David Bowie was the first person to sell bonds based on his future royalties. Concerned in 1997 that his earnings would be decimated by the internet, he decided to optimize his current income. At first he considered selling his work.
But then, he (and an advisor) had a Eureka moment.They decided to issue a Bowie Bond. Funded by future earnings, investors would get a 7.9% yield while the bond revenue provided upfront income to Bowie.
Where are we going? To how future income can pay college tuition.
Income Sharing Agreements
Sort of like a Bowie Bond, a new kind of student “loan,” the Income Sharing Agreement (ISA), is based on future income. First, students get the funding. Then they pay it back with their future income during a limited time period.
As for the cost, your college major determines the interest rate. The lower the recipient’s income projection, the higher the rate. With the Purdue University Income Sharing Agreement (Back a Boiler ISA Fund) an English major might have a 4.97% interest rate for a 116 month obligation but a higher earning engineering student would have a 2.81% rate that spanned 88 months. The different rates and time periods equalized the amounts.
Purdue University now has 759 contracts that they say they recommended only to people considering private lenders because federal loans are a better deal. They also explained that unemployed graduates owe less if they are actively looking for a job. However, if you decide not to work for a year of travel, then your obligation is postponed for that time.
Our Bottom Line: Financial Innovation
Similar to silly putty, the computer chip, or the moving assembly line, in finance also we have new products and processes that include junk bonds, money market funds, and futures options.
To that list, we can add the ISA.
My sources and more: Thanks to the Planet Money podcast for introducing me to the Purdue Boiler Maker-ISA Fund and WSJ for the background. (I found more on the Purdue boilermaker name if, like I, you are curious.)
Please note that several of today’s sentences were in a past econlife post.