax returns, does not now occur until some six months after the 

3 
close of the tax year. To maintain real time data on taxpayers, tax withholding and reporting 

requirements would have to be changed for all employers. Nevertheless, as discussed below, 

several approaches were identified that could further involve the IRS in student loan 

collection to varying degrees without requiring such broad (and costly) revision of the tax 

withholding and reporting system. 

IV. Policy Options for IRS Involvement 

The Administration originally envisioned a direct loan program that would have involved the 

IRS by providing borrowers with the opportunity to repay their loans through the existing 

income tax system's wage withholding process. A team from Treasury and Education sought 

to determine how this approach could be implemented, analyzing and evaluating its benefits 

and drawbacks. A fundamental tenet is that any acceptable option must permit the borrower 

the freedom to choose from several repayment plans and methods that best meet that 

borrower's circumstances. Preservation of these choices will encourage loan repayment. 

Within this context, the team expanded the scope of the study to determine how to implement 

wage withholding as a viable repayment mechanism and to determine the best role for the 

IRS in supporting direct lending. The team examined multiple options regarding the use of 

the IRS, as well as alternative means of providing wage withholding outside the current tax 

system. illtimately, the team consolidated the possibilities into four options. In addition to 

the analyses required by the Congress, the team eval~ted each option according to the 

following criteria: impact on customer service, default rate, impact on collections, budget 

consequences, and burden on businesses. 

Four options for IRS involvement in the servicing and collecting of direct loans were 

considered: (l) IRS establishing a special student loan operation; (2) IRS using the current 

tax system for loans repaid through wage withholding only (ED doing all other functions); 

(3) ED running 'its current operation with incentives to business to maximize the availability 

of wage withholding; and (4) ED running the operation with a mandatory requirement on 

firms with ten or more employees to offer wage withholding. Each of these options 

incorporates additional IRS involvement and proVides borrowers with the opportunity to 

repay loans through employer wage withholding or similar mechanisms. The options are 

described below, and appendices are attached which present these issues in detail: 

conference report language, collection methods, estimated costs for each option, and 

estimating the burden on businesses. 

A. Option 1. IRS Student Loan Special Operations (Federal FfE or Contractors) 

Proposal 

Option 1 permits IRS involvement in all aspects of student loan collections, including current 

loans in repayment and default. This option provides all borrowers the full range of service 

from billing through collection. · 

4 
As in all the options, ED would originate the loans. IRS would service and collect all 

repayments through a loan collection system separate from the tax system. This would offer 

borrowers maximum flexibility in terms of repayment plans and methods, including wage 

withholding. 

This option could be implemented in phases. In Phase I, ED's direct loan contract would be 

transferred to the IRS for program administration. Under Phase ll, the IRS either would 

create a new in-house system separate from the tax system or continue to contract student 

loan collecting and servicing. In Phase II, IRS would assume the old guaranteed loans, 

whether in repayment or default. All employers would be required to offer wage 

withholding and report student loan payments to the IRS separate from tax withholding. 

Employer withholding would be tracked on a real-time basis through frequent reports to both 

IRS and borrowers. These reports would also ensure a high level of employer compliance. 

In addition, assuming proper legislative authority, IRS could bolster collections through the 

use of tax data that it maintains b~t cannot presently disclose. 

Evaluation 

Customer Service: In Phase I, customer service would be comparable to that currently being 

provided by ED; in Phase ll, all borrowers would have the option of wage withholding with 

the same access to information and flexibility to switch plans as borrowers who did not 

choose wage withholding. 

Default Rate and Student .Loan Collections Impact: Some anticipate that requiring borrowers 

to deal with the IRS may motivate them to repay, especially if borrowers believe that ED 

lacks the will or means to effect collections. In addition, mandatory employer wage 

withholding would capitalize on the likelihood that payments made automatically through 

wage withholding would reduce delinquencies and defaults. 

Bud~et Consequences: IRS would need continuing additional resources so that its primary 

task--the collection of taxes--would not suffer. The estimated cost to IRS of establishing and 

operating such special operations is $600 million for Fiscal Year 1999, based on the use of 

approximately 6,800 FTEs to collect 4.3 million loans in repayment and approximately one 

million defaulted loans. If, instead, IRS administered ED's contract, as in Phase I, the 

estimated annual cost is $750 million (including $400 million in collection costs paid out of 

amounts collected). ED estimates that its costs would likewise be reduced by $750 million 

(of which only $350 million is appropriated). Costs, but not FTEs, may be covered within 

ED's baseline funding for loan administration. 

Reguired Resources and Impact on Tax Revenues: In Phase I, the IRS would assume 

management of ED's contract. If the costs and administrative FTEs are transferred from 

ED's baseline funding, then there would be no anticipated adverse impact on tax revenues. 

5 
Phase IT represents a new line of business for the IRS. To successfully implement Phase IT, 

the IRS would require significant additional resources as noted under Budget Consequences. 

Phase IT creates, in effect, a mini-IRS dedicated solely to servicing and collecting student 

loans. 

Impact of Increased Disclosure and Increased IRS Involvement in Nontax Collection on 

Voluntary Compliance: This option expands not only the universe of individuals with access 

to information that is considered confidential and sensitive, it also expands the use of that 

data. To the extent that tax information is abused, voluntary compliance may suffer. Also, 

IRS experience with nontax issues, such as tax refund offset programs, indicates that 

voluntary income ~ compliance declines when the IRS attempts to collect nontax debts from 

taxpayers 

The Ability of the IRS to Enforce Collection of Student Loans: During Phase 1 of Option 1, 

the IRS will continue to collect student loans using the system developed by ED. In effect, 

the system would be transferred to IRS and be operated separately from the tax collection 

system. As in Phase 2, however, all of the IRS collection tools would be available to ensure 

compliance. On balance, it is expected ~at the IRS would be more successful than ED in 

enforcing student loan collections. 

Separating Loan Collection from Loan Servicing: This option does not separate loan 

servicing from loan collection. 

Effect on the Management of Student Loan Collections: This option divides the 

responsibility for student loan program management between two agencies. ED would retain 

overall responsibility and continue to originate all loans, while the IRS would assume the 

responsibility for collecting and servicing loansJ 

Burden to Businesses: The estimated annual cost is $1.7 billion spread over 1.2 million 

employer~, assuming 6 million borrowers elect wage withholding. 

B. Option 2. Split Servicing: IRS Uses the Tax System for Wage Withholding, 

Education is responsible for administering all other aspects of the Direct Loan Program. 

Proposal 

Option 2 provides that borrowers who earn wages may choose to repay student loans through 

the IRS tax system. Enabling legislation is required. Employers would not need to keep 

separate accounting records or provide loan information to either IRS or the borrowers. 

Under this option,_ the IRS would collect loans whenever borrowers in the Direct Loan 

Program elect to repay through employer wage withholding. ED would continue: to collect 

loans under the guaranteed loan program and to service direct loans for borrowers electing 

all other repayment methods; would track borrowers financially unable to make payments; 

6 
and would perform record-keeping functions for all repayers, providing loan account data 

and counseling, processing deferments and forbearances, approving switches between 

repayment plans and methods, and notifying the IRS of loan payments due for those electing 

repayment under the IRS withholding system. 

Borrowers choosing Option 2 wage withholding would have to file a tax return to report the 

loan repayments as a tax. Upon filing, insufficient or delinquent tax payments would 

become an IRS tax responsibility. 

Evaluation 

Customer Service: Wage withholding, under this option, only benefits borrowers who have 

jobs and have sufficient taxes withheld from their salary to satisfy their total tax liability, 

including the loan repayment. Borrowers electing wage withholding would not be able to 

monitor or evaluate, on an ongoing basis, the effect of loan payments on principal and 

interest. This limitation could adversely affect their ability to change repayment plans, but 

the tradeoff is a convenient repayment process. In addition, the tax returns of borrowers 

who choose wage withholding would be more complicated, and borrowers would be subject 

to full IRS collection procedures if they underestimated either their loan or tax liabilities. 

Default Rate and Student Loan Collections Impact: For those electing wage withholding, the 

possibility of studerit loan defaults as currently defined is eliminated. However, these 

borrowers might owe additional taxes. Low dollar delinquencies, which are now collected 

by ED, would not be subject to vigorous collection action because they would fall below the 

IRS delinquency threshold. 

Budget Consequences: The IRS would need continuing additional resources so that its 

primary task--the collection of taxes--would not suffer. Using the tax system would require 

approximately 820 additional FrEs at a cost to the IRS of $100 million in FY 1999. ED 

estimates its costs would be reduced by $50 million. As in Option 1, non-FTE costs may be 

met by a transfer of funds already identified in the ED mandatory, direct loan administration 

fund . 

Required Resources and Impact on Tax Revenues: To offset any potential impact on tax 

revenues, the IRS would require additional resources as outlined above. For borrowers 

electing to repay through wage withholding, the distinction between student loans and tax 

liabilities becomes blurred. While defaults for this group as currently defined are eliminated, 

there will likely be an increase in small dollar tax delinquent accounts. Low dollar 

delinquencies, which are now collected by ED, would not be subject to vigorous collection 

action because they would fall below the IRS delinquency threshold. This inaction may 

lessen taxpayers' perceived consequences of tax noncompliance. 

Impact of Increased Disclosure and Inc~eased Involvement in Non tax Collection on Voluntaty 

Compliance: This option expands the universe of individuals with access to information that 

7 
is considered confidential and potentially sensitive, as well as the use of that data. To the 

extent that tax information is abused, voluntary compliance may suffer. As noted above, IRS 

experience with nontax issues, such as the tax refund offset program, indicates that. tax 

compliance declines when the IRS attempts to collect nontax debts. 

The Ability of the IRS to Enforce Collection of Student Loans: The IRS would be able to 

apply all its collection tools when necessary for borrowers electing to repay through wage 

withholding. ED would continue to have collection responsibility for all other repayment 

plans. 

Separating Loan Collection from Loan Servicing: As noted above under Customer Service, 

borrowers electing employer wage withholding would lose flexibility in making changes in 

repayment amounts or repayment plans. This is because reconciliation of loan repayments 

by IRS takes place after returns are flied, usually about six months after the close of the tax 

year. 

Effect on the Management of Student Loan Collections: This option divides the 

responsibility for student loan program management between two agencies. ED would retain 

overall responsibility and continue to originate all loans, while the IRS would assume the 

responsibility for collecting and servicing loans repaid through wage withholding. For 

borrowers electing wage withholding, the possibility of defaulting is eliminated. Instead, 

these borrowers become the IRS's problem. Underwithholding of loans and taxes becomes a 

tax compliance problem. 

Burden to Businesses: This option poses no significant additional burden to employers. 

C. Option 3. ED carries out all loan functions and provides incentives to business to 

maximize availability of wage withholding. The IRS enhances ED's debt collection 

capability. 

Proposal 

Option 3 builds on the current Direct Loan Program administrative structure. It would 

provide all borrowers the full range of service from billing through collection, including 

complete flexibility in choosing and changing repayment plans and methC>9s. ED would have 

responsibility for all aspects of student loan collection and servicing, using its current system 

regardiess of how borrowers elect to repay. 

As part of Option 3, ED would launch a public information campaign encouraging employers 

to voluntarily provide wage withholding as an inexpensive employee benefit, similar to the 

savings bond program or bank debit option (which remains in effect even if jobs change). 

Large employers (covering 80 percent of all employees) would likely participate because of 

their existing automated payroll capabilities. ED would provide software and technical 

8 
support to employers who requested such assistance. 

Evaluation 

Customer Service: Wage withholding would be available to approximately 80 percent of the 

borrowers. In contrast to Options 1 and 2, wage withholders would gain the same access to 

information and flexibility to switch plans as ali other borrowers. 

Default Rate and Student Loan Collections Impact: Since loan payments can be made 

automatically (by wage withholding or through automatic clearing house payments), 

delinquencies and defaults would be reduced: 

Budget Consequences: Approximately the same as projected cost of current ED system 

($850 million in FY 99). Budget neutral; those costs are assumed in current baseline 

estimates. Option 3 could require 20 additional FfEs and $500,000 to pay for an incentive 

program that would encourage employers to offer wage withholding voluntarily. 

Reguirecl Resources and Impact on Tax Revenues: The IRS would require minimal increases 

in resources to provide additional information. There would be no impact on tax revenues. 

Impact of Increased Disclosure and Increased Involvement in Nontax Collection on Voluntary 

Compliance: The impact of increased disclosure would not be evident to borrowers because 

they would not be aware of any changes. IRS would not, therefore, be viewed as involved 

in nontax collections. There should be no impact on voluntary compliance.· 

The Ability of the IRS to Enforce Collection of Student Loans: The IRS has no direct role 

in the collection of student loan repayments. 

Separating Loan Collection from Loan Servicing: There is no separation of functions as ED 

is responsible for servicing and loan collections. 

Effect on the Management of Student Loan Collections: There is no change in the 

management of student loan collections. 

Burden to Businesses: Based on the assumption that twenty million borrowers are in 

repayment, with 4.5 million eligible borrowers electing to repay through voluntary employer 

withholding, the estimated annual cost is $0.5 billion (or slightly over $100 per eligible 

borrower). 

9 
D. Option 4. ED Carries Out aU Functions with Mandatory Participation for Fums 

with Ten or More Employees. 

Proposal 

This option closely parallels Option 3. The difference is that wage withholding is mandatory 

for businesses and, as a result, would be available to 85% of the borrowers who are 

employed as wage earners. Legislation would require businesses employing 10 or more 

employees to participate. 

Employer reporting to ED would remain the same under a mandatory system as under a 

voluntary system, assuming close to full compliance with the law. Significant instances of 

noncompliance would require empl~yers to report on compliance and to undergo compliance 

reviews. 

Evaluation 

Customer Service: Wage withholding would be an available option for an additional 5% of 

the borrowers than are likely to be covereq under the voluntary system. ·In contrast to 

Options 1 and 2, wage withholders would g(J.in the same access to information and flexibility 

to switch plans as all other borrowers. 

Default Rate and Student Loan Collections Impact: Since loan payments can be made 

automatically (by wage withholding or through automatic clearing house payments), 

delinquencies and defaults would be reduced. 

Bud~et ConseQuences: Approximately the same as projected cost of current ED system 

($850 million). Budget impact on ED is expected to entail a minimal increase, assuming 

close to full employer compliance. Employer noncompliance is expected to be modest. 

Reguired Resources and Impact on Tax Revenues: The IRS would require minimal increases 

in resources to provide additional information. There would be no impact on tax revenues. 

Impact of Increased Disclosure and Increased Involvement in Nontax Collection on Voluntacy 

Compliance: The impact of increased disclosure would not be evident to borrowers because 

they would not be aware of any changes. IRS would not, therefore, be viewed as involved 

in nontax collections. There should be no impact on voluntary compliance. 

The Ability of the IRS to Enforce Collection of Student Loans: The IRS has no direct role 

in the collection of student loan repayments. 

Separating Loan Collection from Loan Servicing: There is no separation of functions as ED 

is responsible for servicing and loan collections. 

10 
Effect on the Management of Student Loan Collections: There is no change in the 

management of student loan collections. 

Burden to Businesses: Assuming close to full compliance, the estimated annual cost is $1.1 

billion. Employers would consider this an unfunded mandate. ' 

V. Summary Analyses 

A. Customer Service. 

• Except for Option 2, all options provide comparable borrower service. 

• Option 2 trades off reduced borrower service (no real time access to data) 

against the reduced cost to employers because of use of the regular tax 

withholding system. The use of the tax system may be viewed by some 

borrowers who would otherwise elect wage withholding as a negative customer 

service factor. Similarly, Option 1 may be viewed negatively because of IRS 

involvement, even though in that option loan debt is not tax debt. 

• Focus groups indicate borrowers like wage withholding, but are concerned 

about privacy (e.g., disclosing indebtedness to employers) and employer 

errors. 

B. Dgault Rate and Collections Impact. 

• It is anticipated that wage withholding, regardless of the method of 

administration, would increase collections and reduce defaults. Some believe 

that IRS administration of student loan collections in Options 1 and 2 may also 

reduce loan defaults. However, IRS (unlike ED) does not focus its limited 

resources on collecting small debt, and voluntary compliance with the tax laws 

will decline. Under Option 2, where loan debt becomes tax debt, it is unlikely 

that delinquent debts will be collected. The great majority of defaulters do not 

have the money to repay, which leaves IRS in no better a position than ED as 

a debt collector. 

• With legislation permitting the additional tax return iriformation on income 

contingent and defaulted loan borrowers proposed under Options 3 and 4, ED 

would be able to improve default collections. 

C. Budget Consequences 

• Under Options 1 and 2, IRS requires continued new funding. Those resources 

would be taken from ED estimates in the mandatory baseline for loan 

administration. 

11 . 
• If under Option 1 IRS establishes a separate· unit with 6, 800 Federal FTE, 

those FTE are above current estimates and would have to come out of some 

other agency's allocation to remain within the statutory government-wide FTE 

reduction rules. If Option 1 is done by contractor, the FTE requirements are 

already in ED's ceiling. Option 2 's FTEs would require ceiling adjustments, 

reducing other agencies' allotments by 4,500. 

• Option 3 is primarily ED's current system, and requires no new funding or 

FTEs. Option 3 could ~;equire 20 additional FfEs and $500,000 to pay for an 

incentive program that would encourage employers to offer wage withholding 

voluntarily. 

D. Reguire4 Resources and Impact on Tax Revenues 

• Option 1 would require additional resources. So long as these were 

forthcoming there would be no impact on tax revenues. 

• Additional resources would be required under Option 2 in order to avoid any 

adverse impact on tax revenues. 

• Neither Option 3 nor Option 4 require additional IRS resources, and there is 

no impact on tax revenues. 

E. Impact Q,f Increased Disclosure and Increased Involvement in Nontax Collection on 

Voluntary Compliance 

• Options 1 and 2 expand the universe of individuals with access to information 

that is considered confidential and sensitive, and also expands the use of that 

data. To the extent that there is abuse of that information, voluntary 

compliance may suffer. Also tax compliance declines when the IRS attempts 

to collect nontax debts. 

• In Options 3 and 4 ·the impact of increased disclosure would not be evident to 

borrowers because they would not be.aware of any changes. IRS would not, 

therefore, be viewed as involved in nonta.x collections. There should be no 

impact on voluntary compliance. 

F. The Abiliry Q,f the IRS to Enforce Collection of Studem Loans 

• Phase 1 of Option 1. requires that the IRS service and collect direct student 

loans using the system developed by ED, and the IRS should be as successful 

as ED in enforcement of student loan collections. The IRS would be able to 

apply all its collection tools as ·necessary. 

12 
• Under Option 2, the IRS would be able to apply all its collection tools when 

necessary for borrowers electing to repay through wage withholding. ED 

would have collection responsibility for all other repayment plans. 

• Under Options 3 and 4, the IRS has no direct role in the servicing and 

collection of student loan repayments. 

G. The Effect q.f Separating Loan Collection from Loan Servicing 

• Options 1, 3 and 4 do not separate loan servicing from loan collection; the IRS 

has responsibility for both under Option 1; ED is responsible for both under 

Options 3 and 4. 

• Under Option 2, borro~e s who choose wage withholding by employers would 

lose flexibility in making changes in repayment amounts or repayment plans. 

This is because reconciliation of loan repayments by IRS takes place after 

returns are filed, usually about six months after the close of the tax year. 

H. The Effect on the Management of Student Loan Collections 

• Under Option 1, the responsibility for student loan program management is 

split between two agenCies. ED would retain overall responsibility and 

continue to originate all loans while the IRS would assume the responsibility 

for collecting and servicing loans. 

• Option 2 also splits responsibility between two agencies. ED retains overall 

responsibility and continues to originate all loans. IRS would assume 

responsibility for collecting and servicing loans repaid through wage 

withholding; ED would collect and service loans repaid through all other 

methods. For borrowers electing wage withholding, the possibility of default 

is eliminated. These borrowers become the IRS's problem as 

underwithholding of loans and tax becomes a tax compliance problem. 

• Under Options 3 and 4, there is no change in the management of student loan 

collections. 

I. Burden to Businesses. 

• The business community will argue that the burden is an unfunded mandate 

and will object. 

• While Option 2 is mandatory on businesses because it involves the tax system, 

no additional burden would be imposed. 

13 
• In Option 3, there is no mandatory requirement or employer burden. The 

perception changes from a government mandate to an inexpensive employee 

benefit. 

VI. Policy Implementation 

As a result of this study, the Secretaries of Education and Treasury are implementing Option 

3. ED, with continued assistance from IRS, retains the responsibility to service and collect 

student loans. ED will continue to administer the Direct Loan Program using competitively 

bid contracts. ED will also develop a voluntary wage withholding system to be marketed to 

public and private sector employers. In conjunction with voluntary wage withholding, ED 

will market alternative payment methods such as automatic electronic bank debits. 

Option 3 is the only option which gives choices to borrowers, provides clear lines of 

accountability, maximizes customer service, minimizes employer burden, saves taxpayer 

dollars, and reduces defaults. This option meets the important customer service goals 

without presenting serious drawbacks. Eventually, it is expected that wage withholding will 

be available to 80 percent (or more) of all borrowers. All borrowers will have the same 

rapid access to information and flexibility to switch repayment plans. There should be 

minimal opposition from the business community, no additional budget costs, and no need 

for additional legislation to make the program work. 

Option 3 potentially enhances ED's debt collection capabilities through the proposed 

disclosure to ED of additional tax return information on borrowers for problem cases (wages, 

employers) and income contingency loans (wages) . . 

In contrast, direct IRS involvement or compulsory employer participation in a new wage 

withholding system would present serious drawbacks. The options which envisioned direct 

IRS involvement would strain IRS resources, interfere with its primary mission, and decrease 

higher dollar value tax collections, without improving student loan program administration or 

customer service. The possibility of a greater IRS role is not being foreclosed. The IRS 

system is changing, and technological advances of the future may make this an attractive 

option. 

Direct IRS involvement would. be oppos¢ by student and higher education groups. Further, 

many students are concerned that the IRS would treat student loans like taxes and that 

borrowers would lose th~ flexibility and customer service they now have under direct 

lending. Compulsory employer participation would face stiff opposition from a business 

community already opposed to another costly, unfunded .Government mandate. Option 3 will 

avoid these problems while meeting the Administration's vision for a model direct student 

loan program. 

14 
Appendix 1 

Conference Report Language: Omnibus Budget 

Reconciliation Act of 1993 

Appendi.x ~ 
Conference Report Language: Omnibus Budget 

Reconciliation Act of 1993 

Title IV - Student Loan and ERISA Provisions1 

IRS Study 

House Bill 

Section 4032 of the House bill directs the Secretary of Education in consultation with 

the Secretary of Treasury to conduct a study on the feasibility of having IRS collect student 

loans, the results of which the Secretary of Education shall report to Congress in 6 months. 

Senate Amendment 

Section 457 directs the Secretaries of Education and Treasury to submit a plan to the 

President to provide for IRS collection of student loans and to evaluate other options for 

wage withholding. If the President determines that options contained in the plan would 

further the purposes of this part, the Secretaries of Education and Treasury would implement 

those options. The Senate amendment further provides a method for funding the 

implementation of the plan. 

Conference Agreement 

The conference agreement deletes both provisions. Accordingly, the managers 

request that the Secretaries of Education and Treasury jointly develop a plan for the 

involvement of the Internal Revenue Service in the collection of student loans, including an 

analysis of its feasibility, the additional resources that would be required for the IRS, the 

enforcement procedures that should be used, the effect on the collection of ordinary income 

taxes, and the effect on the management of Federal student loan collections and on borrower 

repayment of such loans. The Secretaries are further requested to submit to the Congress the 

plan for implementing such a collection system, together with the results of the feasibility 

analysis and any legislative recommendations they may deem advisable, no later than six 

months after the date of enactment of this bill. 

1

U.S. House of Representatives, Committee on the Budget, 

Omnibus Budget Reconciliation Act of 1993, Conference Report of 

the Committee of the Budget, House of Representatives, to 

Accompany H.R. 2264, 103d Cong., 1st Sess., 1993, p. 466. 

Appendix 1 

2 
Title XIll - Revenue, Health Care, Human Resources, Customs and Trade Provisions, 

Food Stamp Program, and Timber Sales Provisions2 

Evaluation of Student Loan Repayment Through Wage Withholding 

With respect to this provision, the conference agreement does not include the 

provisions in sections 4032, 4033, or 14402 of the House bill or sections 12011 or 12055 of 

the Senate amendment. 

The conferees direct the Treasury Department, in consultation with the Department of 

Education, to conduct a study of the feasibility of implementing a system for the repayment 

of Federal student loans through wage withholding or other means involving the IRS. Such 

study should include an examination of: ( 1) whether the IRS could implement such a system 

of student loan repayment with its current resources and without adversely affecting its 

ability to collect tax revenues, (2) the cumulative impact of increased disclosure of tax 

information and increased IRS involvement in nontax collection activities on voluntary 

compliance with the tax laws, (3) the ability of the IRS to enforce collection of student loans 

using an alternate system of dispute resolution, penalties, and collection devices, (4) the 

effect of separating loan collection from other loan servicing functions, and (5) the 

anticipated effect on the management of Federal student loan collections and on borrower 

repayment of such loans. If the study concludes that IRS collection is feasible, the Treasury 

Department and the Department of Education should develop a plan to implement such a 

collection system. The feasibility study and any plan that is developed, together with any 

legislative recommendations that the Secretaries may deem advisable, should be submitted to 

the Congress within six months of the date of enactment. 

Effective date 

The provisions in the conference agreement are effective on the date of enactment. 

2U.S. House of Representatives, Committee on the Budget, 

Omnibus Budget Reconciliation Act of 1993, Conference Report of 

the Committee of the Budget, House of Representatives, to 

Accompany H.R. 2264, 103d Cong., 1st Sess., 1993, pp. 725-28. 

Appendi.x 1 

3 
Appendix 2 

RECOMMENDATIONS FOR THE DEPARTMENT OF EDUCATION 

FROM FINANCIAL MANAGEMENT SERVICE, 

DEPARTMENT OF THE TREASURY 

JUNE 1994 

Appendix 2 
DIRECT FEDERAL STUDENT LOANS 

REPAYMENT: FUNDS COLLECTION :METHODS 

RECOMMENDATIONS FOR THE DEPARTMENT OF EDUCATION 

FROM FINANCIAL MANAGEMENT SERVICE, 

DEPARTMENT OF THE TREASURY 

JUNE 1994 

Appendix 2 

2 
TABLE OF CONTENTS 

Background 

Automated Clearing House (ACH) 

ACH Options 

ACH Pre-Authorized Debits 

ACH Credits 

Wage-withholdings from employers 

Bill Payment Services 

Paper Checks into a Lockbox 

Summary 

3 

4 

4 

5 

6 

7 

7 

8 

9 

10 

Appendix 2 
Back&round 

Funds Collection Options for Repayment of 

Direct Federal Student Loans 

The Financial Management Service supports the Department of Education in its initiative to 

offer a variety of ways for Direct Federal Student Loan borrowers to remit payments, 

especially using electronic funds transfer. 

Just as with the "repayment plan" options, there are several convenient and appealing funds 

collection options which can be offered to borrowers for initiating their loan repayment 

remittances. 

AUTOMATED CLEARING HOUSE (ACID 

The Automated Clearing House network is a funds transfer system which provides for the 

interbank clearing of electronic entries for participating fmancial institutions. There are 

26,522 participating fmancial institutions. 

ACH is inexpensive, reliable and improves funds availability. Also, once the borrower sets 

up the ACH service, the chances of full collection are improved since the borrower doesn't 

have to write a check each month. ACH transactions can be originated by a borrower 

directly, or can be originated by a borrower's employer, and then deducted out of the 

employee's pay, using common wage-withholding practices. 

Borrowers and bill payers have been demonstrating a rapidly growing interest in making 

payments automatically and electronically. Automatic electronic payments (using ACH) are 

easy, save time, and are not dependent on the borrower being at a certain place or having to 

write a check, address an envelope and get it into the postal system. Some borrowers 

perceive ACH payments involving a degree of lost control over their money. This is a 

perception issue which has no basis in fact, since the consumer must authorize any electronic 

activity occurring through his or her bank account. The ACH network has made a lot of 

progress overcoming the perception; however, some still remains. 

Because of the savings derived from using ACH, the agency should either mandate its use or 

offer borrowers incentives to sign up for ACH. Mandates are generally used in conjunction 

with other actions, such as a non-payment judgment. For the majority of cases, where 

repayment is expected, a voluntary program is recommended, with incentives offered to 

increase enrollments. Incentives for repayment by electronic funds, normally ACH, are 

common in the consumer loan industry. Three suggestions for incentives are: 

Appendix 2 

4 
• Interest rate concessions, such as 25 or 50 basis point reductions, are offered 

if the borrower uses ACH for repayment. (Rate concessions would need to be 

evaluated to determine at what point they lose cost effectiveness. They may 

also require legislation). 

• Later payment due dates, such as one or two day delays in the monthly due 

date (which is when the ACH transaction would settle against the borrower's 

bank account). 

• Multiple payments during a month, such as twice-monthly when the borrower 

is paid by his or her employer. The amount paid during a given month equals 

the monthly payment, but by splitting it into increments, consistent with the 

way the borrower's wages are paid, the loan is paid down faster. 

ACH Options 

ACH payments can take two general forms: 

ACH Debit- is originated by the agency (based upon the borrower's authorization) and 

settles through the Federal Reserve system as a credit to the agency (through the Treasury 

General Account, or TGA) and a debit against the borrower's bank (account). If there are 

insufficient funds in the borrower's bank account, the bank will return the entry to the 

Federal Reserve, where it will be debited to the agency (through the TGA) with information 

provided back to the agency, for further collection action. 

ACH Credits -is originated by the borrower, his or her employer, or his or her bill-payment 

servicer, and settles through the Federal Reserve as a debit against the borrower's bank 

(account) and a credit to the agency (through the TGA). Since the borrower originated the 

entry, the bank will only send it if funds are available in the borrower's account. 

In addition to accelerated availability of funds (when compared to checks), ACH also enables 

the agency to automatically update accounts receivable and accounting records from the 

electronic payment records which are originated into, or received from, the ACH network. 

This fact is one of the primary reasons that ACH brings so much cost savings to an 

organization. 

FMS will assist the agency in developing a marketing program using an appealing name, like 

"Easy Payment", for the ACH programs. This might include a public service television 

campaign, similar to Social Security's Direct Deposit campaigns, to promote ACH as an 

"easy and convenient" method of repaying student loans. 

Appendix 2 

5 
The debit and credit forms of ACH are discussed below, with proposed uses by the 

Department of Education in offering an array of "Easy Payment" services to Direct Federal 

Student Loan borrowers. 

ACH Pre-Authorized Debits 

Pre-authorized debits, or PADs are electronic debits to a receiver's (borrower's) bank 

account. They must be authorized by the receiver (borrower) in writing, normally as part of 

the loan repayment set-up process. PADs are best suited for recurring, fixed dollar amount 

transfers, such as loan repayments, because, once the authorization is established, the lender 

can automatically generate the ACH debits each month, without the remitter needing to take 

further action. 

At the time the loan repayment agreement is negotiated, Department of Education, or its 

servicing agent, would obtain a signed authorization from the student allowing the agency to 

directly debit the loan repayments from the student's bank account. In the near future, the 

agency may also be able to avail itself of an "Automated Enrollment" method, whereby the 

borrower would request his/her financial institution to initiate a zero-dollar ACH transaction 

to Department of Education coded to notify the agency to establish the borrower as a preauthorized debit remitter. The financial institution would be responsible for maintaining a 

record of the written authorization. The Social Security Administration has been testing 

Automated Enrollments and has enrolled over 150,000 recipients in Direct Deposit using that 

method. The operating rules for the transaction, necessary for nationwide application, should 

be fmalized later this year. 

The Department of Education will need to maintain a database of pertinent information on 

borrowers enrolled in the pre-authorized debit option, including the borrower's bank account 

information (the routing and transit number of the bank and the account number). The 

agency will also need to establish a method for ensuring that borrowers provide updates 

whenever they change bank accounts. Under income-contingent repayment plans, the 

borrowers can take up to 25 years to repay loans. The transient nature of recent graduates 

will also create complications. Automat~ Enrollment services, discussed in the paragraph 

above, may provide solutions. · 

On a pre-established schedule, the agency will originate a file of debit transactions, for 

processing by FMS or an agent bank. This file will be converted into ACH transactions and 

processed through the ACH network, to the student's bank account. ACH debits must be 

originated into the ACH network one day prior to the settlement date. 

Pre-authorized debits can also be originated on a "single-entry" basis. An authorization 

system would need to be established using voice response or PC technology. The 

Department of Education could even utilize a public access network, such as Internet, to 

provide access to the authorization system. A standing written agreement and passwordAppendix 2 

6 
security would be established in advance. The borrowers access the authorization system 

each time they are making a payment and provide authorization for Department of Education 

to debit their bank account for the full or partial amount of the loan. Pre-formatted screens 

can be created for the borrower to "fill-in-the-blanks" with bank instructions, amount, etc. 

The agency would use the authorization to generate ACH pre-authorized debit entries. 

ACH Credits 

Wage-withholdings from employers - The agency provides the borrowers with information 

to take to their employers to set up payroll-deductions. The employer automatically deducts 

payment amounts from the employee's wages and originates ACH credits through the ACH 

network to the Treasury/Department of Education, for benefit of the borrower. (It could be 

compared to a "Christmas Club" arrangement.) This is certainly one of the easiest ACH 

collection methods, and employer participation could be voluntary or mandatory. 

Mandatory wage-withholding would place an additional burden on businesses and could make 

the prospective employee with a student loan a less desirable job candidate. 

FMS recommends voluntary employer compliance and believes if the Department of 

Education offers borrower incentives, as discussed on page 2, that employers will also have 

an incentive to volunteer. Employers will want to support their employees' opportunity to 

take advantage of incentives, especially something like a rate concession. 

To further encourage voluntary participation by employers, the Department of Education 

might allow employers to charge employees a nominal fee per transaction to cover the cost of 

handling the payments for the employee. 

Wage-withholding is being used successfully by the Administration for Children and Families 

for collecting child support payments. Legislation was enacted to mandate employer 

participation to withhold from wages of delinquent obligors. However, many obligors 

participate voluntarily, requesting their employers to deduct and send the support payments 

for them. If the Department of Education elects to implement a wage-withholding program, 

a working relationship should be developed with the Administration for Children and 

Families to learn from their efforts. 

Bill Payment Services 

Again, the agency would provide borrowers with information, which would be required to 

set up their student loans on a bill payment service that might be offered through the 

borrowers' bank or bill payment service. On a monthly, or recurring basis, the borrowers 

authorize payments through their bill-payment servicer using a touch-tone phone or PC 

access. The services use the authorizations to debit borrowers' bank accounts and originate 

ACH credits to the Department of Education, for benefit of the borrower. In addition, most 

Appendix 2 

7 
services allow for standing orders for payments which occur automatically unless their 

customers intervene. This is appealing to many remitters because they can exercise a greater 

degree of control. 

The Department of Education should establish "strategic alliances" with the major bill 

payment service providers and large regional banks where concentrations of borrowers are 

located. Such alliances can be beneficial to both parties for at least two reasons: 

(1) The Department of Education can provide bill payment services with billing files, 

which are used to create messages/reminqers to borrowers and request authorization for 

making payments. This enhances the bill payment services' offering and will encourage 

prompt payment to the Department of Education. 

(2) Joint marketing campaigns can be initiated with the agency and the bill payment 

servicerlbanks to get the word out that student loan payments can be made through these 

services. 

PAPER CHECKS INTO A LOCKBOX 

A lockbox is a post office box which is maintained for the Government by a Treasury 

designated financial institution (F) for the purpose of accelerating the receipt and clearing of 

paper check remittances on behalf of a Federal agency. The F receives the remittances by 

mail from the post office frequently during the day. The F opens the envelope, extracts the 

check and any accompanying documentation, records the amount of the check, processes the 

check for clearing in the banking system, and reports the deposit information to Treasury. 

The funds are transferred to Treasury's account at the Federal Reserve Bank of New York 

via ACH the next business day, and the agency location code (ALC) is credited the next 

business day following the date the deposit is reported to Treasury. The F also captures the 

accounting infonnation, and passes this, along with a record of the check payment to the 

agency. The agency updates its accounting records from the infonnation supplied by the 

Lockbox bank. 

Checks are not the preferred method of collection, but unless the Department of Education is 

going to mandate electronc funds transfer (EFT) in the Direct Student Loan Program, 

collection arrangements must accommodate checks. To effect the payment, the student 

writes out a check and sends it, along with a scannable remittance document, to a post office 

box address supplied by the agency. The agency supplies the remitter with a monthly notice 

or a coupon (book) to return with the remittance. Whether a monthly bill or a coupon is 

used, the return document must be machine scannable, since the volumes will be high. 

Appendix 2 

8 
SUMMARY 

The Financial Management Service (FMS) recommends that ACH be cited as the "preferred 

payment method". This infers that, unless requested otherwise, the borrower will be 

expected to pay by ACH. This approach is used by the Social Security Administration under 

a plan called "Preferred Direct Deposit". Unless the beneficiary requests otherwise, an 

application for benefits is handled assuming Direct Deposit will be the payment mechanism. 

Many of the recommended ACH collection options can be established very easily through use 

of arrangements already in place under the FMS umbrella of services. Some of the steps 

involved are outlined below: 

• Education provides data on the volume and dollar amount of the collections to 

FMS. 

• FMS and Education meet to discuss Education's requirements for additional data and 

remittance processing. 

• FMS selects the optimal processor(s) for the collection methods chosen as the most 

viable. 

• FMS, Education, and the collections processor(s) meet to discuss Education's 

collections needs and design information interfaces. 

• Education and the collections processor(s) establish testing schedule and conduct 

testing. 

• Education and collections processor(s) develop standard procedures for operating the 

collection systems. 

• FMS prepares a memorandum of understanding and signs it along with Education and 

the collections processor(s). 

• FMS sets up the Department of Education program into its deposit reporting system. 

• Education provides information to borrowers on the various collection options, and 

has the borrowers decide on a repayment plan. Education also obtains a signed 

authorization form for ACH debits, if necessary. 

• For ACH preauthorized debits, Education creates a database of financial institution 

information on borrowers paying by ACH debits. Education must send 

prenotifications on ACH preauthorized debits 10 days before sending live entries. 

Appendix 2 

9 
Appendix 3 

IRS Cost Methodology 

Appendix 3 
IRS Cost Estimation Methodology 

Summary 

Four options for the future administration of the Federal student loan program have been 

extensively studied by the Departments of Treasury and Education. In particular, Treasury 

and Education have worked to analyze options for implementing wage withholding as a 

viable option for student loan repayment and whether it is feasible to implement wage 

withholding through the Internal Revenue Service. The four options range from the program 

as it is currently being implemented including the planned use of a voluntary wage 

withholding system administered by the Department of Education (ED) to an IRS take-over 

of all servicing, processing, and collecting of student loans. Because potentially greater IRS 

involvement in the student loan program would have significant operational implications, cost 

estimates were developed for the contemplated new IRS loan operations. Specifically, 

detailed cost estimates were developed for two options: 

• Option 1, IRS Student Loan Special Operation (using Federal FI'Es) 1 

• Option 2, IRS Using the Current Tax System for Wage Withholding Only 

With the establishment of the direct loan program by the Student Loan Reform Act of 1994, 

ED has developed and implemented a new loan collecting and servicing system. Within the 

context of the four options, Option 3 represents the current program with two improvements. 

First, ED will have completed and implemented a voluntary employer wage withholding 

program to enable direct loan borrowers to repay through payroll withholding. Second, the 

IRS would share additional income and employment information with ED to assist in the 

defaulted loan collection process. While this methodology does summarize ED's costs, the 

detailed program administration cost estimation methodology is not included as part of this 

methodology. However, ED's approach used the projected program costs through fiscal year 

1999 (FY99) based on contract data for direct lending and default collection. 

Because the issue of using the IRS to collect student loans currently in default status has not 

been decided, the IRS costs were estimated under two different sets of assumptions. Under 

the first set of assumptions, the IRS would collect loans currently in default (from both the 

Federal Family Education Loan Program (FFEL) and the Direct Loan Program). Under the 

second set of assumptions, ED would retain responsibility for collecting defaulted FFEL 

loans. For both Options 1 and 2, the operational cost impacts for the IRS were estimated for 

the following major functional areas: 

1 This option can be implemented either by using Federal employees or by 

contracting with a private vendor. Presumably, the cost estimate for student loan 

collection and servicing using a vendor would be similar to the program administration 

costs projected by ED. Therefore, this analysis is restricted to the case where Federal 

employees are used. 

Appendix 3 

2 
• Information Systems (computer systems development and maintenance) 

• Payment Processing 

• Customer Service 

• Default Collection 

• Chief Counsel and Appeals (Option 1 only) 

For the first few years, the most significant cost for Option 1 would be the cost of collecting 

the existing defaults under the FFEL program. Estimates are that this effort will require an 

increase of approximately 2,800 Collection FTE per year in the FY98-FY02 period. Under 

Options 1 payment processing costs eventually become the most significant cost, requiring an 

increase of 1,800 FfEs for FY98 and 7,500 FTEs when the program reaches its sized 

capacity of 20 million borrowers in repayment. To meet the servicing goals of Option 1 

,customer service costs become significant. 

Using Federal employees, Option 1 costs for FY99 total $528 million. Option 2 costs for 

FY99 total $54 million. At the designed systems capacity of 20 million borrowers in 

repayment, Option 1 costs would be approximately $1 billion per year while Option 2 costs 

would be approximately $500 million per year. 

It should be emphasized that major operational and design decisions have not been made; 

therefore, these costs estimates should be regarded as preliminary and subject to modification 

as the systems design and underlying assumptions become more clear. 

Limitations and Assumptions 

IRS costs were estimated for the FY95-FYOO period in order to conform with the loan 

volume projections provided by ED. In creating these estimates, it was assumed that major 

operational involvement by the IRS would not begin before the start of FY98, although 

systems development would begin in FY95. It was assumed that the IRS would require 3 

years to complete the systems development and testing.2 Costs were also estimated under at 

the student loan system's maximum capacity of 20 million borrowers in repayment. 

Costs were developed for the key functions performed by the IRS for these options--

Information Systems, Payment Processing, Customer Service, and Default Collections. 

Additional administrative costs to cover support functions such as Finance and Human 

Resources were assumed to be 15 percent of the direct requirements. 

2 These estimates assume that IRS would become operational in FY98. These estimates 

were originally developed assuming that the IRS would begin systems development in FY95. 

Since that is no longer a valid assumption, these estimates serve as illustrative examples of 

the costs. 

Appendix 3 

3 
Costs for each key function were developed separately. Wherever possible, staff costs were 

converted into dollars by use of the 1995 Unit Cost Rate handbook. Out-year costs were 

adjusted by the use of OMB Gross Domestic Product (GDP) inflator percentages for the 

FY94-FY99 period. The OMB GDP inflator is approximately 3% per year. 

ED data, as of mid-March 1994, were used to estimate overall loan volumes for the Direct 

Loan program, as well as the total number of FFEL defaults. From its experience in tax 

administration, the IRS has solid cost models which could be used to estimate the 

administrative costs for direct lending. Many of the tasks required for processing tax 

information are similar to processing loan information. Because these costs models were in 

terms of taxpayers, it was necessary to know the number of borrowers. However, ED does 

not track student loans on the basis the number of borrowers. The IRS student loan costs are 

dependent on the number of borrowers. 3 

For IRS cost estimation purposes, it was necessary to determine the number of individual 

borrowers rather than overall numbers of loans. Therefore, ED loan volume projections 

were converted into number of borrowers based on the distribution of loans (percent with 

only one loan, percent with two loans, etc.) for a particular loan cohort. The procedure used 

to convert loans into borrowers was agreed to by both ED and IRS. These estimates could 

not be validated for the purposes of these cost projections. 

The projected percentage of total Direct Loan borrowers who will request the incomecontingent repayment option (18%) was also based on ED projections. It was further 

assumed that 30% of all direct loan borrowers would elect to repay their student loans 

through wage withholding. Changes in these estimates would significantly impact the cost 

estimates. 

Collection estimates were based on ED estimates that there are approximately 7 million 

FFEL cases currently in default and that approximately 900,000 cases default each year. 

This number is projected to slowly drop towards the late 1990's. Two major assumptions 

were used in developing the IRS estimates under the defaulted loan collection scenarios. The 

first assumption was that the current FFEL default inventory would still exist at its current 

level in FY98. The second assumption was that the Service would absorb this backlog into 

five annual classes, for work beginning in FY98. 

These estimates also assume that the default rates for the new Direct Loan program would be 

equivalent to FFEL during the period in question. These estimates also include the 

assumption that the IRS would be as successful in collecting defaulted loans as ED. In other 

3 IRS estimates its processing costs on the expected number of returns which 

translates into the number of borrowers. It should be noted that there is not a one-toone correlation between number of loans and borrowers. Borrowers may have more 

than one loan. 

Appendix 3 

4 
words, the ability to collect defaulted loans is agency neutral. These assumptions should be 

treated with caution and represent the major risks in this analysis. 

Approach 

lnfonnation Systems 

Although specific architectures and processing requirements have not yet been defined for 

this potential program, the IRS systems cost estimates were developed based on the following 

assumptions: 

• Option 1 

Cost Estimates were based on purchasing the equivalent computing 

capacity bid under ED's direct loan servicing contract. 

Development (information engineering design and programming) would 

require a total of 2 fiscal years. However, the costs for development 

have been rolled into the initial year. Those costs are 658 FTEs ($62 

million). Maintenance programming has been estimated at a rate of 

40% of development cost (263 FTEs). These estimates are tentative 

and depend on scheduling and design decisions that have not yet been 

made. 

• Option 2 

A Student Loan Master File (SLMF) would be created and linked with 

the appropriate tax data systems. 

The Department of Education would be responsible for case creation 

and data feeds to the SLMF. 

Data would be retained in the SLMF for at least 10 years after 

repayment. 

The average record size would be 14 kilobytes. 

The SLMF would initially be sized to contain 20 million records, with 

a total storage requirement of 280 gigabytes. 

Development (information engineering design and programming) would 

require a total of 3 fiscal years. During the initial year a total of 40 

FTE would be needed for design and programming support, plus 10 

Appendix 3 

5 
Payment Processing 

non-programming IS staff, plus 8 FfE for Resource Management 

support (total of 58 FfE). This number would increase to 72 FrEin 

Year 2, and decline to 43 FfE in Year 3. These estimates are tentative 

and depend on scheduling and design decisions that have not yet been 

made. These estimates also depend on the assumption that the Tax 

Systems Modernization effort remains on schedule. 

Hardware costs also depend on design decisions. For estimation 

purposes it is assumed that FY95-FYOO mainframe processing costs 

will range from $5 million to $15 million and that lifecycle 

connectivity/ telecommunications costs will range from $1 to $3 

million. 

• Option 1 

Costs are projected based on tax return processing costs. 

Volumes for processing payments/returns based upon borrowers in 

repayment status. Since the Department of Education does not possess 

this statistic (it measures volumes by loans rather than by individuals), 

the IRS converted loan volumes to volumes of individuals using 

formulas on the percentage of individuals from a cohort who takes 1, 2, 

3, etc. loans. The conversion formulas assume 1) that individuals 

receiving direct loans will only receive direct loans and 2) that 

individuals receiving multiple loans will do so in consecutive years. 

Volumes and percentage rates for defaults were also based on 

Department of Education statistics of defaults. 

It is anticipated that 30% of all direct loan borrowers 

will elect to repay through wage withholding with the 

annual reconciliation on the tax return. 

D~ta entry rate assumed at be at the same rate as data entry of 

individual income tax returns. 

Error rate assumed to be same as the Form 1040 average (20%). 

Correspondence/adjustment volume assumed to be 40% of borrowers in 

repayment status. 

Appendix 3 

6 
For Direct Loan borrowers who are delinquent with either their income 

or student loan tax payments (i.e., the new version of defaulters), six 

notices including the default notice would be sent. For borrowers 

currently in default for FFEL loans, only the default notice will be 

sent. 

Monthly notices showing balance due and repayments would be sent to 

borrowers in repayment. 

Employers would file a form similar to Form 945. It was assumed that 

the payments would be sent approximately 26 times per year. 

A 12% error rate was assumed for processing the employer withholding 

form. 

Advance staffing was assumed necessary for training and piloting 

purposes. One half of anticipated first year processing FTEs would be 

hired in FY96; the rest in FY97. 

• Option 2 

Costs are projected based on tax return processing costs. 

Volumes for processing payments/returns based upon borrowers in 

repaym~nt status. Since the Department of Education does not possess 

this statistic (it measures volumes by loans rather than by individuals), 

the IRS converted loan volumes to volumes of individuals using 

formulas on the percentage of individuals from a cohort who takes 1, 2, 

3, etc. loans. The conversion formulas assume 1) that individuals 

receiving direct loans will only receive direct loans and 2) that 

individuals receiving multiple loans will do so in consecutive years. 

Volumes and percentage rates for defaults were also based on 

Department of Education statistics of defaults. 

It is anticipated that 30% of all direct loan borrowers will elect to repay 

through wage withholding with the annual reconciliation on the tax 

return. 

Data entry rate assumed at be at the same rate as data entry of 

individual income tax returns. 

Error rate assumed to be same as the Form 1040 average (20%). 

Appendix 3 

7 
Collection 

Correspondence/adjustment volume assumed to be 40% of borrowers in 

repayment status. 

For Direct Loan borrowers who are delinquent with either their income 

or student loan tax payments (i.e., the new version of defaulters), six 

notices including the default notice would be sent. For borrowers 

currently in default for FFEL loans, only the default notice will be 

sent. 

• Options 1 and 2 

The total default caseload was based on Department of Education 

estimates and include two major elements: a backlog of approximately 

7 million cases and an annual increment of 900,000 cases. It was 

assumed that the annual increment would slightly increase during the 

FY98 - FY05 period, although the direct loan/FFEL mix of defaults 

would change as the Direct Loan program expands. Different 

workload assumptions would have a dramatic impact on Collection 

costs. 

The current backlog of 7 million defaulted cases would be worked in 5 

annual classes beginning in FY98. 

Since Options 1 and 2 involve collection of defaulted loans, collection 

costs remain constant for .these options. The same applies when FFEL 

loans are excluded. Collection costs do not vary by option. 

Collection cases are assumed to proceed through the IRS Collection 

process in a manner similar to tax cases-- notice stream (up to 5 

notices), with Service Center Collection Branch (SCCB) answering any 

correspondence, followed ~y attempted telephone contacts through the 

Automated Call System (ACS) and finally, if the case is still 

unresolved, personal contact by Revenue Officers in the Collection 

Field Function (CFf). 

All cost estimates assume that internal IRS resources would be used for 

collecting defaulted loans. 

Fallout rates-- the percentage of cases which are not resolved at each 

point and therefore pass to the next stage- these rates are higher than 

the rates generally used for tax cases, since the current FFEL cases are 

Appendix 3 

8 
all already in default (Note: this is an unverified assumption). It is 

assumed that IRS would have to expend a higher level of effort to 

collect student loans than taxes because of the differences between 

defaulted debt and taxes. The scenario used for overall cost estimates 

assumes that 45% of all the cases receiving initial notices will require 

additional correspondence work by SCCB, 40% of all cases will go to 

ACS, and that 15% will require work by the Collection field function. 

In this scenario, the 7 million FFEL-case backlog would be allocated 

over 5 years. Other, equally plausible, assumptions would significantly 

impact estimated costs. 

Option 1: Collection would require 2,797 FTEs each year through 

FY02. 

This analysis assumes that the current FFEL backlog will be resolved 

by the end of FY02). 

Option 2: If FFEL defaults are not included, the Collection FTE 

requirements are: 

FY98: 128 

FY99: 179 

FYOO: 233 

Dollar costs were derived by using the 1995 UCR handbook "Tax 

Examiner" expansion rates for SCCB employees, "Other Permanent" 

expansion rates for ACS, and "Revenue Officer" expansion rates for 

CFf. All rates were adjusted for inflation. However, to build-in 

additional costs for administrative or HR support, or for additional 

facilities, a conservative approach of adding 15% to listed dollar costs 

for these factors, increasing the Collection FY98 - FYOO estimate by 

$37 million a year. 

Most Collection costs would be incurred in CFf. Regardless of the 

assumptions used, however, a large percentage of cases would 

inevitably end up in "currently not collectable" status. This analysis 

does not attempt to deal with the consequences of this situation for 

Account Receivable Delinquent Inventory, etc. 

Revenue neutrality was assumed across all options. 

Opportunity Costs: 

With FFEL Default Collections: 

Appendix 3 

9 
Average Tax Collected per FfE: $430,000 

Average Number of FTEs per year: 2,800 

Opportunity Costs: $1,200,000,000 

Without FFEL Default Collections: 

Average Tax Collected per FfE: $430,000 

Average Number of FTEs per year: 26 

Opportunity Costs: $11,800,000 

Note: Given the size of the IRS' Accowus Receivables, the 

marginal gain in revenue from adding an FTE is equal to the 

average gain in revenue from adding an FTE. 

Customer Service 

• Option 1 

Both default-collection and loan servicing will generate additional 

workload for the Customer Service function. Although this option calls 

for the IRS to assumed the role of primary contact point for all 

borrowers, some borrowers will contact ED. 

In developing the Customer Service estimates, the following 

assumptions were used: 

FFEL default cases: 

15% will make telephone contact each year 

1 % will have written correspondence each year 

5% will generate walk-in traffic each year 

New Direct Loans: 

15% will make telephone contact each year 

1 % will have written correspondence each year 

5% will generate walk-in traffic each year 

Repayment Plans: 

Income Contingent--

S% will make telephone contact each year 

0.5% will have written correspondence each year 

1.7% will generate walk-in traffic each year 

Appendix 3 

10 
All other repayment plans--

10% will make telephone contact each year 

1 % will have written correspondence each year 

3.4% will generate walk-in traffic each year 

The average time per contact was estimated based on time per 

contact for current Taxpayer Services experiences: 

Telephone: 0.22 hours 

Correspondence: 0.44 hours 

Walk-Ins: 0.29 hours 

1995 Unit Cost Rate Taxpayer Service Representative (Permanent) 

expansion rate numbers were used to convert workload to dollar costs. 

Rates were adjusted in the out-years using the GDP inflator. A 15% 

resource management (RM) overhead factor was added to final cost 

projections. 

Additional costs would be incurred for correspondence and notices 

required while loan recipients remain in school or otherwise in deferral 

status (i.e. contacts with the schools and students, additional inquiries 

by students and schools). Per estimates from ED's direct loan 

servicing contract, the best available data source since the IRS performs 

no comparable function as part of tax administration, the cost of these 

customer services would be approximately $10 per individual in 

deferral status. While FTEs were not determined, if the production 

rate for these services were equivalent to those for Taxpayer Services, 

the FTEs required would be approximately 1,100 in FY98. 

• Option 2 

Both default-collection and loan servicing will 

generate additional workload for the Taxpayer 

Service function. Although this option calls for 

ED to retain the primary responsibility for 

customer contact and dispute resolution, some 

borrowers will contact the IRS for information. 

In developing Taxpayer Service estimates, the 

following assumptions 

were used: 

11 

Appendix 3 
FFEL default cases: 

15% will make telephone contact each year 

1% will have written correspondence each year 

5% will generate walk-in traffic each year 

New Direct Loans: 

15 % will make telephone contact each year 

1% will have written correspondence each year 

5% will generate walk-in traffic each year 

Repayment Plans: 

Income Contingent5% will make telephone contact each year 

0.5% will have written correspondence each year 

1. 7% will generate walk-in traffic each year 

All other repayment plans--

10% will make telephone contact each year 

1 % will have written correspondence each year 

3.4% will generate walk-in traffic each year 

The average time per contact was estimated based on time per contact 

for current Taxpayer Services experiences: 

Telephone: 

Correspondence: 

Walk-Ins: 

0.22 hours 

0.44 hours 

0.29 hours 

1995 Unit Cost Rate Taxpayer Service Representative (Permanent) 

expansion rate numbers were used to convert workload to dollar costs. 

Rates were adjusted in the out-years using the GDP inflator. A 15% 

RM overhead factor was added to final cost projections. 

Appendix 3 

12 
Appendix 4 

Student Loan Repayment and Wage Withholding 

Employer Reporting Burden 

Appendix 4 
Overview 

Student Loan Repayment and Wage Withholding 

Employer Reporting Burden 

This Appendix describes the methodology used to estimate employer reporting burden. This 

section provides a step-by-step explanation of the methodology used by Treasury and 

Education (ED) to estimate the cost to employers of withholding student loan payments from 

employees' wages in addition to the reporting and remitting of those payments to the student 

loan servicer. 

Employer reporting burden represents the time (expressed in terms of money) and expenses 

incurred by employers for withholding, remitting, and reporting student loan payments to the 

Federal government. The burden experienced by employers will depend on the 

characteristics of the program, as set up by the government, the number of borrowers who 

choose to repay their loans through wage withholding, and the number of firms that are 

affected. Because the IRS and the Department of Education have proposed similar 

withholding systems, from the borrower's perspective, it is essential that the characteristics 

of each system and that the burden estimation methodology be thoroughly understood. 

Please see Exhibit A for a description of the components of employer burden. 

The estimates of employer burden have been developed within the expected steady-state for 

the Direct Loan Program. Please see Exhibit B for estimates of employer burden. Under 

steady-state conditions, it is expected that there will be 20 million borrowers repaying their 

Direct Loans. As borrowers have a number of choices in repayment plans (standard, 

extended, graduated, and income-contingent), borrowers will also have a number of options 

in how they elect to repay their loans. Borrowers will be able to repay through monthly 

checks, automated bank debits, or wage withholding. 

Internal Revenue Service 

The Internal Revenue Service envisioned several ways of implementing a student loan 

repayment system using wage withholding. The first method involves using the current tax 

withholding system to collect student loan payments. The second method involves setting up 

a special operation within the IRS, yet separate from the tax system, for the collection and 

servicing of Direct Loans. Each method has it own distinct characteristics and implications 

for employer reporting burden. 

Appendix 4 

2 
w 

~ 

~ Q, 

~· 

oCI. 

Mandatory 

Employer 

Withholding 

Voluntary 

Employer 

Withholding 

Student Loan Repayment and Wage Withholding 

Employer Reporting Burden - Summary 

Components of Employer Reporting Burden 

Internal Revenue Service Department of Education 

Separate from the Tax System Using the Current Tax System 

Total Burden • Fixed Costs+ Variable Costs Burden = Fixed Costs +Variable Costs 

Fixed Costs • recordkeeping costs (accounting Fixed Costs • the cost of having the necessary 

systems modlncatlons and maintenance, data Infrastructure to withhold student loans from 

storage, etc) + the cost of generating summary Not Applicable an employee's paychecks and remit the 

withholding data (I.e., employer Identifier, pay amounts to Education. This cost consists 

period covered, $ remitted) + the cost of flmns In this system, employers of the system maintenance costs (record 

certifying that they were not required to participat would not know that they were updates and other systems changes) and 

Variable Costs =The cost to employer of reporting withholding for student loans. the cost of recordkeeping. 

withholdings for each student loan borrower Therefore, employers do not Variable Costs = represents the transactions 

experience additional burden. costs to the employer of actually 

withholding, reporting, and remitting 

payments to the Department of Education 

Total Burden= Fixed Costs+ Variable Costs Burden = Fixed Costs +Variable Costs 

Fixed Costs = recordkeeping costs (accounting Fixed Costs = the cost of having the necessary 

systems modifications and maintenance, data Infrastructure to withhold student loans from 

storage, etc) + the cost of generating summary Not Applicable employee's paychecks and remit the 

withholding data (I.e., employer Identifier, pay amounts to Education. This cost consists 

period covered, $ remitted) In this system, employers of the system maintenance costs (record 

would not know that they were updates and other systems changes) and 

Variable Costs • The cost to employer of reporting withholding for student loans. the cost of recordkeeplng. 

withholdlngs for each student loan borrower Therefore, employers do not Variable Costs = represents the transactions 

experience additional burden. costs to the employer of actually 

withholding, reporting, and remitting 

payments to the Department of Education 

Note: Employers with fewer than 10 employees are exempted from mandatory withholdino-Employers with 50 or more employees elect to participate under the voluntary program. 

~ c;: 

--· 

> 
~ 

~ 

1 

Q, 

t--· 

>< 

olio. 

Mandatory 

Employer 

Withholding 

Voluntary 

Employer 

Withholding 

Internal Revenue Service 

Separate from the Tax System 

Total Burden z: Fixed Costs+ Variable Costs 

Fixed Costs = (1 .2 million employers x 4.4 hours 

x $10 per hour x 12 months) +(1 .2 million 

Student Loan Repayment and Wage WHhholding 

Employer Reporting Burden - Summary 

E.tlmms of Employer Reporting Burden 

Using the Current Tax System 

Department of Education 

Burden = Fixed Costs + Variable Costs 

Fixed Costs = 1.2 million employers 

x $42 per month x 12 months 

employers x .04 hours x $10 x 33 pay periods) Not Applicable z: $605 million 

+ (4.8 million employers x .04 x $10 x 12 months) 

= $672 million Variable Costs = 196 million transactions 

x $2.5 per transaction 

Variable Costs • 6 million employees x • $490 million 

.53 hours x $10 per hours x 33 pay periods 

• $1 ,050 million Total Burden • $605 + $490 

• $1 .1 billion 

Total Burden • $672 + $1,050 

• $1.7 billion 

Total Burden = Fixed Costs + Var1able Costs Burden = Fixed Costs + Variable Costs 

Fixed Costs= (.174 million employers x 4..4 hours Fixed Costs= 174 thousand employers 

x $10 per hour x 12 months) +(.174 million x $42 per month x 12 months 

employers x .04 hours x $10 x 33} Not Applicable = $88 million 

= $94 million 

Variable Costs = 147 million transactions 

x $2.5 per transaction 

Var1able Costs = 4.5 million employees x = $368 million 

.53 hours x $10 per hours x 33 pay periods 

= $787 million Total Burden .. $88 + $368 

.. $0.5 billion 

Total Burden • $94 + $787 

• $0.9 billion 

Note: Employert with ftiWftflhan 10 employ- era exempted from mendetory withhold'lllg-Employera with 50 or more employ- elect to perticlpete under the voluntary program. 

~ c;: 

.... 

-t;:rj 

I 

I 
Characteristics of the Proposed IRS Administered Programs 

Usin~ the Current Tax System 

The following points highlight the student loan withholding system envisioned by the Internal 

Revenue Service as using the current tax withholding system: 

• Employees increase the amount withheld by employers to cover both student 

loans and income taxes. 

• Employers would not know that employees would be repaying Direct Student 

Loans through wage withholding. 

• Reconciliation between student loan and income tax payments would be done 

on a new schedule attached to Form 1040. 

Because employers would not be required to differentiate between income tax withholdings 

and student loan withholdings, this program would impose no additional burden on 

employers. 

Swarate from the Tax System 

• Withholding program separate from the tax program 

• Real-time reporting of individual employee's student loan payments made via 

wage withholding 

• IRS compliance action centers on employers rather than the borrower 

The IRS would contact the employer if nonpayment or underpayment is 

detected 

Employers would be required to keep and submit detailed records with 

each transaction 

The IRS would only contact the borrower if the employer demonstrated 

that the borrower did not specify enough withholding to cover the 

liability 

• Program requires more stringent reporting by employers than what is currently 

required under the tax system. 

• Increased employer reporting burden 

Appendix 4 

5 
Burden Estimation Methodology 

Under the existing tax system, the IRS designed a program that would not require employers 

to differentiate student loan withholdings from income tax withholdings. Therefore, the 

following burden analyses applies only to IRS operating a special operation separate from the 

current tax system. 

The estimate of employer reporting burden for a withholding system separate from the tax 

system is based on the following equation: 

(4) Total Burden = Employer BurdenA + Employer Burdenu 

where 

Employer BurdenA represents the costs incurred by employers in reporting student 

loan repayments to the Internal Revenue Service. 

Employer BurdeDu represents the burden experience by ~mployers who do not have 

employees who repay student loans through wage withholding, yet have to certify to 

the IRS that withholding was not required. This burden would not be applicable to 

firms under a voluntary program. 

Like the program administered by the Department of Education, burden under the IRS 

special operation can be expressed in terms of fixed and variable costs. Rewriting (4), 

burden is defined as: 

(4)' Total Burden = Fixed Costs + Variable Costs 

where 

FIXed Costs = Recordkeeping Costs (for firms affected) + Summary Reporting Costs 

+ Certification Costs (for firms which do not have to withhold) 

Variable Costs = Detailed Reporting Costs 

Esti11UJle of Fixed Costs under an IRS Administered Withholding Program Separate from the 

Tax System 

From the basic definition of Total Burden, the first major component of Fixed Costs is the 

recordkeeping costs. Firms affected by the withholding requirement would be required to set 

up and maintain a withholding system, as was the case in the Education administered system. 

To comply with the Paperwork Reduction Act, the Service developed models to estimate the 

Appendix 4 

6 
time necessary to comply with Federal tax reporting requirements. The IRS estimates the 

average time for each IRS form. Not only does the IRS estimate the average time per form, 

but it also estimates the average time to perform subtasks. For example, the IRS estimates 

both the recordkeeping and reporting burden for all business tax forms. Extrapolating from 

known tax forms to what student loan requirements would necessitate permits the estimation 

of employer burden. 

Fixed Costs for student loans are the sum of the recordkeeping costs, the summary reporting 

costs, and the cost of employers not affected by the withholding requirement to certify that 

they did not have to withhold. 

The recordkeeping required for students loans would approximate what would be required by 

firms in filing the Form 941 , Employers Quarterly Withholding. Therefore, recordkeeping 

for firms affected by the withholding requirement can be estimated by the following 

equation: 

(5) Recordkeeping Costs = Time.t x Frecu x Monetary Value x number of 

employers affected 

where 

Time = 4.4 hours per month 

Freq = 12 months per year 

Monetary Value = $10 per hour 

or 

Recordkeeping Costs = 4.4 hours x 12 months x $10 per hour x number of 

employers 

= $528 x number of employers affected 

Based on the analyses performed in estimating the Department of Education burden, the 

number of employers participating in a mandatory program is 1.2 million while the number 

of employers participating in a voluntary program is 174 thousand. 

The Summary Reporting costs represent the cost of employers to summarize the withholdings 

each pay period. It was estimated that there would be 196 million transactions per year 

under a mandatory program administered by the Department of Education. Given 6 million 

employees, each employee is paid, on average, 33 time per year. The summary reporting 

costs can be estimated by the following equation: 

(6) Summary Reporting Costs = number of employers affected x time x $ value x 

frequency 

Appendix 4 

7 
where 

time = .04 hours (based on the time estimate for Federal Tax Deposits) 

$ value = $10 per hour 

frequency = 33 times per year 

number of employers = 1.2 million, if mandatory (.174 million, if voluntary) 

or 

Summary Reporting Costs = number of employers affected x .04 x $10 x 33 

= number of employers affected x $13.20 

While not all firms would not necessarily be affected, the Service would still require 

that firms certify that they were not required to withhold for student loans (only under the 

mandatory program). Because employers would be the conduit for wage withholding, the 

IRS would begin investigating underpayments or nonpayments through employers. The 

certification cost is estimated by: 

(7) Certification Costs = number of employers not affected x timex $value x 

frequency 

where 

time = .04 hours (based on Federal Tax Deposits) 

$value = $10 per hour 

frequency = 12 per year 

number of employers = 4.8 million, if mandatory (5.83 million, if voluntary) 

or 

Certification Costs = number of employers not affected x timex $value x frequency 

= number of employers not affected x $4.8 

The estimate of Fixed Costs is based on the following equation: 

Fixed Costs = Recordkeeping Costs + Summary Reporting Costs + Certification Costs 

= $528 x number of employers affected + number of employers affected x $13.20 

+ number of employers not affected x $4.8 

Therefore, it is estimated that the Fixed Costs are: 

Appendix 4 

8 
• Mandatory Withholding: $672 million 

• Voluntary Withholding: $ 94 million 

Estimate of the Variable Costs 

The variable costs are dependent upon the number of employers for whom employers are 

required to withhold for the repayment of student loans. Under the IRS administered 

program, it is envisioned that employers would be required to submit W-2 type information 

every pay period. Therefore, variable costs can be estimated by the following equation: 

(8) Variable Costs = number of employees x estimated timex number of pay 

periods x $10 

where 

estimated time = .53 hours (based on Form W-2) 

average number of pay periods per year = 33 

number of employees = 6 million, if mandatory (4.5 million, if voluntary) 

The estimated Variable Costs are: 

• Mandatory Withholding: $1,050 million 

• Voluntary Withholding: $787 million 

Estimate of Employer Burden under the IRS Administered Program (Separate from the Tax 

System) 

The preceding sections developed all of the necessary assumptions and inputs for estimating 

the total employer reporting burden for an IRS administered student loan collection and 

servicing system separate from the tax system. Recall the basic definition of employer 

reporting burden: 

(4) Total Burden = Employer Burden" + Employer Burdenu 

or 

(4)' Total Burden = Fixed Costs + Variable Costs 

Based on this analysis, the estimates for employer reporting burden as administered by the 

Internal Revenue Service are: 

• Mandatory Withholding: 

Fixed Costs: $672 million 

Appendix 4 

9 
Variable Costs: $1,050 million 

Total Burden: $1,722 million 

• Voluntary Withholding: 

Fixed Costs: $ 94 million 

Variable Costs: $787 million 

Total Burden: $ 881 million 

Department of Education 

Characteristics of the Education Administered Program 

The following points highlight the student loan withholding system envisioned by the 

Department of Education: 

• Education envisions a withholding program similar to a savings bond campaign 

or employer charitable contribution program. 

• Education's compliance efforts will be centered on the borrower 

Education first contacts borrowers if either a nonpayment or 

underpayment is detected. 

Borrower attempts to resolve issues with employers before involving 

Education. 

• Education envisions a program that requires minimal reporting requirements by 

employers 

• Borrowers will always have the ability to select the method of repayment that 

best suits their situations. 

Burden Estimation Methodology 

The estimate of employer burden is based on the following equation: 

(1) Total Burden = Total Fixed Costs + Total Variable Costs 

where 

Total FlXed Costs are the costs incurred by employers for having the necessary 

infrastructure to withhold student loan payments from employees' paychecks and 

remit the amounts to Education. This cost primarily consists of the system 

maintenance costs (updating of records and other changes to the system) and the cost 

Appendix 4 

10 
of recordkeeping. Total Fixed Costs for student loans is the cost over and above 

what the employer expends to comply with Federal tax requirements or other 

withholding programs. 

Total Variable Costs represent the transaction costs to the employer of actually 

withholding, reporting, and remitting payments to the Department of Education. 

These costs are in addition to the burden experience by employers in complying with 

Federal tax requirements and other withholding programs. 

The estimate of Total Fixed Costs is based on the following equation: 

(2) Total Fixed Costs = number of employers x Average Monthly Fixed Costs x 

12 months 

where 

Average Monthly Fixed Costs = $42.001 

The estimate of Total Variable Costs is based on the following equation: 

(3) Total Variable Costs = number of transactions per year x average cost per 

transaction 

where 

Average cost per transaction = $2.502 

Number of transactions = f(number of employees participating, payroll frequency 

distribution) 

Payroll frequency distribution: 3 

Weekly: 31.5 % 

Biweekly: 36.3% 

Monthly: 7.0% 

Bimonthly: 25.2% 

1 Per conversations with Automated Data Processing, Inc. (ADP), the American Payroll 

Association, and the American Society of Payroll Management, it was determined that the 

model for child support administrative wage garnishment was the closest model to the 

proposed Education student loan withholding system. The Average Monthly Fixed Cost was 

provided by ADP. 2 Source: ADP, The transaction cost per employee for administrative wage garnishment. 

3 Source: ADP's distribution of client pay cycles. Discussions with the American Payroll 

Association indicated that ADP's clients were representative of the employer population. 

Appendix 4 

11 
Therefore, to estimate the employer reporting burden under a program administered by the 

Department of Education, it is first necessary to determine: 

• the number of employers affected 

• the number of borrowers repaying through wage withholding 

• the number of transactions per year 

Estimated Number of Employers Affected by Student Loan Withholding 

To estimate the Total Fixed Costs, it is necessary to first estimate the number of 

employers who withhold for student loans. Based on the IRS's employment tax reporting, 

approximately 6 million employers could be affected by a student loan wage withholding 

program. However, there is no reason to believe that all employers would be affected. It is 

reasonable to assume that the probability of employers having less than 10 employees would 

be affected, even under a mandatory program, would be almost zero. Based on an analysis 

of IRS, Census, and Department of Education data, it is expected that the maximum number 

of employers that potentially could be affected under a mandatory withholding program is 1.2 

million employers. 

With respect to the voluntary withholding program, one would expect that larger employers 

would be more willing to offer repayment of student loans through wage withholding as an 

employee benefit. While the average monthly fixed cost per employer and the average cost 

per transaction are identical under both the mandatory and voluntary programs, the 

perception changes. The mandatory withholding program would be viewed as another 

government mandate while the voluntary program permits businesses to decide whether to 

offer loan repayment via wage withholding to their employees. In other words, the business 

community could be viewed as a cost while the voluntary program is viewed as an employee 

benefit. 

Based on conversations with United Way concerning employer participation in charitable 

withholding programs, and on Treasury statistics for the government savings bond program, 

our best estimate of the number of employers offering wage withholding on a voluntary basis 

is 174,000. This assumes that employers with fewer than 50 employees will elect not to 

participate. 

To summarize, the projected number of employers participating in a wage withholding 

program for the repayment of Federal student loans are: 

• Mandatory Withholding Program: 1.2 million employers 

• Voluntary Withholding Program: 174 thousand employers 

Appendix 4 

12 
Estimated Number of Borrowers Participating in a Wage Withholding Program 

Under the mandatory withholding program, it" was estimated that 1.2 million employers 

would be affected by the requirement. Approximately 84% of all employees are employed 

under this employer subpopulation. Based.on all available information, IRS, Treasury, and 

Education estimate that approximately 6 million borrowers would elect to repay their loans 

through wage withholding (including income contingent and all other repayment plans). 

Because the number of firms electing to participate in a voluntary withholding program is 

considerably less, fewer borrowers will be able to repay student loans through wage 

withholding. Approximately 4.5 million employees would be able to participate under the 

voluntary withholding program. 

To summarize, the best estimates for the number of borrowers electing to repay student loans 

through wage withholding are: 

• Mandatory Withholding Program: 6. 0 million borrowers 

• Voluntary Withholding Program: 4.5 million borrowers 

Estimated Number of Transactions Per Year 

As stated in the methodology, the number of transactions is dependent upon the payroll 

frequency distribution and the number of employees participating. It is reasonable to assume 

that the payroll frequency distribution can be used to extrapolate how frequently employees 

are paid. Therefore the number of transactions per year can be estimated through the 

following equation: 

(4) Number of Transactions = number of borrowers x E(payroll frequency 

distribution x number of pay cycles per year) 

Using the estimate of 6 million borrowers under the mandatory withholding system the 

number of transactions per year would be: 

e 6 million X (.315 X 52 + .363 X 26 + .07 X 12 + .252 X 24) 

or 

196 million transactions under a mandatory program 

Using the same approach for the voluntary withholding program, 4.5 million employees 

participating generates 147 million transactions. 

Appendix 4 

13 
Estimate of Employer Reponing Burden under an Education Administered Program 

Recall that the employer reporting burden is represented by the following equation: 

(1) Total Burden = Total Faxed Costs + Total Variable Costs 

Both Total Fixed Costs and Total Variable Costs were also determined based on the analyses 

presented above. 

(2) Total Fixed Costs = number of employers x Average Monthly Fixed Costs x 

12 months 

= number of employers x $42 x 12 months 

= number of employers x $504 

(3) Total Variable Costs = number of transactions per year x average cost per 

transaction 

= number of transactions per year x $2.50 

Employer Burden under ED's Wage Withholding Programs 

The preceding sections developed the inputs necessary to estimate employer burden under 

both a mandatory and voluntary program. Based on the assumptions and the analytical 

approach detailed above, the estimates for employer burden are: 

• Mandatory Withholding: 

Total Fixed Costs: 

Total Variable Costs: 

Total Burden: 

• Voluntary Withholding: 

Total Fixed Costs: 

Total Variable Costs: 

Total Burden: 

14 

$ 605 million 

$ 490 million 

$1,095 million 

$ 88 million 

$ 368 million 

$ 456 million 

Appendix 4