Politicians are often judged using a scorecard, highlighting key votes on various topics and placing them along a liberal-conservative continuum. But this is a terrible way to really gauge the impact of elected officials. So much of their work will never show up in a floor vote, and the measure of their leadership has much more to do with how they choose to employ their power. We got another lesson in that this week from Senator Elizabeth Warren and a few colleagues.
For many months now, activists have clamored for the Education Department to cancel loans taken out by students who were defrauded by for-profit colleges, which lied to them about job placement and issued worthless diplomas. Unfortunately, despite broad authority to provide blanket relief, the Department forced individual students to re-prove the already demonstrated fraud, forcing them to become private investigators and legal experts in their own cases for no reason. Critics charged that the approval process was being slow-walked so that the Education Department wouldn’t have to lose billions on outstanding loans.
Finally, six months after initiating the “fast-track” process, and amid additional confirmation that the fraud was systemic, last week the Education Department announced that they would forgive an initial batch of $28 million in debt for 1,312 students who attended Heald College, part of the Corinthian network. This reflected only 1 perfect of those eligible for relief. Activists condemned the Department for “drawing out this process indefinitely” in the face of evidence of widespread fraud, not only at Corinthian but also at the EDMC network of campuses and other for-profit outlets.
But things could have gone much worse.
Under current law, if a student receives debt relief on a loan, that forgiveness is treated as earned income, like a salary for a job. The student then must pay taxes on that debt relief, which could kick them into a higher tax bracket and put them on the hook for thousands of dollars they might not have. The situation is similar to homeowners who get debt forgiveness on their mortgages. Congress created legislation to exempt mortgage holders from taxes on debt relief; they haven’t done the same for student borrowers. But why should students have to pay taxes on a discarded loan that never gave them the education they sought?
Senator Warren and three other Democrats– Senators Dick Durbin and Sherrod Brown, and Representative Maxine Waters – recognized that students freed from their debt obligations could get hit with a big tax bill. When the Education Department initially announced their process for giving debt relief, they did not mention the tax issue. So Warren and her allies took action by going around the Education Department.
In an August 11 letter to Treasury Secretary Jack Lew and IRS Commissioner John Koskinen, the Democrats made the argument that they should treat loan discharges for fraud as a non-taxable event, excluded from gross income, using precedents in IRS guidance dating back to 1957.
Among the arguments, Warren, Brown, Durbin, and Waters stated that the debt was contingent upon fraud not triggering the “defense to repayment” clause in the student loan contract. If the debt is subsequently discharged, that should not constitute earned income, they claimed, citing several past precedents. They also claimed that, under the “contested liability doctrine,” if a debt is cancelled to settle a dispute, that should not be counted as income.
Last week, as the Education Department made the announcement on the first batch of debt relief, Anne Wall, Assistant Secretary of the Treasury for Legislative Affairs, responded to Senator Warren. “Thank you for your letter and your continuing engagement regarding the tax treatment of the student loan discharges,” Wall wrote. She attached a “Revenue Procedure” from the IRS, explaining that no student who successfully completes the “defense to repayment” process will be required to recognize their cancelled debt as gross income. Students will not have to file additional forms or include information on tax returns to ensure this treatment.
The Revenue Procedure mirrors the arguments from the Warren letter, stating that “a borrower that has a liability reduced because of a legal infirmity that relates back to the original sale transaction (for example, fraud) may not have gross income to the extent of the debt reduction.” While this advisory solely relates to the discharges of Corinthian College loans, it’s broadly applicable to other for-profit college loans that may be forgiven due to fraud. This protects students from thousands of dollars in taxes on forgiven loans for sham educational services.
The positive outcomes in higher education finance may even be rubbing off on the Education Department. They are moving to cut out student loan servicers, middlemen who collect loan payments from students. As the government knows how to collect money, there’s no reason for student loan servicers to exist, and furthermore they have been found to perform terribly, failing to deliver basic information to borrowers. Creating a single portal where borrowers could access loan information and make payments would be a gigantic step forward, saving money and improving the experience.
Warren criticized the Education Department last week for the hurdles and delays to cancelling loan debt for defrauded students. But her behind-the-scenes work with the IRS cleared the way for blanket debt relief, by ensuring that students wouldn’t face a tax nightmare and further administrative headaches in the process.
And here’s the thing: Dozens of these types of interventions happen every day. The power of members of Congress extends well beyond voting up or down on legislation. They can identify potential concerns, work with the executive branch, and aid in the smooth functioning of government. Few people ever see this at work, but it’s a key part of the job.
This power can obviously be used for good or ill. Lawmakers can harass federal officials or threaten to block their initiatives. But every so often, lawmakers actually try to get the government to work properly, and that should be recognized. You could twist Senator Warren’s record to claim that she “never passed a law.” But once you learn about situations like this, you can no longer say that she isn’t making a difference.
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