StudyLink (Te Manatū Whakahiato Ora, the Ministry of Social Development) administers the initial capital lending and issues student loans, which are then transferred to Inland Revenue. Inland Revenue holds the total nominal debt, administers the initial fair value write-down expense and any subsequent fair value adjustments, and is also responsible for the collection of debt.
Student loans are designated at fair value through surplus or deficit under PBE IPSAS 41 Financial Instruments because borrowers only start repayments if they earn an income above a certain threshold.
The difference between the amount of the student loan and the fair value on initial recognition is recognised as an expense. The initial fair value is lower than the amount of the initial student loan for a number of reasons, including that:
- some borrowers will never earn enough to repay their loans
- some overseas-based borrowers will default on their payment obligations
- because there is no interest charged on New Zealand-based borrowers’ balances, the time value of money will erode the value of future repayments.
After loans are issued, an adjustment is made each month to unwind the interest. This adjusts the present value of the write-down over time. We also receive repayments from borrowers.
At the end of the year, actuarial models are used to compare the carrying value to the fair value of the student loan portfolio, and the difference is recognised in the surplus and deficit of the Financial Statements of the Government of New Zealand. The difference is also shown in the Schedule of Non-Departmental Gains and Losses. Details of the models are provided later in this note.
We use the following key terms to help define student loan values:
Fair value
The market value of student loans if they could be exchanged between knowledgeable, willing parties in an arm’s-length transaction.
Nominal value
The total amount owed by borrowers at a point in time, including loan principal, interest, fees and penalties.
The nominal and fair values of student loans are shown in the table below.
| Actual 2022 ($000) | Fair and nominal values | Actual 2023 ($000) |
|---|---|---|
| $10,841,485 | Opening fair value | $9,208,542 |
| $(1,604,679) | Repayments | $(1,633,547) |
| $1,294,249 | Borrowings transferred from Ministry of Social Development | $1,271,263 |
| $(489,063) | Fair value write-down on new borrowings | $(550,743) |
| $(1,113,000) | Fair value remeasurements | $500,000 |
| $279,550 | Interest unwind | $577,032 |
| $9,208,542 | Closing fair value | $9,372,547 |
| Current and non-current apportionment | ||
| $1,506,000 | Student loans–current | $1,611,000 |
| $7,702,542 | Student loans–non-current | $7,761,547 |
| $9,208,542 | Fair value student loans | $9,3723,547 |
| $16,260,483 | Opening nominal value | $16,137,239 |
| $1,294,249 |
Repayments |
$(1,633,547) |
| $(1,604,679) | Borrowings transferred from Ministry of Social Development | $1,271,263 |
| $120,678 | Penalties | $123,333 |
| $68,605 | Interest on overseas-based borrowers | $50,636 |
| $21,821 | Administration and establishment fees | $54,848 |
| $(23,918) | Death and bankruptcies | $(32,164) |
| $16,137,239 | Closing nominal value | $15,942,333 |
For those instruments recognised at fair value in the Schedule of Non-Departmental Assets, fair values are determined according to the following hierarchy:
- quoted market price (level 1)—financial instruments with quoted prices for identical instruments in active markets
- valuation technique using observable inputs (level 2)—financial instruments with quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in inactive markets and financial instruments valued using models where all significant inputs are observable
- valuation techniques with significant non-observable inputs (level 3)—financial instruments valued using models where 1 or more significant inputs is not observable.
Student loans as at 30 June 2023 are valued using significant non-observable inputs (level 3). There are no quoted market prices (level 1) and no observable inputs (level 2).
The next section provides details on the model, and the table below outlines the significant assumptions and sensitivities for the level 3 valuation technique.
At the end of the year, the student loan portfolio is revalued to fair value by an independent external valuer using actuarial models. Tatauranga Aotearoa, Stats NZ collates most of the data for the actuarial valuation model from: Inland Revenue; Te Tāhuhu o Te Mātauranga, the Ministry of Education; and Te Manatū Whakahiato Ora, the Ministry of Social Development. The data is made up of borrowings, repayments, income, educational factors and socio-economic factors. It is current up to 31 March 2022. In addition, supplementary data from Inland Revenue and Te Mana Ārai o Aotearoa, the New Zealand Customs Service, about loan transactions and borrowers’ cross-border movements for the period up to 31 March 2023, is also included.
The fair value movement, recognised in the Schedule of Non-Departmental Gains and Losses, relates to changes in discount rate and a reassessment of the expected repayments of loans. The fair value movement at 30 June 2023 is an increase of $500 million. This increase incorporates the following changes to the fair value:
- The discount rate adjustments have increased the value of the scheme by $194 million (2022: $1.670 billion decrease). This is largely due to risk-free rate and risk adjustment changes. The discount rates used for determining the fair value are equal to Te Tai Ōhanga the Treasury’s prescribed risk-free rates for accounting valuations plus a risk adjustment. Since 30 June 2022, risk-free rates have generally increased, which has decreased the fair value of the student loan portfolio by $309 million. Differences in the discount rates applied to interest unwind and initial fair value write-down contributed a further $36 million decrease in fair value. The risk adjustment decreased from 3.08% to 1.71%, which is in line with market data, increasing the fair value by $539 million.
- Expected payment adjustments related to the impact of COVID-19 have increased the fair value by $135 million (2022: $76 million increase). The 2022 valuation included a provision for a decline in repayments from overseas-based borrowers. Direct COVID-19 impacts are no longer a large contributor to global and domestic economic uncertainty and, as a result, we have released this entire provision.
- The other expected repayment adjustments have increased the fair value of the student loan portfolio by $142 million (2022: $443 million increase). They are:
- Updated macroeconomic assumptions have increased the fair value by $48 million (2022: $242 million increase). This can be broken down into 3 components:
- An increase of $49 million due to higher salary inflation assumptions, resulting in higher projected domestic incomes, domestic borrower obligations and repayments.
- An increase of $11 million due to higher loan and late payment interest rate assumptions (i.e., more interest collected).
- A decrease of $12 million due to increases to CPI assumptions meaning lower domestic repayment obligations.
- The experience variance—this has increased the value by $44 million (2022: $89 million increase), largely due to higher-than-expected repayments and lower-than-expected write-offs.
- Updates to the expense assumption—these have increased the value by $2 million (2022: $68 million increase).
- Other modelling changes, including the roll forward of data–these have increased the value by $48 million (2022: $44 million increase).
- Updates to the cost of loan collection–these have increased the value by $29 million (2022: $38 million increase).
A breakdown of the fair value remeasurement–student loans reported in the Schedule of Non-Departmental Gains and Losses is set out in the table below.
| Actual 2022 ($000) | Remeasurement | Actual 2023 ($000) |
|---|---|---|
| $(1,017,000) | Risk free rates | $(345,000) |
| $(653,000) | Risk adjustment | $539,000 |
| $(1,670,000) | Discount rate adjustment | $194,000 |
| $242,000 | Macroeconomic effects | $48,000 |
| $89,000 | Experience variance | $44,000 |
| $68,000 | Expense assumption | $2,000 |
| $44,000 | Data and modelling changes | $48,000 |
| $443,000 | Expected repayment adjustment | $142,000 |
| $76,000 | COVID-19 impacts-model changes | $135,000 |
| $76,000 | Expected repayment adjustment - impacts of COVID-19 | $135,000 |
| $38,000 | Cost of loan collection | $29,000 |
| $(1,113,000) | Total fair value remeasurement–student loans | $500,000 |
The student loan valuation model reflects current student loan policy and macroeconomic assumptions. The fair value is sensitive to changes in a number of underlying assumptions and judgements, including future income levels, repayment behaviour and macroeconomic factors such as inflation and discount rates. As noted by the valuer, it is not possible to assess with any certainty the implications of the global economic uncertainty on the fair value of the scheme or the economy as a whole, in terms of the length or degree of impact. For these reasons, the valuation has a high degree of inherent uncertainty and there is a significant risk of material adjustment to the fair value in future accounting periods. The key risks are:
- The proportion of overseas-based borrowers making a repayment is an important metric for the scheme, as the value of the loans for these borrowers hinges on their compliance. We have seen some deterioration in the proportion of overseas borrowers making a repayment in recent data and this has been reflected in the model. There is a risk that the deterioration is underestimated in the valuation.
- There is uncertainty in the domestic and global economies as economies around the world experience high inflation. Central banks have been responding by increasing interest rates in an attempt to curb inflation, but this may lead to increases in levels of unemployment that would affect repayment rates. There has been no explicit adjustment to the valuation to account for this. However, the fair value includes a risk adjustment, part of which accounts for general uncertainty in the economic outlook. In addition, macroeconomic forecasts used in the valuation take into account the current economic outlook. There is a risk that the fair value of the scheme may decrease at future valuations if the economic outlook worsens.
- Migration in and out of New Zealand has been severely impacted by the Government response to the COVID-19 pandemic. With the borders fully re-opened in 2022, there is uncertainty around whether net migration will return to pre-pandemic levels for student loan borrowers, or whether there may be a spike in the number of borrowers leaving New Zealand due to pent-up demand. No allowance has been made at this valuation as there is too much uncertainty about future net migration. There is a risk that experience may differ significantly from the assumptions.
- There is uncertainty around the characteristics and behaviour of borrowers who do not have an income. There is a risk that experience for this group may differ significantly from assumptions.
The significant assumptions and sensitivities behind the fair value are:
| 2022 | Assumptions and sensitivities | 2023 |
|---|---|---|
| Assumptions | ||
| $9,208,542 | Fair value ($000) | $9,372,547 |
| 7.36% | Discount rate | 6.94% |
| 2.80% to 5.20% | Interest rate applied to loans for overseas-based borrowers | 2.80% to 5.80% |
| 1.76% to 6.56% | Consumer Price Index | 1.93% to 7.28% |
| 3.00% to 6.12% | Future salary inflation | 3.00% to 5.87% |
| Sensitivities | ||
| $102,000 | Impact on fair value of a 1% increase in average wage earnings inflation over 5 years ($000) | $82,000 |
| $(106,000) | Impact on fair value of a 1% decrease in average wage earnings inflation over 5 years ($000) | $(86,000) |
| $130,000 | Impact on fair value of a 2.5% increase in overseas-based borrowers making repayments ($000) | $224,000 |
| $(99,000) | Impact on fair value of a 2.5% decrease in overseas-based borrowers making repayments ($000) | $(166,000) |
| $(404,000) | Impact on fair value of a 1% increase in discount rate ($000) | $(397,000) |
| $444,000 | Impact on fair value of a 1% decrease in discount rate ($000) | $436,000 |
| $24,000 | Impact on fair value of a 1% increase in borrowers going overseas ($000) | $29,000 |
| $(19,000) | Impact on fair value of a 1% decrease in borrowers going overseas ($000) | $(22,000) |
| $51,000 | Impact on fair value of a 1% increase in borrowers returning to New Zealand ($000) | $68,000 |
| $(56,000) | Impact on fair value of a 1% decrease in borrowers returning to New Zealand ($000) | $(76,000) |
| $53,000 | Impact on fair value of a 1% increase in borrowers moving from low earner to high earner ($000) | $55,000 |
| $(56,000) | Impact on fair value of a 1% decrease in borrowers moving from low earner to high earner ($000) | $(59,000) |
The student loan portfolio is exposed to a variety of financial instrument risks, including credit risk and interest rate risk.
Credit risk is the risk that borrowers will default on their obligation to repay their loans or die before their loan is repaid, causing the scheme to incur a loss. The risk of death or default cannot be quantified.
The Student Loan Scheme does not require borrowers to provide any collateral or security to support advances made. As the total sum advanced is widely dispersed over a large number of borrowers, the Student Loan Scheme does not have any material individual concentrations of credit risk.
The credit risk is reduced by the collection of compulsory repayments through the tax system. This is less effective with overseas-based borrowers. Many New Zealand-based borrowers earning over the income threshold have compulsory deductions from salary and wages to repay their loans. Overseas-based borrowers are required to make repayments twice a year based on their loan balance. Inland Revenue uses a variety of communications and campaigns to reduce the risk of non-payment of obligations.
Loans are written off in the event of death or bankruptcy.
Interest rate risk is the risk that the value of financial instruments will fluctuate due to changes in interest rates.
Changes in interest rates impact discount rates. There is a risk that if interest rates rise, the value of the scheme will significantly decrease as the discount rates applied to the expected future repayments will be higher, decreasing their value.
Changes in interest rates could also impact on the Government’s return on loans advanced. The interest rate and the interest write-off provisions attached to student loans are set by the Government.
A detailed explanation and insight into the performance of the scheme is available in the Student Loan Scheme Annual Report at educationcounts.govt.nz2
2This link leads to information not covered by the audit opinion here.