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New Protections for Private Student Loan Borrowers

How legislation and other actions are helping students make informed decisions
University Business, Nov 2008

FINANCIAL AID ADMINISTRATORS are leading the fight against misleading direct-to-consumer (DTC) marketing of private student loans, but it can feel like a losing battle at times. Fortunately, the recent reauthorization of the Higher Education Act and the efforts of New York Attorney General Andrew Cuomo have given financial aid offices new tools to protect students and parents who borrow private loans to finance higher education.

A provision to require private loans to be certified by the financial aid office did not make it into the final bill.

At best, private education loans can provide students and parents with much needed additional funds to enable them to pay for higher education.

At worst, private loans can be exploited by predatory lenders who pressure students and parents into excessive borrowing through high-interest loans that can make them ineligible for other, less expensive, financial aid.

Any financial aid administrator can provide the anecdotal evidence of the poor student who is awarded a private loan with a 16 percent interest rate that exceeds the institution’s cost of attendance (COA), causing the student to lose out on other financial aid.

Aggregate data on private loans can be hard to come by because these loans encompass the fastest growing sector of college financial aid, and because they are sometimes made without the financial aid office knowing about them. The American Council on Education (ACE) compiled some data on private loans. While the data is not complete, it offers a glimpse into some of the problems with these loans.

According to ACE analysis of the U.S. Department of Education’s National Postsecondary Student Aid Study (NPSAS) data:

--More than 10 percent of private loan borrowers don’t apply for other types of aid.

--Nearly 25 percent of private loan borrowers did not borrow a Federal Stafford Loan.

--Excluding students who don’t meet federal student loan eligibility requirements (such as noncitizens), 20 percent of undergraduate private loan borrowers did not take advantage of federal student loans before borrowing private loans. Half of these students did not file the required application for federal student loans.

Many of the students and parents who fall victim to DTC marketing of private student loans do not receive counseling from the financial aid office. Because private loans are sometimes made directly to students, the financial aid office may not ever know the student is receiving these funds.

Although Congress did not implement all the borrower protections advocated by the National Association of Student Financial Aid Administrators and most of the higher education community, the Higher Education Opportunity Act (HEOA) did make some inroads to protect borrowers from the negative consequences of borrowing private student loans.

Signed into law in August, the HEOA restricts some private loan marketing that can be misleading and requires lenders to disclose significantly more information about private loan alternatives. Congress considered provisions that would have required private loans to be certified by the financial aid office and allowed private loans to be discharged in bankruptcy. Although these provisions would have provided greater protection for students and parents, they did not make it into the final version of the bill.

Instead, the new law requires that borrowers self-certify their private loans. The secretary of education is directed to work with the Board of Governors of the Federal Reserve System to develop a self-certification form for private loans. This form will disclose to students that:

--Private loan applicants may qualify for federal, state, or institutional aid instead of (or in addition to) private loans.

--Students should consult with the financial aid office about other forms of financial aid available.

--Private loans may affect eligibility for free or lower costing financial aid.

The form will also require the private loan applicant to provide:

--The applicant’s cost of attendance (COA) and expected family contribution (EFC).

--Estimated financial assistance from family.

--The difference between the COA and estimated financial assistance.

Students will also learn from the form that the required information is available from the financial aid office.

The HEOA allows borrowers to cancel a private loan without any penalty within three business days of the loan’s being completed. The law also provides borrowers with a 30-day period to accept the terms of a private loan and requires that the terms of that loan cannot change during that period.

While Congress did not provide all the protections for which the higher education community advocated, the protections passed will help private loan borrowers make more informed decisions and provide additional opportunities for financial aid offices to counsel students and families before they borrow.

In another victory for financial aid offices fighting misleading information disseminated by some private loan providers, on September 11 eight DTC student loan providers agreed to a code of conduct developed by New York Attorney General Andrew Cuomo.

The financial aid office should not be alone in efforts to help students avoid private loan pitfalls.

Cuomo began investigating DTC private loan providers in October 2007 by issuing subpoenas to EduCap, Affinity Direct/Educational Direct, and three DTC brands of the First Marblehead Corporation. Cuomo said he was pursuing DTC marketers because of consumer advocates who complained about loan companies that were bombarding borrowers with misleading direct mailings, telemarketing calls, and web and television advertising.

“This industry has a spotty track record when it comes to protecting consumers, and it’s time for the companies to be held responsible,” said Cuomo in a press statement.

Some of the deceptive practices uncovered by the Cuomo investigation included:

--Logos that appeared to be from the federal government.

--False checks and rebates to entice students to borrow loans from these providers.

--Illegal inducements and prizes meant to distract students from the terms and conditions of the loans.

--Inducements that encouraged students to recruit their friends to take out similar loans.

--Advertising that misrepresented the terms and conditions of the loans and a failure to guarantee the advertised borrower benefits.

Under the settlement, lenders are prohibited from using any of those tactics and must provide students with a disclaimer that they should exhaust all of their federal student loan options before turning to private student loans.

Institutions can encourage the lenders they work with to adopt this new code of conduct to reduce the number of students making bad private student loan choices.

Administrators at higher ed institutions can better protect their students from the negative consequences of DTC private loan marketing by collaborating to raise awareness of these loans. For starters, the financial aid office should not be alone in efforts to help students avoid private loan pitfalls.

Administrators in other campus offices should be knowledgeable about the issues related to DTC loan marketing so they can refer students to the financial aid office if they are suspicious that a student is taking out a private loan without knowing all the facts.

For example, a student may ask the registrar for proof of enrollment in order to get a private loan. The registrar should ask the student about the purpose of the proof of enrollment, and direct him or her to the financial aid office if it is for a private loan.

Campuswide collaboration, combined with new protections in the HEOA and a new marketing code of conduct, will help ensure that students make better borrowing decisions and avoid the pitfalls of uninformed borrowing.

Haley Chitty is associate director of communications at the National Association of Student Financial Aid Administrators,