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This is how HECS indexation works, so you stay informed

Vaseline 2 months ago

After a panic-inducing 7.1% fee was applied in 2023, it now looks like our nation’s students will face another major addition to their HECS and HELP debts.

On April 24, the inflation or CPI (consumer price index) data for the March quarter of the year will be released. And with the release of this number, we know what amount will be applied to student debt as of June 1. At this stage it is estimated that this will be between 4.2 and 4.8%.

Since for many people with student debt, the repayments in the current tax year will not even cover the contribution from 2023, it is understandable that so many young people are angry.

Prime Minister Anthony Albanese said there will be a review of the HECS system during The Budget, but in the meantime it is best to inform yourself.

I used to work in the financial industry, and if you feel confused by our current financial systems and policies, you’re not alone. Many aspects of finance are often deliberately occluded. The best way to fight back is to stay alert. Here’s everything you need to know about HECS and HELP in Australia.

HECS doesn’t charge interest, but that doesn’t mean it’s free

When you first signed up for your HECS debt, you may have been told that HECS does not accrue interest. And technically this is true. Technically.

When you take out a HECS debt, you will not be charged interest, but you will be charged indexation.

What is interest?

Interest is a fee that can increase daily and is usually charged monthly on any money you owe. The interest rate is determined by the institution you borrow from. This could be a bank, credit union or private lender. If you have a variable interest rate, the interest you pay will rise and fall in accordance with the official interest rate (or spot rate) set by our central bank, the Reserve Bank of Australia.

What is indexation?

Indexation is an annual adjustment applied to outstanding debts. It is designed to adjust your debt to the true value of money. We know that $10 in 1950 was considered much more money than $10 in 2024. This is because of inflation.

Historically, inflation in Australia has been around 2-3%. Approximately 2% is added to your debt balance every year to adjust your debt to inflation. But after COVID lockdowns were lifted, inflation in Australia skyrocketed, reaching a high of 7.8%. In 2023, the indexation percentage for that year was 7.1%. So a 7.1% fee was applied to all HECS debts older than eleven months.

How is indexation determined?

The indexation figure can be calculated after the annual inflation or CPI data for March is released. It is determined by looking at financial data from the past two years – essentially measuring how much prices rise in a year compared to the previous year.

If you want to get to the heart of the matter, this is the simplest explanation I have for the actual calculation. Section 140-10 of the Higher Education Support Act 2003 states that indexation is calculated by adding the index figures for the last four quarters ending in March and reducing this figure by the same number, but in relation to the previous year. The “index number” is the consumer price index for all groups.

Based on this, we know that the figure in 2024 will be between 4.2 and 4.8%.

How is your HECS debt repaid?

Your HECS or HELP debt is repaid when your income reaches a certain level. If you earn less than $51,550, you don’t have to make any repayments. But if you earn more, you’ll have to pay between 1% and 10% of your annual income toward your debt each year. The percentage is sliding based on what you earn, with people with an income of €52,000 paying back 1% and people with an income of €152,000 paying back 10%. Your employer will arrange the reimbursements for you.

The problem with this system is that it penalizes lower incomes, who always suffer more from pressure on the CPI and inflation, than higher incomes.

Take a person who makes $60,000 with $25,000 in debt in 2023 – let’s call her Vanessa. Vanessa had to pay back 2.5% of her income. That’s $1,500. But in 2023, her indexation bill would have been $1,775.

This means that any refunds made in the 2022-2023 tax year won’t even cover the fees she was charged, let alone take away the original amount.

If indexation is 4.8% in 2024, Vanessa will have an additional $1,213.20 applied to her debt. Based on the new 2024 repayment thresholds, her mandatory repayments will be $1,200. After adding the indexation and then her mandatory payments, Vanessa’s debt will be $25,288.20.

Nearly $300 more than the debt two years ago. Even though Vanessa technically paid off $2,700, all thanks to indexation.

Can you avoid indexation?

The only way to do this is to pay off your HECS in full one week before the June 1 indexation date. If your loan balance is zero, you do not pay indexation.

Why is indexation applied to the balance of your loan before you are obliged to pay it off?

This particular point can make those with HECS debt feel like they are spinning their wheels. There are a lot of discussions going on right now about how this system is completely unfair. But there’s a reason why.

The actual amount of HECS you will have to repay in a year cannot be determined until you have filed your tax return. This is because your mandatory payments are relative to your ‘taxable income’ – and not to what’s on your pay slip.

As a result, your employer will deduct your HECS payments from your income, and these will be withheld. After you file your return, the correct amount you need to repay is calculated and then subtracted from the money you have withheld. If you have a lot of deductions and your taxable income ends up being less than what you earned, some of the money raised to pay your HECS could be returned to you.

Tax returns may not be submitted until June 30 each year. And even if you have done it by the due date, it will take several weeks for the tax authorities to process your data. So your repayments cannot be applied to your loan until July at the earliest.

Indexation will take place on the balance of your loan on June 1. If the debt is older than 11 months. And because the tax return is not received until at least a month later, this balance does not count towards the mandatory repayments you made in that tax year.

Can I make additional HECS repayments? Do I have to pay off my HECS early?

Of course you can, but whether you want to do so will be determined by your own individual circumstances.

If you make additional contributions directly to your debt, which you can do via BPAY, the indexation is calculated on the loan balance including these payments. Additional repayments can reduce the amount of indexation added to your loan.

Before you decide to make additional repayments, you should consider what makes the most financial sense for you.

Some sources say that if you have debt whose fees or interest charges are LESS than 6%, you might choose to invest your money instead, as average investment returns are generally 6% or more depending on the market conditions. But if your debt accrues fees or interest higher than 6%, you may want to pay off the debt first.

This year the indexation will be in the range of 4-5%.

Some people may consider paying off their HECS early, as HECS debt can affect how much money you can borrow on a home loan or car loan.

You will have to choose a path that suits your personal circumstances. Do not seek financial advice from anyone other than a professional. It’s a good idea to consult a financial advisor before making any major financial decisions.

How can we reduce indexation?

Under the current system, the only way to lower the indexation rate is to lower inflation or the CPI.

This is where things get very complicated. Inflation or CPI is a measure of how much prices have increased compared to the same period last year.

CPI measures everything from grocery prices and hotel rates to insurance costs and rental prices. If bananas, flights, car insurance and your Friday night takeaway dinner in April 2024 all cost 5% more this year than April 2023, then the inflation rate for April 2024 is 5%.

If you dig a little too deep into this, it’s baffling that just because supermarkets decided to charge $20 for a lettuce and car insurers have doubled your payments, HECS debts now have to be increased too.

Instead, it is more productive to look at how we can reduce indexation.

If we can get inflation down to a smaller number, the rate at which HECS debt rises will also be smaller.

As an individual, it is best to vote with your wallet to reduce inflation. If you see groceries with unreasonable price increases, don’t buy them. If your health insurance has increased, compare other policies to see if you can get a better deal. Choose a more affordable holiday destination this year. If consumers refuse to pay high prices, supermarkets, airlines and insurers will be forced to drop them.

The RBA also tried to reduce inflation after two consecutive years of interest rate increases, putting enormous pressure on anyone with a home loan. The problem here is that while about 60-70% of Australians own a home, only half of those people have a mortgage. The rest are fully owned. Because only 30 to 35% of the Australian population is sensitive to interest rate increases, they do not have as big an impact as in the past. Unfortunately, this is the only tool the RBA has to combat inflation.

If you’re interested in following along, the Australian Bureau of Statistics will release the CPI for the March quarter in the latest releases section on April 24.

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