Student Lending Probes and Lawsuits

While rising college loan balances remain a cause of concern, there is a bit of good news. The number of students using private loans from commercial financial institutions has declined while the number of those opting for federal loans has risen.

A study conducted for the National Center for Education Statistics (NCES) found that private student loans fell by 50% from 2008 to 2012.

The distinction is an important one. Private loans are different from federal loans because they're made by banks, credit unions, and other commercial institutions and are not federally guaranteed.

They tend to be like other commercial loans, with terms usually based on market conditions and the borrower's credit history.

Just another consumer loan

Like other consumer loans, the lenders set the terms and conditions of the loan, usually basing them on the market and the borrower’s credit history. Federal loans generally have terms that are more advantageous to the borrower.

According to the research, private loans only accounted for 5% of undergraduates in 2004 but surged to 14% by 2008. It then dropped to 6% in 2012.

At the same time, the percentage of students taking out federal loans through the Stafford program increased from 35% to 40% over the same period.

It's probably no surprise that private loans dropped sharply after 2008, since the credit crisis hit with full force late that year. Lending standards tightened and banks and financial institutions made fewer loans for any purpose.

Better off with federal loans

“Generally private loans have stricter terms and harsher penalties for non-payment than federal loans do,” said Jennie Woo, Ed.D., lead author and a senior education researcher at RTI, which conducted the study. “Students who are eligible for federal loans are better off getting them instead.”

The study focuses on one possible reason so many consumers are struggling with college loan debt. The proportion of borrowers who took out private loans was highest at private for-profit schools, especially in 2008. These schools tend to be among the most expensive, and some – like Corinthian and ITT – have closed their doors, stranding students with the highest loan balances and the least favorable terms.

The Consumer Financial Protection Bureau (CFPB) advises students to always choose a federal loan if possible. It points out that the interest rate on a federal loan is fixed, while the rate on private loans often fluctuates.

The epidemic of student debt has led to any number of bogus debt relief schemes. The Federal Trade Commission (FTC) and the state of Florida last week took action against two allegedly phony student debt relief schemes, and defendants in a similar FTC action filed earlier this year have agreed to get into another line of work.

“The FTC is not going to stand on the sidelines when it uncovers evidence of fraudsters targeting students,” said Jessica Rich, Director of the FTC’s Bureau of Consumer Protection. “Consumers should be wary of any company that claims it can eliminate or greatly reduce debt, especially if they ask for money in advance.”

Federal and state agencies are powerless, however, to combat such government-sanctioned frauds as the U.S. Education Department's TEACH Grant program, which recruits young teachers to take assignments in troubled schools, then routinely converts their grants to loans, claiming administrative errors.

Teachers stuck paying wrongful debts call the program "legalized theft." Federal bureaucrats and elected officials know about the problem but have done nothing. 

The private-enterprise schemes are more easily dealt with.

"These latest joint actions will help protect Floridians, as well as many across the country, from these companies’ unscrupulous debt relief operations and ensure that those responsible will be held accountable,” Florida Attorney General Pam Bondi said.

Consumer Assistance Project

The FTC and Florida charged that the Consumer Assistance Project lured borrowers with promises such as “GET RID OF YOUR DEBT TODAY!” and then charged illegal up-front fees -- typically $250, plus monthly fees of up to $303 -- for as long as 36 months.

According to the complaint, the defendants pretend to evaluate these consumers for eligibility and then tell them they qualify for government student loan forgiveness programs that will reduce their debt by at least 50 to 70 percent. In reality, the FTC alleges, consumers are not likely to meet the strict requirements of these loan forgiveness programs.

Student Aid Center

In the second case, the Student Aid Center Inc., and its owners allegedly enticed people with promises such as “Get Your Student Loans Forgiven Now!” and “$17,500 in Up Front Forgiveness?”

Student Aid Center also told consumers they were “approved” or “pre-approved” for loan forgiveness or lower monthly payments, which they could get by paying up-front monthly fees, typically $199 or more for five months.

The defendants’ websites, including studentloanforgiveness.org, included more false claims, and their telemarketers deceived people with false promises of a 100 percent money-back guarantee, the complaint alleges.

Attorneys general in Washington and the District of Columbia have also filed actions against Student Aid Center.

Good EBusiness

In a separate case, the operators of another student debt relief scheme have agreed to a settlement with the FTC that will permanently ban them from the debt relief business.

The FTC alleged that Tobias West and his wife, Komal West, the owners of Good EBusiness, Select Student Loan Help LLC, and Select Document Preparation Inc., charged consumers up-front fees of $500 to $800 based on phony claims that they could renegotiate, settle, or alter payment terms on student loan debt.

In addition, the FTC charged that two of the defendants deceptively marketed home loan and student modification services under the name “AAP Firm,” illegally charging advance fees ranging from $1,000 to $5,000.

At last estimate, about 43 million Americans – mostly young – owed student loans totaling more than $1.3 trillion.

Paying back that money has strapped many consumers, just at the time they are forming households and should be making key purchases, such as homes and cars.

What is important for these borrowers to understand is that they have options when it comes to paying back the money. There is no one-size-fits-all payment plan.

Payback Playbook

To help student loan borrowers understand their range of options, the Consumer Financial Protection Bureau (CFPB) has assembled a Student Loan Payback Playbook, a set of disclosures that can guide borrowers to finding a payment plan that minimizes financial stress.

CFPB Director Richard Cordray says millions of borrowers are falling behind on their student loan debts, probably unaware that federal law gives them the right to an affordable payment. Working with Illinois Attorney General Lisa Madigan and others, Cordray says the CFPB developed a way to make sure student loan servicers provide personalized information to each borrower.

“This will help these borrowers take action, stay on track, and steer clear of financial distress,” Cordray said.

The Department of Education has several repayment plans that afford student loan borrowers with tailor payments that work within their monthly budgets. For example, one plan lets borrowers specify their own payments, based on income.

High default rates

Despite the availability of these repayment options, many borrowers continue to struggle. The CFPB says 25% of student loan borrowers are either behind on their payments or are in default.

The agency believes that part of the problem is a lack of awareness among borrowers that they have options. A recent Government Accountability Office (GAO) study found that 70% of direct federal loan borrowers in default had incomes low enough to qualify for reduced monthly payments.

The Playbook evolved from work begun last year to reform student loan servicing practices. In particular, the CFPB would like to enlist servicers in the effort to help borrowers understand their options, since there is already an established relationship.

The CFPB has taken regulatory action against some companies for alleged illegal student loan servicing practices.

This isn't the CFPB's first effort to inform borrowers of their rights. Last year the agency announced its Revised Pay As You Earn (REPAYE) plan to allow five million more direct loan borrowers to cap their monthly student loan payment amount at 10% of monthly discretionary income.

The REPAYE Plan was an upgrade of the original Pay As You Earn Plan, while extending its protections to all student borrowers with direct loans.

Consumers with student loan debt may have a new repayment option under a new Department of Education regulation that recently took effect.

The Revised Pay As You Earn (REPAYE) plan will allow 5 million more direct loan borrowers to cap their monthly student loan payment amount at 10% of monthly discretionary income, without regard to when the borrower first obtained the loans.

As the name implies, the REPAYE Plan improves upon the original Pay As You Earn Plan, while extending its protections to all student borrowers with direct loans.

Besides the monthly payment cap, REPAYE will wipe the ledger clean after 20 years for those who borrowed only for undergraduate study and 25 years for those who borrowed for graduate study. It also provides new protections against ballooning loan balances for borrowers whose income-driven payments can't keep up with accruing interest.

But before you rush to sign up, consider this.

Might not be a perfect fit

“Just because a new program is announced, it doesn’t mean that it is going to be a perfect fit for every borrower,” said Bruce McClary, spokesman for the National Foundation for Credit Counseling (NFCC). “It takes a clear understanding of the benefits available through each option and how those are applicable to a person’s unique circumstances.”

So, what does this new program mean, exactly, in dollars and “sense?” McClary says it could be substantial for consumers with huge student loan balances, struggling to make ends meet.

Discretionary income for this purpose is calculated as the difference between adjusted gross income, taken from the tax return, and 150% of the current poverty line. For this year, that payment would be 10% of what is earned over $17,655 divided by 12 months.

Here's an example; a person earning $30,000 a year would see payments capped at a budget-friendly level of about $102.88 a month.

Why now?

Policymakers are concerned that consumers struggling with student loan debt, many of whom are Millennials, are so financially stressed they can't afford other things – in particular, they are having a difficult time buying houses because they can't save for the down payment. This, in turn, is a strong drag on the economy.

But what really has policymakers worried is the upward trend in student loan defaults. Those defaults can have a long-lasting impact on a borrower’s financial well-being. A record of late or missed loan payments impacts a borrower’s credit history by making any new loan requests -- for cars or homes -- more expensive or just extremely difficult to qualify for.

There is a downside.

McClary says borrowers need to proceed with caution. For some, this new payment option might mean the monthly payment doesn't cover both interest and principal payments, which means the balance could keep growing.

That makes it harder to get other types of loans, from credit cards to mortgages, because the borrower’s credit capacity is tapped out.

Another risk? McClary says the lower monthly payment under REPAYE could lead the borrower to pay substantially more over the life of the loan when compared to a Standard Repayment plan.

Students, parents, and public policymakers who are alarmed at the skyrocketing costs of college tuition are beginning to look a little closer at how colleges spend all that money.

Is it possible that spending a little less here and there might help rein in rising costs? Illinois legislators think so.

Earlier this month an investigative report by the Illinois Senate Democratic Caucus highlighted a series of lavish perks for top administrators at many of the state's public universities and community colleges.

The report found, among other things, one administrator at a public university received a compensation package totaling $887,244. Others received perks like car and driver services, as well as memberships to multiple country clubs and social organizations.

Executive compensation

“While tuition at Illinois’ public institutions has skyrocketed, so has executive compensation,” the lawmakers wrote. “This report finds that tuition increases have coincided with a dramatic increase in administrative costs, including the size of administrative departments and compensation packages for executives.”

The report focused most of its attention on the dramatic increase in size of college administrations, which the report characterizes as “sprawling behemoths.” But a general increase in spending on “upgrades” all across college campuses may highlight part of the problem of institutions out of touch with reality.

In a press release this week, Aramark, a company providing food services to 500 U.S. colleges, welcomed students back to campus, noting that “campus dining is out, campus culinary is in.”

Students want it all

“Long gone are the days of institutional food service where colleges were only expected to provide basic nourishment three times each day,” the company said in the release. “Today's Gen Z college students want it all – locally grown, sustainable, healthy, customizable, convenient and trendy – all at a good value.”

And Aramark is giving it to them. The company says it has installed “action cooking stations” offering made-to-order, customizable options. Students will use the action stations to create their own omelets, stir fry, pasta, and noodle and burrito bowls. The company says that means custom ingredients and flavors – everything from locally grown produce to a wide variety of spices, seasoning, and flavor profiles.

"We have almost 600 world-class chefs – supported by a team of dietitians and nutritionists -- dedicated to creating innovative and healthful culinary experiences for our astute college consumers," said Brent Franks, CEO for Aramark's Education business. "Our goal is to make sure students enjoy restaurant quality dining without ever having to leave campus."

You can't blame a service provider for providing what the customer will pay for, but it might not be a coincidence that generations that got through school on pizza and burgers at the student union also paid a lot less tuition.

Of course, this hasn't happened overnight. The New York Times noted in 2012 that colleges have been on a long “spending binge” to build the best of everything, with the goal of attracting students who want the best of everything.

In the end though, students end up paying for it. According to the College Board, the average tuition, room and board and fees for in-state students at public, 4-year colleges was $18,943 in 2014. Student loan debt is fast approaching $1.3 trillion.

Discover Bank and its affiliates are under fire from the Consumer Financial Protection Bureau (CFPB) for illegal private student loan servicing practices.

According to the agency, Discover overstated the minimum amounts due on billing statements and denied consumers information they needed to obtain federal income tax benefits. The company also engaged in illegal debt collection tactics, including calling consumers early in the morning and late at night.

The CFPB’s order requires Discover to refund $16 million to consumers, pay a $2.5 million penalty, and improve its billing, student loan interest reporting, and collection practices.

“Discover created student debt stress for borrowers by inflating their bills and misleading them about important benefits,” said CFPB Director Richard Cordray. “Illegal servicing and debt collection practices add insult to injury for borrowers struggling to pay back their loans.”

Discover Bank's student loan affiliates -- The Student Loan Corporation and Discover Products, Inc. -- are also charged in this action. Beginning in 2010, Discover expanded its private student loan portfolio by acquiring more than 800,000 accounts from Citibank.

As a loan servicer, Discover is responsible for providing basic services to borrowers, including accurate periodic account statements, supplying year-end tax information, and contacting borrowers regarding overdue amounts.

Huge debt market

Student loans make up the nation’s second largest consumer debt market. Today there are more than 40 million federal and private student loan borrowers and collectively these consumers owe more than $1.2 trillion. The market is now facing an increasing number of borrowers who are struggling to stay current on their loans.

Earlier this year, the CFPB revealed that more than 8 million borrowers were in default on more than $110 billion in student loans, a problem that may be driven by breakdowns in student loan servicing. While private student loans are a small portion of the overall market, they are generally used by borrowers with high levels of debt who also have federal loans.

According to CFPB, thousands of consumers encountered problems as soon as their loans became due and Discover gave them account statements that overstated their minimum payment. Discover denied consumers information that they would have needed to obtain tax benefits and called consumers’ mobile phones at inappropriate times to contact them about their debts.

Charges outlined

Specifically, the CFPB found that the company:

• Overstated the minimum amount due in billing statements
• Misrepresented on its website the amount of student loan interest paid
• Illegally called consumers early in the morning and late at night, often excessively
• Engaged in illegal debt collection tactics

Enforcement action

Among the terms of the consent order, Discover must:

• Return $16 million to more than 100,000 borrowers: Specifically, Discover will:

1. Provide an account credit (or a check if the loans are no longer serviced by Discover) to the consumers who were misled about their minimum payments in an amount equal to the greater of $100 or 10 percent of the overpayment, up to $500. About 5,200 victims will get this credit;
2. Reimburse up to $300 in tax preparation costs for consumers who amend their 2011 or 2012 tax returns to claim student loan interest deductions. For consumers who do not participate in this tax program or did not take advantage of earlier ones offered by the company, Discover will issue an account credit of $75 (or a check if their loans are no longer serviced by Discover) for each relevant tax year. About 130,000 victims will receive this relief; and
3. Provide account credits of $92 to consumers subjected to more than 5 but fewer than 25 out-of-time collection calls and account credits of $142 to consumers subjected to more than 25 calls. About 5,000 victims will receive these credits.

• Accurately represent the minimum periodic payment: Discover cannot misrepresent to consumers the minimum periodic payment owed, the amount of interest paid, or any other factual material concerning the servicing of their loans.
• Send clear and accurate student loan interest and tax information to borrowers: Discover must send borrowers the IRS W-9S form that it requires them to complete to receive a form 1098 from the company, and it must clearly explain its W-9S requirement to borrowers. Discover must also accurately state the amount of student loan interest borrowers paid during the year.
• Cease making calls to consumers before 8 a.m. or after 9 p.m.: Discover must contact overdue borrowers at reasonable times. This will be determined by the time zone of the consumer’s known residence or phone number, unless the consumer has expressly authorized Discover to call outside these hours.
• Pay $2.5 million civil penalty: Discover will pay $2.5 million to the CFPB’s Civil Penalty Fund.

Many young people heading off to college are unable to secure student loans without a family member or friend co-signing for them. But co-signing situations often go awry and student loans are no exception. There are pitfalls for both borrower and co-signer.

For example, in 2010 the Federal Trade Commission (FTC) estimated 3 out of 4 co-signers were left to pay off a loan because the borrower had defaulted.

Having a co-signer on a private student loan can also be risky for the borrower. Let's suppose you needed a co-signer in order to get a private student loan. Maybe a grandparent volunteers. You received the loan and started making payments.

But then your co-signer died. Many private college lenders have a provision in their loan documents that allows them to demand full repayment if the co-signer dies, even if the borrower is making on-time payments. It's called auto-default.

Almost impossible to separate

But here's the rub. Once two parties come together as borrower and co-signer, it is very hard to separate.

The Consumer Financial Protection Bureau (CFPB) Student Loan Ombudsman investigated procedures private lenders put in place to allow co-signers to withdraw, then looked at how many were actually permitted to do so. The CFPB analysis found that the lenders and servicers granted very few releases. Of those borrowers who applied for co-signer release, 90% were rejected.

“Parents and grandparents put their financial futures on the line by co-signing private student loans to help family members achieve the dream of higher education,” said CFPB Director Richard Cordray. “Responsible borrowers and their co-signers should have clear information and standards for releasing the co-signer if the time is right. We’re concerned that the broken co-signer release process is leaving responsible consumers at risk of damaged credit or auto-default distress.”

Lots of confusion

The CFPB report also found that most borrowers and co-signers are in the dark about a lender's criteria for being released as a co-signer. Consumers reported being confused about their eligibility for obtaining a co-signer release as well as not understanding why they had been denied.

Most private student loan contracts continue to contain auto-default clauses, despite promises last year by several lenders they would discontinue the practice. The report shows almost none of them have.

The report also expressed concern that borrowers are at risk when loans are packaged and sold as securities on Wall Street. While a lender may have pledged not to invoke auto default, the report says the investors who buy the loan can change that.

In addition to auto-default clauses, the CFPB analysis found other potentially harmful clauses hidden in fine print of some loans including “universal default” clauses. Lenders have long used these clauses to trigger a default if the borrower or co-signer is not in good standing on another loan with the institution, such as a mortgage or auto loan, that is unrelated to the consumer’s payment behavior on the student loan. These clauses can increase the risk of default for both the borrower and co-signer.

The report calls for a number of policy changes, including improving transparency around co-signer release criteria and examining potentially harmful clauses contained in the fine print.