Putting Low Income Students At Risk
Blog Post
March 7, 2007
When it comes to private student loans, there's a popular myth, perpetuated by the student loan industry, that these loans go solely to middle-income and higher-income students who have excellent credit. Private lenders don't lend to the most financially needy students because these students pose too great a credit risk.
Just listen to what Catherine B. Reynolds, the founder and chairman of the Loan to Learn private-loan program, had to say at an American Enterprise Institute conference last fall on this subject: "There's an enormous group of students who are need based that frankly the private sector cannot address."
If only that were so.
As Higher Ed Watch first reported, according to an unpublished U.S. Department of Education working paper, low-income and working-class students are borrowing high cost private student loans in large numbers -- and many of them are doing so without having exhausted their lower cost federal loan eligibility first.
According to the Institute for Higher Education Policy, nearly 30 percent of traditional age students who obtain private loans come from families making under $40,000. And about 1 in 10 come from families earning less than $20,000 annually.
How is it that low-income students are getting private loans, which have traditonally been limited to those with excellent credit scores? To get the answer, one should begin by looking at the types of deals that private lenders are forging with colleges.
As part of the deals they make with colleges, lenders, who are fiercely competing for schools' business, are often willing to waive, or at least loosen, their private student loan credit requirements. As a result, colleges can include these private loans as part of aid packages they offer financially needy students without having to worry that the students' loan applications will be rejected.
Having the ability to "package" private student loans is particularly important to some high priced public and private colleges, as well as for-profit institutions, so they can show students and their families that the resources are available for them to be able to afford the cost of attendance. Nevermind that the resources are high-interest private student loans with variable rates, which are not capped, and that they lack many of the repayment protections built into federal loans -- most students won't pay attention to the terms and conditions of their loans until they are stuck repaying them.
Perhaps the most egregious of these kinds of deals between private lenders and colleges is the "opportunity pool." These opportunity pool arrangements allow lenders to leverage private loans to get a larger share of federal student loan business.
Under an opportunity pool deal -- pioneered by the loan giant Sallie Mae -- a lender gives a college a fixed amount of private loan money that the institution can provide to students who otherwise would be ineligible for the loans. In return the institution agrees to make the loan provider "a preferred lender," or even an exclusive lender, of federal loans on its campus.
Soon after Sallie Mae started offering its Opportunity Loan Program in 2000, competitors and critics began raising questions about whether it violated a provision of the Higher Education Act barring lenders from offering inducements to colleges "to secure applicants" for federal loans. The Education Department's Inspector General wrote a memo to Department leaders expressing concern about opportunity pool deals and urged them to take a closer look at the arrangements.
But Department officials took no action at the time. And many lenders saw the Department's decision not to act as a tacit approval of the deals. As a result, many other companies, including Citibank, jumped into the fray and started offering similar arrangements.
Some loan industry officials acknowledge that the deals are "loss leaders," meaning that the companies are willing to risk having a certain number of loans go into default in order to expand their presence on a campus.
That's a cold hearted business decision -- the type of decision we've come to expect from the loan industry. But why are colleges, normally nonprofit institutions that are supposed to looking out for their students' best interests, so willing to put their financially-needy students at risk?
Brian Zucker, president of Human Capital Research, an Illinois-based higher education consulting firm, has a disturbing explanation. Colleges can make the deals, he told The Chronicle of Higher Education last fall, because they have "the luxury of not having to think about the amount of effort students will face repaying the loans."
The Education Department is currently considering changes to its student loan regulations that could prevent lenders from being able to offer opportunity loans to win federal loan business.
Higher Ed Watch would applaud such a decision. But eliminating opportunity loans will not discourage the private loan industry from targeting financially needy students for high cost loans they do not need and often cannot afford. Private lenders have found and will continue to find other ways to market loans to these students.
What is needed is a more comprehensive solution. Will the U.S. Department of Education offer a thorough response to the exploding private student substantive problem? Will someone in Congress? Someone better and soon.