Student Loan Blog : Paul Basken

Justice Department Should Weigh In On Student-Loan Loophole Scandal, Senator Says

Student Loan Girl — Wed, 08 Oct 2008 23:57:00 GMT

Rep. Thomas Petri, R-Wis., wrote to Secretary of Education Margaret Spellings this week asking whether she plans to involve the Justice Department in the investigation of a federal subsidy loophole that benefited nonprofit student loan providers and may have cost the federal government nearly $1.2 billion (“Republican Lawmaker Presses Spellings on Loan-Loophole Losses,” The Chronicle of Higher Education, Oct. 3, 2008).

“In order to restore integrity to the guaranteed-loan program,” Petri wrote, “it is vital that we understand where abuse has occurred.”

The audit of 14 student loan companies, published last month, found that a loophole in a government subsidy program, which guaranteed a 9.5-percent return on nonprofit lenders’ student loans, may have inadvertently allowed lenders to collect nearly three times the amount of subsidies they would have otherwise been entitled to.

If the actions of these lenders are representative of all student loan companies that participated in the subsidy program, writes Paul Basken of The Chronicle, “it would mean the government lost nearly $1.2 billion in improper payments over a six-year period, or about twice the previous estimates.”

Lenders Allowed to Keep Subsidies, Continue Using Program

The government subsidy program — initiated almost 30 years ago to encourage lenders to offer affordable student loans at a time when interest rates were high — gave nonprofit student loan lenders a guaranteed 9.5 percent rate-of-return on student loans they issued.

In 1993, after interest rates had dropped, Congress eliminated the 9.5-percent interest rate guarantee but grandfathered in all loans that lenders issued at the 9.5 interest rate before the cutoff date. To get around the cutoff, some lenders began “recycling” new loan money through old accounts to make them eligible again for the expired 9.5-percent subsidy rate (“Government Losses on 9.5 Percent Loan Loophole May Exceed $1 Billion,” The Chronicle of Higher Education, Sept. 18, 2008).

The audit’s findings come after Spellings, in January 2007, allowed lenders who had taken advantage of the loophole to keep the disputed subsidy payments they had already received. As part of her settlement offer, she also said that student loan providers who wanted to continue billing the government under the 9.5-percent rate program would have to provide independent audits proving their calculations were not based on the loophole.

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Technical College May Lose Ability to Offer Federal Financial Aid For Violating Newly-Relaxed Aid Rule

Student Loan Girl — Wed, 20 Aug 2008 20:05:00 GMT

Star Technical Institute, a technical college in New Jersey, may not be able to offer federal financial aid to students at two of its seven campuses for allegedly violating a federal law that requires colleges to obtain 10 percent or more of their revenues from nonfederal sources in order to participate in the federal student-aid program, reports The Chronicle of Higher Education (“Just as Congress Eases Aid Rule, College Is Accused of Violating It,” Aug.18, 2008).

A recent audit conducted by the U.S. Department of Education’s Inspector General found that from January 2004 to December 2006 the technical college relied on federal funds for 93 to 96 percent of its revenues at the two campuses, known as Star Upper Darby.

Since the college received more than 90 percent of its funds from the federal government, auditors recommended that both of the institute’s campuses located in Philadelphia, Pa., and Egg Harbor Township, N.J., have their eligibility for federal financial aid revoked.

Auditors also said that the school should return almost $10-million in federal grants and loans it received between 2004 and 2006.

New Legislation Seeks to Relax 90-10 Rule As Student Loan Borrowing Limits Increase

The allegations and recommendation to revoke federal aid are at odds with provisions in the College Opportunity and Affordability Act of 2008, just signed into law by President Bush, which seeks to ease the 90-10 requirement.

Legislators feared that earlier legislation passed by Congress, which raised the loan amount of subsidized federal Stafford student loans by $2,000 per student, would cause some institutions to run afoul of the 90-10 rule. With students’ ability to borrow more in federal financial aid — increasing the likelihood that they could pay for their college costs solely through grants and student loans — colleges run the risk of receiving more than 90 percent of their revenue from federal sources.

To account for the increased limits in student loans and to help institutions maintain their federal funding below the 90 percent threshold, the College Opportunity and Affordability Act allows schools to temporarily treat the extra $2,000 in federal student loan funds as part of their 10 percent, and enables them to work with the Department of Education to resolve violations within a two -year time period.

Resolution, Federal Funding Uncertain

It remains to be seen whether the Department of Education will work with Star Technical Institute to resolve the issues raised by the department’s inspector general under the new provisions of the law or if the department will proceed to revoke the college’s federal funding.

Star’s president, Karen Manin, disputes the audit’s findings and defends her position that the school received only 90 percent of its revenues from federal sources. In a formal letter to the Education Department, Manin noted that the Department of Education appeared to accept formulas her institution used in audits conducted prior to its current audit of 2004 to 2006.

Based on the department’s perceived approval of its previous formula calculations, Manin said, “Star Upper Darby reasonably relied on the DOE’s acceptance of these audits and made decisions about its business.”

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Nonprofit Lenders Hurt by Legislation Intended to Help Them

Student Loan Girl — Sat, 02 Aug 2008 01:53:00 GMT

Legislation that went into effect in October with the College Cost Reduction and Access Act cut federal subsidies to for-profit student loan lenders partly in an attempt to give nonprofit lenders a more competitive edge in the student loan market.

But as lenders continue to scale back or suspend their student loan programs amid a troubled economy and now-unprofitable federal education loans, newer legislation designed to help struggling lenders — nonprofit student loan providers in particular — may be doing more harm than good, writes Paul Basken in The Chronicle of Higher Education (“Federal Rescue Plan May Have Overlooked Nonprofit Lenders,” Aug. 1, 2008).

Government Positioned to Provide Lenders With Funds … But Only If Funds Are Already There

When it became clear that skittish investors, burned by the collapse of subprime credit markets, would no longer buy lender’s student loan portfolios in the secondary market, the government responded by passing the Ensuring Continued Access to Student Loans Act in May, allowing the Department of Education to purchase federal student loans from lenders or to use a lender’s student loan portfolio as collateral for a low-interest line of credit. Both provisions were intended to provide lenders with the needed capital to make new loans, which investors were no longer providing.

The continuing credit crunch, however, has hit nonprofit lenders so hard that they lack the liquidity to even begin issuing new student loans; without new loans, these lenders have nothing to sell or offer as collateral to the Education Department.

Peter Warren, executive vice president of the Education Finance Council, an association of nonprofit lenders, suggests that the recent legislation, by leaving nonprofit lenders still unable to bankroll federal student loans, has not done its job of shoring up the student loan market.

“You need to have access to funds in order to play in this game,” Warren says. “It’s essentially a Catch-22.”

Lower Interest Rates Cripple Lenders

Nonprofit lenders’ inability to secure capital has been even further aggravated by the recent drop in interest rates brought about by the subprime mortgage crisis, which has left student-loan lenders with a “negative subsidy” rate.

As Basken explains, lenders are now actually in the position of having to pay interest to the government on each unsubsidized student loan they issue, since the fixed 6.8-percent interest rate on these student loans is higher than current market rates. Meanwhile, lenders may not be receiving any corresponding principal or interest income from student loan borrowers, who aren’t required to make payments on these federal student loans while they’re in school at least half time.

These lenders, says Shelly Repp, general counsel for the National Council of Higher Education Loan Programs, simply “don’t have enough working capital to carry all the expenditures they’re expected to make.”

In response to the ongoing liquidity issues facing nonprofit lenders, lawmakers are pushing the federal government to come up with new solutions quickly, calling for a hearing next month to consider new options for student loan providers and asking President Bush to offer additional help to nonprofit lenders.

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Credit Unions Offer Themselves as Partial Solution to Looming Student Loan Crisis

Student Loan Girl — Sat, 12 Apr 2008 10:19:00 GMT

In the last six months alone, since legislators eliminated over $21 billion in subsidies to student loan lenders in the Federal Family Education Loan Program, at least 44 FFELP lenders have stopped originating federal student loans.

This exodus of lenders from the federal student loan program, combined with the current credit and liquidity crunch resulting from an epidemic of defaulted mortgages, may leave many college students scrambling for money for school this fall.

In an effort to help avoid a student loan crisis before it starts, a group of credit unions serving students in California, Texas, and Wisconsin is lobbying for federal subsidies that would allow credit unions to provide significantly more loan capital for students.

Last September, federal legislation set two lender subsidy rates on federally guaranteed student loans, one rate that applies to for-profit lenders and a second for state-chartered nonprofit agencies, explains Paul Basken of The Chronicle of Higher Education.

When those rates were set, credit unions, which are essentially nonprofit banks, were left out of the picture, neither subject to the for-profit lender rate nor eligible for the nonprofit rate which is guaranteed only to state-chartered lenders.

Now, writes Basken, as more for-profit bank and nonbank lenders abandon the FFEL program each week, the credit unions seek legislation that would make them eligible for the nonprofit subsidy rate (“Credit Unions Will Lobby Congress for Loan-Subsidy Benefits Accorded to Nonprofit Lenders,” April 4, 2008).

A Viable Source for More Student Loans?

Credit unions currently provide less than 1 percent of all FFELP loans, according to Mark Kantrowitz, publisher of FinAid.org, a financial aid website.

However, credit unions could offer significantly more volume at some institutions, Michael K. Kim, vice president for student services at the USC Credit Union, told The Chronicle.

The USC Credit Union provided 30 percent of all federal student loans at the University of Southern California last year, and Kim believes the USC Credit Union could double its student loan lending to $200 million to provide financing for any students unable to find another lender.

Although Kim thinks the credit union might find a way to double its student loans even without the nonprofit subsidy, the nonprofit rate would help.

One of the key selling points in the credit unions’ lobbying efforts, Basken writes, may be the fact that credit unions have a ready pool of capital — their customer deposits — from which to lend. In contrast, nonbank lenders, who don’t hold funding capital, must find external funding sources for their student loans and thus have been more vulnerable to the liquidity crisis that’s followed the fallout in mortgage lending.

Joining Kim’s Southern California credit-union group in lobbying Congress next week for the nonprofit subsidy rate are the UW Credit Union, serving universities in Wisconsin, and the University Federal Credit Union, which serves more than 100 colleges and employers in central Texas.

More, but Still Not Enough

An advisor from Senator Edward Kennedy’s office recently expressed support for the credit unions’ request that their proposal for inclusion in the nonprofit subsidy rate be added to the legislation for reauthorization of the Higher Education Act currently before Congress.

Kantrowitz believes that the credit unions’ subsidy proposal is reasonable since they’re nonprofit entities whose earnings don’t benefit outside investors.

On the other hand, he says, the additional loan volume credit unions could provide for the federally backed student loan program will likely not be enough to staunch the tide of students that may potentially be unable to find lenders this fall.

Kantrowitz further points out that among the 100 largest lenders in the federal student loan program, only three are credit unions.

“If credit unions can double their volume, that’s a 5-percent solution,” Kantrowitz says. “It could be part of the solution, but not even close to the entire solution.”

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