Student loan changes sought

President Obama’s plan to gain huge savings for college loans by getting private lenders out of the field and tying loan amounts to inflation has flown beneath the radar as the health care debate has gone on, but some officials say the president’s student loan changes offer the prospect of saving huge amounts of money and have a better chance of passing Congress than the health program.

Created in 1965, the Federal Family Education Loan Program has long been seen as troubled and expensive, with some critics characterizing it as a loan shark program that incentivizes lenders allowing students to default on loans, safe in the knowledge the federal government will take the hit, and the lenders can earn more from collection than from normal loan repayment.

Obama made reform of the program a centerpiece of his campaign for the presidency. He said he would change student loan practices by getting private lenders that push up costs out from between the federal government and students seeking loans, curbing corruption and saving money. The federal government would make loans directly to students instead of through financial institutions.

“One way we can make college more affordable—because a lot of young people have been asking me about this on the campaign trail—is by reforming a wasteful system of student loans that benefits private banks at the cost of taxpayers,” Obama told a group of student editors on a conference call in May 2007. “Private lenders are costing America’s taxpayers more than $15 million every day and provide no additional value except to the banks themselves. I think the system needs to be fixed.”

Given the huge traffic in student loans, the money at issue is big—the loan behemoth SLM Corporation (NYSE: SLM), generally called Sallie Mae, is one of the world’s largest corporations. (In April, as the Obama plan neared introduction, SLM cancelled major outsourcing of jobs to India.)

Obama’s direct lending program was introduced on July 15 by U.S. Rep. George Miller of California, chair of the House Education and Labor Committee.

The president said that in addition to saving money by getting the private sector out of the program, the Miller bill—HR 3221—would also seek to increase graduations from community colleges by 5 million in the next 11 years.

“These institutions can act as job training centers for the 21st century, and this legislation makes the largest investment in community colleges in 50 years, challenging them to increase completion rates, strengthen ties with businesses, modernize facilities, and offer new online learning opportunities,” Obama said in a prepared statement on the day Miller introduced his bill.

The legislation would still allow private lenders a limited role servicing loans issued by the feds.

What Obama wants already exists in limited form. In 1993, the Clinton administration set up the Federal Direct Lending Program (FDLP), which lends money directly from the U.S. government to students. Its loans can displace those administered through the Federal Family Education Loan Program (FFEL), which provides students with federally guaranteed and subsidized loans through banks, which is the way federal student loans had been handled since 1965.

“And there’s only one real difference between direct loans and private FFEL loans,” Obama told a student group in the White House on April 24. “It’s that under the FFEL program, taxpayers are paying banks a premium to act as middlemen, a premium that costs the American people billions of dollars each year. Well, that’s a premium we cannot afford, not when we could be reinvesting that same money in our students, in our economy, and in our country.”

Sen. Edward Kennedy of Massachusetts, who was instrumental in setting up the Clinton pilot program, did missionary work among colleges—particularly smaller campuses and community colleges, who have often gotten the back of the banks’ hands—urging them to switch to direct lending. Nevada makes some use of the program.

The private lenders also provide consulting services and other forms of assistance to campuses. For instance, a 2008 Institute for Higher Education Policy study of college access in Nevada was funded by a foundation created by USA Funds, the nation’s largest guarantor of loans made under FFEL. Could Nevada have afforded that study without the USA Funds?

“Would have been tougher.” said Nevada higher education chancellor Dan Klaich. “Would have been a lot tougher.”

In Rolling Stone last week, Tim Dickinson reported that under the Kennedy/Clinton arrangements, “Students not only got the exact same loans, but the program actually paid for itself. In 2006, taxpayers earned 2 cents for every dollar lent directly to students. But under the FFEL program, the government forked over 15 cents to private lenders for the same service.”

Dickinson also reported that the credit crunch has resulted in taxpayers being in “the bizarre position of paying banks to take taxpayer money and then paying them again to return it.”

How much the Obama program would save is a matter of dispute. A figure of $87 billion over 10 years that has been used up to now was revised downward by the Congressional Budget Office last month to “only” $47 billion.

“We agree, this is much needed funding,” said Jeff Noordhoek, president of the National Education Loan Network (NelNet). “However, the administration proposal eliminates choice of service providers for families and schools by mandating them to use the federal government for origination processing. Besides eliminating choice, the administration’s proposal comes with significant execution risks. In a very short period of time, more than 4,500 schools and over 6.4 million students would be required to switch student loan platforms. These conversions are difficult, and it is likely some students and schools would face disruption in the conversion process.”

Asked if the savings might not free up money for campuses, Klaich said, “Yep. More importantly, if it results in lower rates for students, that—I mean, that should be the polestar of this whole thing: Help students get through college and graduate and graduate with the least burden on their backs.”

Passage in the U.S. House of Representatives is all but assured. The bill was approved in committee 12 days after it was introduced. A similar 2008 bill was approved by the full House in when it had fewer Democrats.

More difficult is the U.S. Senate, with its sanity-challenged rules requiring supermajorities on numerous routine pieces of legislation. Some blue dog Democrats—such as Sen. Ben Nelson of Nebraska, home of the private NelNet—are resisting the bill. But party leaders say a procedure called reconciliation may be used on Miller’s measure in the Senate to get around the arcane rules.

A briefing paper prepared for Klaich lists pros and cons.

PROS:

• Eliminates the middleman (lenders and guarantors).

• Direct Loans are processed almost exactly like Pell Grants, thus institutions will be somewhat familiar with the processing requirements and will have a shorter learning curve.

• Much faster in terms of getting money into the hands of the student.

• Guarantees a lender for our students—many of our community colleges are down to two or three lenders who will work with them on FFEL loans.

• Students with prior loans will need to keep track of two repayment servicers, which will be challenging and could impact our default rates.

• Nevada’s guarantors would be eliminated by the switch to DL [direct lending]. They provide services that the government does not provide—especially in terms of default prevention. The DL program does not provide consultation services to institutions. This has huge implications for Nevada’s default rate. We improved from having the second highest default rate in the country in 2003 (behind only Puerto Rico) to having the seventh highest default rate in 2006. However, the new legislation will include outside servicers. It is hoped that the legislation will also require the same default prevention services of these outside servicers.

• Guarantors provide valuable, in person, free training in Reno and Las Vegas. The Department of Education in-person trainings are in San Francisco, thus cost prohibitive.

• USA Funds provides a great deal of financial assistance to Nevada through their foundation.

There are hints that lenders have used their privileged access to records on students holding loans to invade their privacy and lobby them on student loans. In May, Moe Tkacik at TPMMuckraker wrote, “If Citigroup—recipient of $45 billion in bailout funds and constant visits with Treasury Secretary Tim Geithner … is supposed to be the government’s friend, it’s quite the underminer. Today the bank emailed borrowers who took out student loans with Citigroup encouraging them to write to Congress opposing the administration’s student loan proposal.”