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 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.
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
ISA-backed Free Learning
Index Fund for People
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 exits, 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 Big 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. This structure could also be leveraged in environments such as business school classes — everyone joins the pool, and will earn a return as they help their peers succeed post-college.
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. I also think that there could be a room for derivative securities based on ISAs, which allow people to invest in certain industries or locales— but there is still a lot of progress that needs to be made on the infrastructure side.
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
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.
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.
ISA Accreditation Body
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.
If you are working on any of these ideas, or have other ideas about the future direction of ISAs, please reach out to me on Twitter @jamesg_oca and I would be happy to chat.