Skewed Priorities in New York, Continued

At Higher Ed Watch last week, we expressed serious reservations about a proposal by New York Governor David Paterson to create a new state-sponsored private student loan program. We just don’t believe that pushing students further into debt is the best use of the state’s scarce resources.

That’s not to say, however, that the proposal is all bad. As we noted last week, the authorizing legislation for the program includes some positive features that aren’t widely available in the private student loan market. Among other things, we are pleased to see that the plan would:

• Give students the option of taking out a fixed-rate loan. The most generous state-based private loan programs charge all eligible students the same rate regardless of their credit scores. In addition, a fixed rate gives borrowers in repayment a level of predictability that is absent from uncapped variable rate loans. Unfortunately, uncapped variable rate loans would be available through this program as well. While the rates on those loans may look good at first, borrowers are often surprised to see how much they fluctuate.

• Require students to exhaust their federal student loan eligibility (not counting PLUS loans) before taking on additional debt. This is a vital safeguard to ensure that students take advantage of safer, cheaper federal student loan options before taking on more-expensive private loans. We are not aware of any other private loan product that makes a similar promise.

• Require the state to discharge the loans of borrowers who die or become permanently disabled. While these types of basic consumer protections are built into the federal loan programs, few private student loan providers offer them.

• Allow borrowers to deduct interest on these loans on their state income tax returns. A nice benefit that few, if any, states offer on private loans.

On the other hand, we are deeply troubled by some of the proposal’s other provisions. We are particularly uneasy with the amount of discretion the authorizing legislation gives the New York State Higher Education Services Corporation (HESC), the state student loan guaranty agency, to set most of the terms and conditions on the loans.

The agency, for example, is put in charge of determining the interest rates and fees that can be charged on the variable loan product. While state officials say that the costs of the loans would be kept relatively low, the proposal explicitly exempts the program from state usury laws and declares that “there shall be no limitation on the rate or amount of interest or fees payable on education loans made under this program.”

The legislation also gives the guarantor complete authority to set through regulation the repayment terms on the loans, including the criteria it would use for offering deferments and forbearance, and the collection fees it would charge delinquent and defaulted borrowers. The proposal puts no limit on how high those fees can go.

In addition, the measure, according to the National Consumer Law Center, “sets a dangerous precedent by assigning unprecedented collection powers to a state private loan program.” Among other things, the proposal allows the state to garnish the wages of defaulted borrowers without first obtaining a court order, a power that no other state loan program currently has.

If state legislators wish to move forward with the Governor’s proposal, we would urge them, at a bare minimum, to put a cap on the interest rates and fees that borrowers must pay to obtain the loans; set a strict limit on the late fees and collection fees that can be charged to delinquent and defaulted borrowers; and require the guarantor to provide flexible repayment options, including one that would allow borrowers to repay their loans as a percentage of their income. In addition, legislators should require the agency to automatically discharge the private loans of students who attend schools that shut down unexpectedly.

To be perfectly clear, despite all the positive features outlined above, we do not believe that this proposal is good policy for New York. The last thing we need is to thrust students further into debt. But if there’s no turning back, then state legislators must make absolutely sure that the students they are trying to help receive the lowest-cost loans they can possibly get and are protected from the worst possible abuses.