In the U.S., student debt has surpassed $1.5 trillion, which is higher than credit card debt. Naturally, students are looking for alternative ways to finance their education which allow them to focus on learning, rather than the burdens associated with incurring debt — stress, a requirement to get a well-paying job to pay off debt, etc. Student debt is clearly a major issue, and there are a number of companies working to resolve the issue through Income Share Agreements (ISAs).
Income Share Agreements are a document that allows someone to borrow money from a lender in exchange for a portion of their future income. If the borrower is earning under a certain amount of money, they do not have to pay until they earn over the minimum payment amount. The ISA structure, unlike student debt, takes into account individual circumstances and ensures that people only pay back money if they are successful. ISAs are often compared to “equity” because people can borrow money without having to pay it back until they earn a certain amount of money.
In that regard, ISAs have the ability to align the incentives of the borrower and lender. If the lender helps the borrower succeed, then they will earn a higher return. However, if the borrower does not succeed, the lender will make nothing in return. This effect is especially important in terms of educational institutions that leverage ISAs to increase access to education. For example, Lambda School, a vocational coding bootcamp, allows students to pay a portion of their future income in exchange for participation in the program. If Lambda succeeds in helping people find a job, they will earn a good return on their investment.
However, if Lambda’s advice has not helped someone, then Lambda will not make any money.
In addition, Income Share Agreements also help increase general access to education. ISAs allow those who would be unable to take out a student loan — perhaps they have a poor financial history, cannot find a cosignatory, or are considered too risky by a lender — to borrow the money they need in order to cover their education. As ISAs become more popular, people will have access to more educational opportunities than before because they can commit a portion of their future income, rather than paying upfront, for education.
Another benefit of ISAs is how they can encourage entrepreneurship and help protect the borrower from downside risk. According to dozens of studies, student debt decreases the chance that an individual will pursue the path of starting a company or co-founding a company because they need to make enough money to repay their debt. One study found that the share of new entrepreneurs between the age of 20 and 34 fell to around 25 percent in 2014, from around 35 percent in 1996.
As student loans continue to rise, it is likely that younger people — who are commonly referred to as more entrepreneurial-thinking than generations — will avoid the path of starting a company because of the income insecurity. ISAs aim to change this by ensuring that people don’t have to pay back money until they earn over a certain amount. Students are free to take more risks which could have higher pay-offs and are protected from some of the downsides as the person will not have to repay their debt if their venture fails.
There are however a few problems with Income Share Agreements. The first and perhaps most notable is the ethical and cultural issues associated with the documents. Some people may see ISAs as a form of “indentured servitude”, and although this argument has been disproven, the image will still be retained by a few people in the public. In addition, there are many questions surrounding at what age one should be able to enter into an ISA, what percentage of income one can commit, et cetera. Future legislation will likely address a few, if not most, of these issues, but there will still be people who do not like the concept of committing a portion of their future income in exchange for an upfront payment to do something.
There are numerous other risk factors in ISAs, such as the lack of regulation, which means that ISAs are currently more open to abuse because there is no clear framework for structuring an ISA. In addition, there are issues surrounding whether or not ISAs will realize adverse selection at scale — a term used to describe when people are chosen based on their prospects for success, rather than on their personal aptitude — among other concerns.
Income Share Agreements have an exciting future for sure, and the work of Lambda School, Avenify, Holberton School, Lumni, and dozens of other companies is evidence of that. At present, ISAs have been primarily explored as a method that people can use to borrow money for education — vocational or institutional — but there are also wider applications which could be realized by these documents. One thing is for certain: this is only “Generation One” of ISAs. In this article, I am going to outline a few ideas I have had about ISAs in the last few months which I think should exist, and how they will contribute to the overall development of the agreements.
Before I continue, I should add the caveat that not all of these ideas will be venture-backable, and many of them remain theoretical, but either way I feel as if they should all exist in some form.
Kickstarter for People
Upstart, founded in 2012, was a company that aimed to create a crowdfunding platform for people, similar to Kickstarter. The platform allowed passionate young people to raise money for their education in exchange for committing a portion of their income. Investors could earn a return based on how much they had invested in the young person, and only if the young person succeeded. The core idea behind the platform was to increase access to education by allowing the crowd to invest in Income Share Agreement-based arrangements, and ultimately allow more people to pursue their passion.
Upstart failed a few years later though. The primary reason attributed to their demise was a lack of interest in the platform. Only accredited investors (those who have earned over $200,000 per year for two years, or have a net worth of over $1m) could invest in the people listed on the site, which means that it was difficult for “Upstarts” to raise the money they needed to complete their campaign. In addition, a general lack of regulatory certainty made it difficult for Upstart to become more established in the space out of fear that regulation could significantly affect their platform. Upstart has since pivoted toward more traditional loans and still exists today, but they demonstrated the fact that such a platform could be viable.
Like Kickstarter, a donation-based crowdfunding service for small projects, a “Kickstarter for people” would allow people to raise money from the crowd for themselves. The money could be used by borrowers to move to another city, take a local college course, enroll in a university, or it could be used by borrowers to start a company or side project. If the person earns over a certain amount of money, they would repay a certain percentage of their income to the platform, which would distribute that money to investors proportional to how much they had invested in the startup. This platform would make it easier for people to raise money from their friends, family, and community, and allow them to profit from the individual’s success in the process.
The Jumpstart Our Business Startups (JOBS) Act, was passed in 2012 and was brought into force in 2016, which legalized equity crowdfunding for businesses. This regulation allows private companies to raise money through equity crowdfunding campaigns (with some restrictions) and reduced some of the restrictions associated with facilitating investments. Anyone can invest in an equity crowdfunding campaign, capped at a certain amount depending on their income. It is unclear whether this would have any impact on the Kickstarter for people idea, but I believe that it creates a firmer legal framework regarding what a crowdfunding for people site would look like.
In addition, the Investing in Student Success Act is being considered in the U.S. Congress which will create a legal framework for ISAs and will institute a set of consumer and borrower protections to mitigate potential abuse in the future. The act also states that companies whose business “substantially consists of making ISAs”. This regulatory change, if enacted by the Congress, may make a crowdfunding for people platform more viable.
Mattermark for People (h/t Erik Torenberg)
Mattermark is a platform designed to help companies and investors create lists for prospective leads. Mattermark aggregates data from a variety of different sources and helps companies to identify growing startups that could become competitors, and venture capitalists identify startups that could be good candidates for investment. I think there that a “Mattermark for People” platform could be viable in the future, which would allow people who are interested in investing in the asset class to get more data about people before committing any capital. The structure of this platform would be important — individual privacy would have to be retained — but I feel as if this supporting infrastructure will be necessary if free-market ISAs start to become popular (i.e. peer-to-peer lending or a “Kickstarter for people” platform).
ISA-backed Free Learning
“Free Learning” is a method of learning where individuals pursue their own path based on their evolving interests, rather than following a specific syllabus developed by a third-party. Free Learners take an individualized and interactive approach to learning and value-producing work over reading a book or listening to a lecture. Free Learners let their natural sense of curiosity take them away, and allow that feeling to guide them toward finding their true passion. I have never labeled myself in this regard, but I would consider myself a free learner, and I spend a lot of my time pursuing personal education based on my own interests outside of the traditional system.
Right now, free learners can seek capital from grant programs such as Pioneer and Emergent Ventures to pursue their interests in more depth, but aside from that, there are few sources of capital available. Although a “Kickstarter for people” platform could serve this function, I believe that a company that focuses on investing in free learners via ISAs would be viable. The company would invest money in free learners and pair them with mentors, provide them with resources and introductions to experts, and generally act as an advisor in the individual’s success. The company would invest money into the free learner and earn a return if the person becomes successful and earns over a certain amount of money.
Index Fund for People
Index funds are a type of mutual fund which invests in a variety of different stocks, and offer people the ability to invest in the fund and earn a return which is equal to the aggregate return of all of the holdings of the index fund (for example, the Standard & Poor’s 500 Index). The idea is that rather than an investor committing capital to dozens of different companies, they can make one investment in an index fund and benefit from the diversification of the fund. The fund will have invested in dozens — perhaps hundreds — of high-potential companies that meet a certain criterion, which reduces some of the risk associated with investing. The value of the fund will mirror the aggregate return of all of the companies in the fund.
I believe that an index fund for people platform could work, perhaps in combination with the “Kickstarter for people” or ISA-backed free learning models, which would allow outside investors to invest in a diverse portfolio of high-potential individuals. In this case, the incentives of the borrower and the fund would be aligned — the fund would only earn a return if they helped the borrower succeed. Lumni Fund, a company that invests in ISAs for college students, allows outside investors to join the fund and earn a return equal to the overall return of all students. If this were to be available, it may encourage more people to invest in people because the risks associated with the asset class are reduced.
Pooling for Founders
Many founders have started to pool together a portion of their equity in their company with other founders. The idea is that by pooling together future equity, the incentives of all pool members are aligned, and so pool members are more likely to offer additional support to their peers. If a company exists, the equity would convert to cash and would be distributed equally among pool members.
Pooling together outcomes means that pool members can celebrate each other’s successes and perhaps earn a monetary return if they help each other succeed. In the same regard, if somebody is not succeeding, then pool members are incentivized to provide them with additional support and advice because they stand to earn a return if they succeed. The act of getting involved with somebody’s life is also very rewarding, which would be another benefit to this model. The success of the top pool members will mean that those who failed can still earn money for helping their peers succeed, which could then be invested in a new venture.
Ultimately, pooling would allow founders to de-risk entrepreneurship — if they fail, they can still benefit from the success of others. Venture firms such as the Upside Partnership are experimenting with giving portfolio founders a share of the venture fund’s success. I believe that such a model could be applied with pools of founders who could collectively reduce the risks of starting a company. The success of a pool would largely depend on the specific structure and quality of founders though, and there are still risks associated with this model. Either way, I feel as if a service that formalized this arrangement and made it easier for founders to set up their own pools would be viable.
This model has already been leveraged by Pando Pooling and Major League Advance, two companies that are working on pooling together the future incomes of baseball players. The chances of one entering the major leagues in baseball are very low, and these companies aim to de-risk pursuing a path in baseball by allowing people to benefit from the success of others via a pooling-based structure.
I also believe that the “pooling for founders” idea could be applied on a community basis, where people became cross-invested with the success of others by aggregating their future incomes. Unlike the index fund or pooling idea which would be based on earning a return for investors or founders, respectively, I believe that people could sign ISAs with their closest friends in order to align their incentives.
This would incentivize people to get more involved with each other’s lives and decrease the risks associated with taking on more ambitious projects. If somebody asks you to review their essay, you may spend 10 minutes reading it over and providing some basic feedback. However, if you were invested in their future success — consciously or subconsciously — you would likely invest more time and energy in helping the person write their essay because you can benefit from their success. This type of community aggregation exists in poker — referred to as “staking” — where players and poker investors buy a stake in other players’ potential winnings in exchange for covering their buy-in for a tournament (the World Series of Poker buy-in is $10,000, for example).
Perhaps there could be an ISA for programmers in Portland, OR, which aggregates their future incomes and aligns their incentives in the process. I am not sure how this would work as a startup, but perhaps a company or a non-profit that provided legal services or structural advice would be viable. Maybe a more viable take on this idea would be to allow people to aggregate their outcomes in cohorts — for example, Lambda School students — because a community already exists. This is more of a theoretical idea than the rest, but I still think it could be viable.
Another way to think about this is if high school or college students could enter into an ISA with their teachers, which would incentivize them to provide higher quality education. Many areas suffer from a lack of capital invested in their schools, which means that high school teacher salaries are low.
This makes it difficult to encourage more people to pursue a career in teaching, and it makes it harder for poorer areas to attract the best talent they need to educate people better. If these areas could hire better teachers, the students they teach could likely generate great economic value for the area based on the teacher’s ability to provide quality education. What if students signed an ISA with their teacher? If a teacher was teaching the next Musk or Bezos, they could stand to make a very large return by helping them reach their goals. This would have to be a low amount, of course, but either way, it would still incentivize teachers to invest more time and effort into teaching.
LegalZoom for ISAs
Income Share Agreements are relatively complex documents in terms of the specific legal terms contained within the agreement. A “LegalZoom for ISAs” company would provide legal services for those interested in experimenting with ISAs and would help people navigate the evolving regulatory environment.
In addition, this company could help establish a set of industry standards that their clients must comply with, thus improving the overall quality of ISAs in the marketplace. This company would help people who want to enter into an ISA in a cohort, assist those in raising money from private investors, among other things. Vemo Education is already doing this for higher education and vocational schools, but I believe that as new ISA ideas become popular, this will be needed. If private market ISA investors start to become more popular, they will need a place to go to get legal advice and seek help on how to administer human investments at scale.
At present, there is no legally prescribed percentage of income that one can share with outside individuals or institutions. When regulation is enacted, it will still be difficult to keep track of who has an ISA with what company, how much they are sharing, and what documents they need to send over each month or year. Rather than ISA issuers developing in-house tools — an expensive and time-consuming process, especially in times of regulatory uncertainty — an “ISA tracking” company could act as a central authority for ISAs and ensure that all participants are keeping up with their obligations.
Such a company would request and interpret taxation documents from ISA lenders, keep track of any deferments, and ensure that students are making payments on-time based on the terms of their ISA. In addition, if enough people used the company’s services, they could ensure that nobody enrolls in two ISAs at once, or shares over a certain percentage of their income, which would protect all investors in the individual. The company would charge a small fee to schools in exchange for their services.
Blockchain Supporting Technologies
One of the largest problems with ISAs is how we are going to manage them at scale. I believe that crypto and blockchain technology could be used to create the relevant supporting infrastructure to make ISAs more manageable at scale. Cryptocurrencies could be leveraged to tokenize ISAs, which may encourage more people to invest in them.
The blockchain could be used to administer smart contracts based on the Picotte model which would help ensure that all participants were in compliance with the terms of an ISA. This would make it easier to manage ISAs at scale and integrations could also be developed that automate common processes. I also believe that a secondary market for ISAs could be opened on the blockchain — based on the strength and peer-trust nature of the network — which would allow people to trade and invest in ISAs. The ethics behind this are quite clouded, but if it were attempted correctly this could be interesting.
ISA-Backed Housing (h/t Geffen Avraham)
Co-working and co-living spaces are becoming even more popular, and younger people are opting more for rental-based accommodation over purchasing a home outright. The rise of co-working spaces such as WeWork, and localized co-living spaces in cities like SF and NYC show that people are becoming more interested in the idea of working and living in communities. I believe that ISAs could be used by co-living spaces in order to increase access to housing for young entrepreneurs and innovators who need a place to live.
If you are moving to SF, aside from immigration costs, housing costs will most likely be the largest expenditure incurred during and after the move. A co-living space allows people to rent out an apartment or house at a cheaper rate because many people are living in the house with them. If this were to be combined with ISAs, rather than paying rent, people could commit a portion of their future income. If residents are successful, the returns generated by the co-living space could be used to expand, offer better services, host more collaborative dinners or workshops with experts, and overall increase the quality of the environment. People can move to the co-living space and pay nothing until they earn over a certain amount, which means that their move will be smoother and immediate housing costs will not be an issue.
This would only work for salaried positions though. For entrepreneurs, pro-rata rights could be taken or ISAs could be converted into equity which could be sold to another investor in the founder’s next fundraising round, and so the house would be able to earn a liquid cash return from the resident founder. “Topos House, but paid for through an ISA” could be a really interesting idea.
ISA Accreditation Body
One of the major barriers affecting the wide-scale adoption of Income Share Agreements is the lack of regulatory certainty. Austen Allred, founder, and CEO of Lambda School, humorously proclaimed that everyone at the Life Capital Conference wanted to be regulated, which is not a normal behavior among startup founders. This is because without regulation ISAs are open to abuse which may make it more difficult for companies who are using them to benefit others to continue offering their services.
While the Investing in Student Success Act has been drafted, it has come to a relative standstill on Capitol Hill, and although there are state-level regulations being considered in California and perhaps other areas, they do not address ISAs nationally. In addition, there is very little ISA regulation, if any, being considered outside of the U.S., even though ISAs are being used around the world today — Europe, Latin America, Canada, and other regions to name a few.
Rather than waiting for regulation, I believe that a free-market ISA accreditation body would be useful. The body would develop a clear set of ISA standards which could be adopted by ISA issuers to showcase their commitment to offering lender-friendly terms. The body would issue certificates to ISA companies if they comply with those standards, and would frequently check-in on ISA issuers to ensure they are implementing the best practices set forth by the ISA accreditation body.
Further, the institution would also respond to any general complaints about an ISA issuer’s practices and help resolve any disputes between lenders and issuers who are accredited by the body. This would ensure that a strict set of best practices are developed for the ISA industry, which would set a good precedent for how new and existing players can offer better and more favorable terms. In addition, the principles developed by this body may even inform future regulatory action as well. I feel as if this body could also expand to offer additional support services to ISA issuers, and perhaps commission studies regarding their long-term viability, which would help with the overall growth of Income Share Agreements.
Income Share Agreements are very interesting documents which have the potential to increase access to services such as education, and also align the incentives of the lender and the borrower. If the borrower succeeds, the lender will earn a return, but if they do not, the lender will not earn anything. This incentivizes the lender to provide higher quality services and offer additional opportunities to lenders so that they can secure a return. Lambda School has been experimenting with living stipends to help people focus on their education and not getting a side hustle to pay for living costs, hiring partnerships to help people find a job immediately after graduation, among many other things. ISAs will result in the bundling of a variety of different services in education to help people find a job easier, because the more services that a school offers, the more likely their students are to be successful.
There are a variety of different applications of ISAs outside of education as well — PassRight for O-1 visas, Newcraft for finding apprenticeships, et cetera. ISAs have the potential to revolutionize many different industries, and I am excited to see what new experiments are launched to help better capture the potential of the agreements. I am also interested in seeing how people alter the very concept of an ISA to help make it more appealing. What if individuals in a community became cross-invested in each other to balance outcomes and give people a second chance if they have failed? What if we allowed investors to convert their ISA into pro-rata rights if somebody starts a company after college? What if ISAs are tokenized? These questions and more will likely be considered and explored in the near future.
I believe that ISAs have a strong future, and are perhaps one of the largest innovations in the financial industry over the last few decades. There are barriers for ISAs, namely the lack of regulation, cultural skepticism, and ethical issues with the structure of some agreements, but with some work, these issues could be resolved — many already have been. There is also a lack of substantial data regarding the long-term viability, but I believe that as more companies enter the space, academia will commission more studies and companies will start to be more transparent in order to encourage participation in ISAs. ISAs have the potential to help society access all of the untapped value around the world, and thus generate more economic value and allow more people to explore their passion.
To quote from Austen Allred, founder of Lambda School: “There will be a lot of “Lambda School for x” approaches. Some will work, some will fail, and some will just be Lambda School. But ten years from now there will be millions of people involved; people creating and capturing [the] wealth that otherwise may not have existed.” In other words, there will be a lot of experiments launched regarding ISAs in the future, and some will fail. However, ISAs have the potential to generate a new wave of opportunity to passionate innovators who have the ability to change the world.