Higher Ed Watch

Higher Ed Roundup: Week of May 5 - May 9

Ed Policy — Thu, 08 May 2008 17:44:00 -0400

White House, Fed Move on Student Loans

Lawmakers Mobilize to Boost G.I. Education Benefits

Education Department Puts Off Review of ABA as Law School Accreditor

Coalition Offers Help to Schools Considering Switch to Direct Lending

White House, Fed Move on Student Loans

President Bush signed a bill into law on Wednesday that aims to increase federal loan options for students and ease the effects of the credit crunch for lenders that participate in the Federal Family Education Loan (FFEL) program. The measure will increase the annual and aggregate federal unsubsidized Stafford loan limits, allow parents to defer payments on PLUS loans while their children are in school, and establish the Department of Education as a "secondary lender of last resort" with the power to purchase outstanding FFEL loans and service them through the Direct Loan program. On Friday, the Federal Reserve announced that it would provide further help to lenders by allowing them to swap student loan backed securities for Treasury bills through its 28-day term lending facility. The move was designed to inject liquidity into the student loan market. Some loan companies, however, remain unsatisfied and continue to push for an even bigger bailout.

Lawmakers Mobilize to Boost G.I. Education Benefits

Congress is set to debate two competing G.I. bills that would increase education benefits for service members returning from Iraq and Afghanistan. The first bill, S.22, sponsored by Sen. Jim Webb (D-VA), would cover up to the full cost of attendance at the most expensive public college in a veteran's home state for those who served in the military after Sept. 11, 2001. Under the measure, tuition and fees would be paid directly to colleges, averaging about $1,700 a month per veteran, up from the current $1,101. The bill, which may be inserted into the $108 billion emergency Iraq War funding bill to ensure a quick vote, has received bipartisan support. The Bush Administration, however, opposes the bill, saying it would be too costly and difficult to administer, because maximum benefit awards would have to be calculated on a state-by-state basis. Administration officials also fear that the legislation would harm the country's all-volunteer force by enticing soldiers to leave the military to pursue their studies. Instead, they have thrown their support behind S. 2938, sponsored by Sen. Lindsey Graham (R-SC), which would continue the tradition of paying a fixed award directly to veterans, set at $1,500 a month. Sen. John McCain (R-AZ), the presumptive Republican presidential nominee, is backing that bill.

Education Department Puts Off Review of ABA as Law School Accreditor

The Department of Education has decided to delay its review of the American Bar Association's status as an accreditor of law schools for six months, so it can take more time to investigate allegations that the association has overstepped its authority by requiring its members to demonstrate that they are taking "concrete action" to diversify their student bodies and faculties. Over the past decade, the ABA has withstood much criticism that its standards are poorly monitored and unrelated to law school quality. But the accreditor has come under intense fire from conservative groups since 2006 when it began requiring schools to meet its "Equal Opportunity and Diversity" standard. These organizations contend that the ABA is requiring law schools to employ racial preferences that are unlawful in some states. The upcoming review, which will now take place in December, could result in the ABA losing its status as the nation's sole accreditor of law schools.

Coalition Offers Help to Schools Considering Switch to Direct Lending

The National Direct Student Loan Coalition has announced that it will step up its efforts to assist colleges considering switching into the Direct Loan program. The announcement comes on the heels of a recent survey that showed as many as 20 percent of colleges, citing instability in the student loan market as a result of the credit crunch, were thinking about transitioning from the Federal Family Education Loan program to Direct Lending. Among other things, the coalition is starting a mentor program in which officials from Direct Loan schools will help provide technical and operational advice to colleagues considering making the move. In addition, the coalition is co-hosting an online event with the National Association of College and University Business Officers on May 20 "to provide an overview of campus operations under the Direct Loan program, the steps involved in switching, and address the many questions being raised" by college officials contemplating the switch. [If interested, register for the event here]

No NCAA Showdown Over Academic Penalties

Lindsey Luebchow — Thu, 08 May 2008 14:00:00 -0400

When the National Collegiate Athletic Association announced its penalties for poor athlete academic performance this week, it let many high-profile Division I college basketball and football teams off the hook.

After four years of collecting data, the organization was set to enact full scholarship penalties for teams that fail to keep their athletes on track to graduate. But because of the NCAA's generous use of waivers for wealthy, high-profile athletic programs, as well as a flawed penalty structure, many teams with poor academic records found themselves in the clear.

Under the NCAA's Academic Progress Rates (APR) system, teams get points each semester for retaining athletes and for keeping them academically eligible. The NCAA has a system of penalties for teams that post low APRs. For the past three years, most teams have not been subject to the penalties, however, because of squad-size adjustments, or exemptions due to insufficient data.

This year, the full penalties came into effect, and any team with an APR below 925 (which corresponds to a 50 percent federal graduation rate) was supposed to be subject to "immediate penalties," or reductions in scholarships. Any team with an APR below 900 was supposed to be subject to "historical penalties," which are more severe and range from reductions in practice time to restrictions on postseason competition and Division I membership.

The APR isn't a rigorous test of academic performance: athletic programs are awarded one point for each athlete who simply remains enrolled in school and another point for each athlete who maintains their academic eligibility. The goal is to make sure that players are actual students, in a very minimal sense of the word.

But many teams are struggling to meet even these low standards. Over 40 percent of men's basketball teams (137 teams) and nearly 34 percent of football teams (81 teams) posted a four-year average APR (2003-07) below 925.

Yet this week the NCAA announced that only 37 college football teams and 53 college basketball teams would be penalized next season—about 40 percent of those with APRs below 925. What gives?

One reason that many teams escaped being hit with scholarship reductions involves the NCAA's penalty structure. If a team posts an APR below 925, it loses scholarships only if a player leaves the college early in poor academic standing (otherwise known as a "0-for-2" players—those who drop out when they are also academically ineligible).

Take, for example, Maryland's basketball team, which recorded a very low APR score of 906. The team did not lose any scholarships because the players who left the school without graduating had already exhausted their academic eligibility (and thus technically weren't "0-for-2" because they didn't drop out early). This is a pretty large loophole, especially for a basketball team with such a low APR—and a most recent graduation rate of zero percent (for players who entered between 1997 and 2000).

In addition, the NCAA granted waivers to some low-performing football and basketball teams at "low resource institutions," including many historically black college and universities. Such waivers are considered appropriate, so long as the NCAA requires the athletic programs at these schools to demonstrate improvement over time.

But the NCAA also granted waivers to wealthy, big-time sports schools that have plenty of money to spend on academic support. Instead of standing up to these universities and penalizing them for their academic failings, the NCAA quietly consented to their waiver requests.

Ohio State University's basketball team is a perfect example: with an APR of 909, and a most recent federal graduation rate of 27 percent, the program should have been subject to scholarship reductions for next year. But Ohio State submitted an "APR Improvement Plan" to the NCAA, with promises of more tutoring and monitoring of athletes, and thus avoided the penalty.

Other high-profile teams that were granted waivers include the University of South Carolina's football team, Purdue University's football team, and Indiana University's basketball team. The NCAA granted waivers to 11 percent of teams of teams with APRs below 925 in this category.

If the NCAA is serious about academic reform, it should make an example of these high-profile sports schools. And if it wants to force real change, it needs to strengthen its penalty system. Little will change if fewer than half of the men's basketball and football teams with scores below 925 are actually punished.

In announcing the recent penalties, Myles Brand, the president of the NCAA, passed the ball. It might make sense, he said, for schools "to put money into the development of academic resources than into the development of new [football stadium] suites."

We hate to break it to you Mr. Brand, but no big-time sports school is going to shift money to academics by choice. You need to force them to by implementing and enforcing academic penalties with teeth.

Bernanke Says Auction

Jason Delisle — Wed, 07 May 2008 13:42:00 -0400

Federal Reserve Chairman Ben Bernanke says the government’s biggest student loan program, the Federal Family Education Loan (FFEL) program, is poorly designed. His suggested solution sounds a lot like an endorsement for an auction. In a letter to Sen. Chris Dodd (D-CT) on Federal Reserve action to help student lenders weather credit market turmoil, Bernanke notes that the structure of the FFEL program is problematic. He writes:

The other side of the profitability equation--the reimbursement spread paid to lenders under this program--is under the control of the Congress and the executive branch. In particular, Congress may well wish to revisit the question of whether setting a fixed spread over the commercial paper rate is the best approach. You may decide that a more market-sensitive approach--flexible enough to provide a wider spread during times of market stress and a narrower one during normal times--could provide a more robust structure.

Here is what’s behind Bernanke’s assessment of the FFEL program and his suggestion for a "more market sensitive approach."

Two Parts to the FFEL Profit Equation

Turmoil in the credit markets has markedly increased the cost of capital for FFEL lenders, capital that they use to make student loans. Even though the loans are virtually risk free (they are guaranteed and subsidized by the federal government) the credit markets currently are demanding a hefty premium for capital compared to what was charged in the past. But while financing costs for student loan providers are problematic, they are only one side of the equation when it comes to the profitability of a FFEL loan. The other side is the subsidy paid by the federal government.

The federal government guarantees lenders an interest rate on all FFEL loans that is equal to a variable short-term market interest rate (three month commercial paper) plus a premium of 1.79 percentage points. Right now that rate equals about 4.5 percent, but fluctuates each quarter based on commercial paper interest rates. More information on this subsidy is available here.

In the past, the interest rate subsidy was sufficient to induce FFEL lenders to make loans. The cost of raising capital was low enough that the guaranteed interest rate paid on the loan produced a spread. For example, in the past a lender could borrow at 5.5 percent to make a loan, and then collect a guaranteed 7.5 percent rate by the federal government. The 2.0 percentage point spread was enough to cover the lender’s costs of origination, marketing, and leave a nice profit after taxes.

Today, however, the lenders’ cost of raising money has reduced the spread, and some lenders say it has eliminated it. As a result, lenders say that they may not make loans this fall.

FFEL Design is Risky and Wasteful

No one should be surprised. Congress has designed the FFEL program in a way that makes it susceptible to such disruptions. The guaranteed interest rate paid on the loans is arbitrary, made up by Members of Congress, and fixed in law. Some years that rate is too generous, heaping windfall profits on lenders and wasting taxpayer money. Other years, it may not be high enough to induce any lender to make loans.

What’s the solution? Well right now lenders and Members of Congress are coming up with all sorts of schemes to allow lenders to raise funds at lower, taxpayer-subsidized rates, which is intended to increase the spread lenders earn on a FFEL loan.

Use an Auction a la Ben Bernanke

Why not take Bernanke’s approach instead? Let a market set the guaranteed interest rate that the federal government pays lenders. If financing costs spike, as they have now, then the subsidy paid to lenders would adjust accordingly, ensuring a profitable spread. In less volatile years, the rate could adjust lower to ensure taxpayers weren’t paying more than they needed to fund the FFEL program.

The PLUS auction pilot set to begin next year is one model for such a system, provided one flaw is corrected. The auction sets a reserve price for bids made on the subsidy rate, capping bids at an arbitrary, fixed rate. The reserve price should be raised, and the Secretary of Education should be given the flexibility to adjust it in each auction when special circumstances arise. Details on the PLUS auction are available here.

Yes, the credit markets are partly to blame for possible disruptions in the FFEL program. But Congress is also at fault. Congress makes up the subsidies for lenders in the FFEL program and isn’t very good at getting them right. Let lenders bid for the subsidies instead. That’s how Ben Bernanke would do it.

(Image used under a Creative Commons license from flickr user trackrecord )

Guest Post: A System of Student Financial Support

Ed Policy — Tue, 06 May 2008 16:22:00 -0400

By Art Hauptman

Current arrangements for providing financial support to college students and their families in this country are not meeting many of the objectives for which they were intended. The Spellings Commission summed it up well in its final report: "The entire financial aid system - including federal, state, institutional, and private programs - is confusing, complex, inefficient, duplicative, and frequently does not direct aid to students who truly need it." As a result, the Commission and a number of other groups with wide ranging political agendas have recommended that "the entire student financial system be restructured". But what would that entail?

Since first established in the 1960s, the federal student aid programs of grants, loans, and work-study - in concert with state, institutional, and private efforts - have provided access to a postsecondary education for millions of Americans who otherwise might not have had enough funds to attend. More recently, federal tax offsets against current tuition expenses and tax-preferred incentives for college savings serve as an important source of financial relief for hard-pressed taxpayers from a range of incomes who worry that they will be unable to pay the constantly mounting bill for tuition and other expenses.

But there is good reason to believe that the financing system also has been a factor in some of the most nagging difficulties associated with American postsecondary education:

The growing number of students who require remedial coursework because they are not fully prepared to do college level work when they enroll

The fact that degree completion rates in the United States are below average among industrialized countries

Tuitions and other charges at both public and private colleges increasing at twice the rate of inflation for a quarter century, raising concerns about college affordability.

Student aid and tuition tax policies are certainly not solely or even primarily to blame for these concerns and trends. Many other factors are much more important in explaining the lack of student readiness, low completion rates, and mounting tuition bills. But the student aid system is not blameless.

The basic underlying problem is that the current system of providing financial support to college students and their families is not a system at all. Rather it is a loose conglomeration of policies and practices at the federal, state, institutional, and private levels that often conflict with each other, with the result that efforts by one governmental unit or group often cancel out efforts by others.

Moreover, federal policies are often in conflict with each other - student aid programs intended to promote greater access may be detracting from better student readiness and success as measured by degree completion. Increasing reliance on tax policies to help families pay for college is often at odds with the more access-oriented policies contained in the traditional federal and state student aid programs. As a result of poor design and lack of policy coordination, there are many problems with the current structure of providing financial support to college students and their families, including:

The system of applying for aid and administering it is far too complex which in itself becomes a large barrier to greater access.

Aid often is not well targeted to students from the lowest income families making it that much harder to achieve the goal of providing greater equity of access.

Student debt burdens are growing rapidly and there is far too little relief for the growing number of borrowers who are having trouble making their payments.

The existing financing structure places too much emphasis on getting students into college and there is not nearly enough focus on whether students are prepared to do the work or whether they will complete their educational program.

There is reason to suspect that the growing availability of aid, particularly loans, have been a factor in tuition and other charges growing at twice the rate of inflation for the past quarter century, suggesting a price effect of student aid.

The provision of government aid may encourage institutions that package aid to move their discounts up the income scale, suggesting that some forms of student aid, particularly government grants, may have an adverse substitution effect.

These and very real problems that indicate the current structure of student financial support needs to be changed in fundamental ways.

A subsequent post or two, if Higher Ed Watch doesn't tire of me, will describe a set of principles that should guide future reforms with specific suggestions for moving forward on this agenda. Big changes are needed to make current levels of government support work better for students and their families. Patchwork won't do.

Art Hauptman is an independent consultant on higher education finance issues. The views expressed herein are his own and do not necessarily reflect the positions of the New America Foundation.

Higher Ed Roundup: Week of April 28 - May 2

Ed Policy — Fri, 02 May 2008 21:49:00 -0400

Student Loan Credit Crunch Bill Sent to President

One in Five Colleges Considering Switch to Direct Lending

Tuition On the Rise, but Spending for Instruction is Not

Report Calls for Revised Pell Grant Formula

Student Loan Credit Crunch Bill Sent to President

The U.S. House of Representatives moved quickly on Thursday to give final approval to H.R. 5715, which would increase the annual and aggregate federal unsubsidized Stafford loan limits, allow parents to defer payments on PLUS loans while their children are in school, and establish the Department of Education as a "secondary lender of last resort" (one of our ideas) with the power to purchase outstanding FFEL loans and service them through the Direct Loan program. Congress put the legislation on the fast track after President Bush used his weekly radio address to highlight the need for quick action to address tight liquidity for student loan providers. The final measure includes amendments that the Senate added to the bill before approving it on Wednesday. Among other things, the bill will now sunset the Education Secretary's authority to designate entire colleges for the "lender of last resort program" at the end of the 2008-09 academic year and direct all savings derived from the legislation to increase funding for the Academic Competitiveness and SMART grant programs. The President is expected to sign the bill shortly.

One in Five Colleges Considering Switch to Direct Lending

Citing instability in the student loan market, 19 percent of colleges surveyed last week by Student Lending Analytics say that they are considering switching from the Federal Family Education Loan program to the Direct Loan program, in which the Department of Education provides loans directly to students through their college. Nearly six percent of institutions surveyed have already made the switch. So far, the largest institutions to make the move have been Indiana University at Bloomington, Michigan State, Northeastern, and Pennsylvania State Universities. Those expressing the most interest in switching programs, however, are community colleges (about 7 percent are planning to make the switch, and another 29 percent are considering doing so) and for-profit trade schools (14 percent are planning to make the switch, and another 43 percent are considering doing so.) These results are hardly surprising as several banks in recent weeks have said they plan to be more selective in making federal loans to financially-needy students attending these types of institutions.

Tuition On the Rise, but Spending for Instruction is Not

Annual tuition hikes are becoming a fact of life at pubic and private colleges around the country, but little of that additional money is going towards student instruction. A new report from The Delta Cost Project, "A Growing Imbalance: Recent Trends in U.S. Postsecondary Education Finance," finds that the percentage of institution revenue dedicated to faculty salaries and other instructional costs at private colleges increased by just 1 percent between 1998 and 2005, down from a 2.2 percent increase between 1987 and 1996. In particular, tuition revenue at public colleges, though on the rise, often did not translate into increased spending because it was used to offset decreases in state appropriations. Since 1998, student tuition has covered a larger percentage of the costs of a student education, up from 37 percent to 47 percent at public schools and up to 31 percent from 24 percent at private institutions.

Report Calls for Revised Pell Grant Formula

Planned increases to the maximum Pell Grant award are important for helping low-income students, but a new report argues that additional modifications should be made to the program to ensure that funds are better targeted to the poorest individuals. "Window of Opportunity: Targeting Federal Grant Aid to Students with the Lowest Incomes," released Monday by the Institute for Higher Education Policy, argues for changes in the Pell Grant award formula, which is determined by taking the difference between the maximum award and the student's expected family contribution (EFC). The report recommends that students be allowed to have a negative EFC of up to $750 (the current minimum is zero), in turn allowing the poorest students to receive a Pell Grant award of up to $750 beyond the maximum limit. The report also recommends increasing both the minimum and maximum Pell Grant awards.

Fueling Sham Trade Schools

Stephen Burd — Thu, 01 May 2008 06:20:00 -0400

We have written a lot recently about Silver State Helicopters, a Nevada-based company that left the 2,500 students who attended its flight academies in the lurch when it shut its doors without warning on Super Bowl Sunday and filed for bankruptcy liquidation.

As we noted yesterday, Silver States' entire existence depended on the willingness of loan companies -- in this case, the infamous Student Loan Xpress and the Pennsylvania Higher Education Assistance Agency (PHEAA) through its national brand American Education Services -- to make and service high-cost private loans to help students cover the $70,000 cost that they were required to pay up front to attend the unlicensed and unaccredited flight schools. Unfortunately, Silver State students are now stuck repaying these private loans for training they did not ultimately receive.

Silver State is hardly an isolated case.

There has been in recent years a proliferation of unlicensed and unaccredited trade schools that do not participate in the federal student aid programs and therefore go largely unregulated. Their growth has been fueled by lenders that have willingly and irresponsibly "partnered" with these institutions to provide expensive private loans to the at-risk students these schools tend to attract. The lenders have then turned around and, like subprime mortgage lenders, securitized the loans, shifting the risk of the loans onto unsuspecting investors.

Reviving Trade School Scams

These practices first came to light several years ago when dozens of unaccredited computer training schools unexpectedly shut down, leaving their students without training and with heavy private loan debt. Just like Silver State, these schools (owned by now-defunct chains such as Ameritrain, Solid Computer Decisions, and The Academy Schools, among others) had forged sweetheart deals with the loan giants Sallie Mae and Key Bank to provide their students with tens of thousands of dollars of private loans to cover the full cost of tuition upfront before any classes were provided.

Consumer lawyer Tom Domonoske exposed these deals in an article entitled "The Finance Industry Fuels Revival of Trade School Scams," which ran in late 2003 in the trade journal The Consumer Advocate but received little attention at the time. In the article, Domonoske explained how the easy availability of private loans helped disreputable schools thrive by allowing them to attract students without having to worry about being regulated by the federal government.

In the late 1980's and the early 1990's, the federal government was forced to take emergency actions to crack down on an explosion of fly-by-night trade schools set up solely for the purpose of reaping profits from the federal student aid programs. To avoid another student loan-proprietary school debacle, policymakers began requiring schools that participate in the federal student loan program to demonstrate, among other things, that they are financially stable. The schools must show that they do not pose a danger of closing precipitously.

But disreputable trade school owners found a way to around these rules -- by staying out of the federal aid programs and pushing private loans to their students. Meanwhile, lenders, Domonoske wrote, have proved more than willing to provide "liquidity" to these sham schools. "[T]he current problem of school closures in the computer training field would not exist if entities like Sallie Mae and Key Bank were applying similar restrictions" to those of the government, Domonoske wrote at the time.

The Loan Industry's Complicity

Under pressure from consumer advocates, Sallie Mae eventually agreed to stop serving unlicensed schools. But Key Bank apparently continues to do so. And, in light of the Silver State Helicopters case, other lenders, like Student Loan Xpress and the non-profit state agency, PHEAA, appear to have picked up the slack.

Why would lenders ever agree to make such risky loans in the first place? Don't loan providers pay a price for making loans to students attending sham schools? Not if they securitize the loans and get them off their books. As Domonoske puts it:

"Key Bank's willingness to fund bad loans seems at first glance to be counterproductive for its own bottom line. However, Key Bank does not intend to hold all the loans during their repayment period; instead it pools and sells the loans to investors. Through a process called "asset-backed securitization," Key Bank obtains full value for the loans by selling them to an investment trust. It sells the loans as if they were honest and legitimate transactions solicited by schools that were acting properly...Consequently, the investors pay full value without a disclosure of the inherent defects in the loan."

In other words, by providing huge private loans to students attending unlicensed, unaccredited schools and then securitizing the debt, the lenders have not only caused great harm to students but have also deliberately misled investors.

As policymakers consider a bail out the student loan industry from the credit crunch beyond legislation passed in the Senate yesterday, they need to remember that lenders have brought a good part of these problems onto themselves. Lenders have dumped lots of bad private student loans onto the marketplace, knowing full well that much of this debt was likely to go into default. Is it any wonder that investors are now wary of student loans?

Predatory Lending Biting Back

Stephen Burd — Wed, 30 Apr 2008 14:52:00 -0400

With calls from student loan providers for a bailout growing louder every day, it's worth remembering that the lenders have brought a good part of these problems onto themselves. Investors are wary of purchasing student loan asset back securities, and, and least when it comes to those made up of private loans, they have good reason. Lenders have dumped lots of bad loans made to subprime borrowers going to dubious schools onto the marketplace, knowing full well that much of this debt was likely to go into default.

Case in point: as we noted last week, there has been in recent years a proliferation of unlicensed, unaccredited trade schools that do not participate in the federal student aid programs and therefore go largely unregulated. The growth of these schools of dubious quality has been fueled by student loan companies that have willingly and irresponsibly "partnered" with these institutions to provide high-cost private loans to often at-risk students that these schools tend to attract. The lenders have then turned around and, like subprime mortgage lenders, securitized the loans, shifting the risk of the loans onto unsuspecting investors.

Low-income and working class students who enroll in these schools have paid a high price for these policies.

Take Silver State Helicopters for instance. On Super Bowl Sunday, the Nevada-based company, which owned unaccredited flight academies across the country, shut its doors without warning and filed for bankruptcy liquidation. As recounted by The San Diego Union-Tribune, the 2,500 students enrolled in the flight academies were "left in the lurch." Because the schools did not have the proper accreditation to qualify to participate in the federal student aid programs, the company directed students to take out expensive private loans to cover the $70,000 tuition that they were required to pay up front. Unfortunately, Silver State students are now stuck repaying these loans for training they did not ultimately receive.

But Silver States' entire existence depended on the willingness of loan companies -- in this case, the infamous Student Loan Xpress and the Pennsylvania Higher Education Assistance Agency (PHEAA) through its national brand American Education Services -- to make and service private loans to students lured into unlicensed, unaccredited, and ultimately "fly-by-night" schools (forgive the pun). In fact, the company appears to have gone immediately belly up the minute the lenders revealed that they would no longer provide private loans to its students because the lenders would not be able to securitize them as a result of the credit crunch.

The student loan industry is desperately seeking a bailout and offering neither borrowers nor taxpayers anything in return. Don't Silver States' students deserve a bailout too? Don't taxpayers deserve protection against another student loan - proprietary school debacle, as we had in the late 1980s and early 1990s? We at Higher Ed Watch think both student borrowers and taxpayers deserve better.

Guest Post: Insulating Student Loans from the Credit Crunch

Ed Policy — Tue, 29 Apr 2008 15:09:00 -0400

By Art Hauptman

Congress and the Bush administration wisely are trying to ensure that the broadening housing credit crisis does not engulf higher education and thus prevent many college students from being able to borrow. But they need to be careful not to overreact and make matters worse.

First, it's important to understand the problem. Thus far, it is not with the federal student loan programs as some have suggested. Relative to their overall number, few lenders have withdrawn from the federally guaranteed programs and federal Direct Loans remain a viable option.

The student loan credit crunch problem instead is in the burgeoning private student loan market that now accounts for one-fifth of all borrowing for postsecondary education. The private student loan market has grown because federal loan limits are insufficient to meet demand, particularly among students enrolled in most proprietary trade schools and many private, nonprofit institutions. Unsecured private student loans to high-risk borrowers are drying up as many lenders confront the reality of much more limited access to capital.

The concern among policymakers is that fewer private loans will mean less access to college and that a continuation in overall credit tightness will eventually affect federal student loans as well.

This is hardly the first time that general credit conditions have threatened the viability of federal student loans. Rising market interest rates over time led the government first to create and then increase special allowance payments to compensate lenders for the difference between student rates and market rates of interest. Concerns about limited liquidity led Congress to create Sallie Mae in 1972 and later encourage the creation of state lenders of last resort. Over time, lenders and other participants have reacted to various federal cost cutting proposals by threatening to pull out from the federal program.

The difference now is that the federal Direct Loan program exists. It can provide much needed liquidity for banks and other loan holders by buying up existing student loans, thus freeing up capital. This potential provision of liquidity, along with federal cost savings and much greater competition in the student loan market, are two principal advantages of having a Direct Loan program.

What is curious in the current student loan credit market debate is why some in Congress first turned to state lenders of last resort to augment liquidity. The more recent focus on Direct Loans as the primary backup source of capital is a welcome development in my view. Greater use of Direct Loans as a source of capital could have the added benefit of helping to address a very real problems in student loans -- the large and growing number of borrowers who have trouble repaying their loans.

When the Congressional Democrats first came back into power last year, they cut interest rates for new borrowers who already qualify for federal payment of interest while they remain in school. But that left out the millions of existing borrowers who are having trouble repaying their loans. Having the government buy up existing FFEL loans now would greatly increase the number of borrowers who would benefit from income contingent repayment and loan consolidation provisions. A greater policy focus on what happens when students enter repayment rather than when they initially borrow would be a welcome change in the student loan debate.

The most troubling proposal now being debated, however, is one that would greatly increase the amount that students could borrow in the federal student loan programs. These changes in loan limits are surely well intentioned, aimed at letting students shift from risky and expensive private loans to cheaper and guaranteed federal student loans.

But the proposed increases in loan limits have the potential of taking a problem created by the market and shifting it to the federal government. These increases in loan limits represent a bailout of many proprietary schools, some private colleges, and a number of lenders who have come to rely on private student loans to skirt the limits in the federal student loan programs. Particularly troubling is the increase in loan limits for independent students that would grow to an astounding $57,000 cumulatively under the House Committee bill as it could be an invitation for a renewal of large-scale defaults in the federal student loan program.

There are better ways to help those students who now borrow private student loans. All entail greater risk sharing by lenders and institutions.

Lenders should have to absorb a higher share of default costs in the federal student loan programs;
Institutions should be required to pay a portion of each loan on which their students default;
Institutions should be required to offer discounts to student borrowers so that the federal government is no longer put in the position of guaranteeing and subsidizing loans geared to the full sticker price, which fewer and fewer students actually pay; and
Any increase in federal loan limits should be much more modest with no difference for whether students are dependent on their parents or financially independent -- students should be able to borrow a standard amount for living expenses whatever their circumstances.

In sum, the (remote) possibility of a federal student loan credit crunch should not be used to justify a raid on the Treasury in the form of large increases in federal student loan limits. Instead, the federal government should be ready to rely on Direct Loans to provide liquidity and expand income contingent options for borrowers having trouble making their repayments. Greater cost sharing for defaults should be instituted for lenders and institutions, and institutions also should be required to step up to the plate and offer sizable discounts to reduce how much students must borrow to attend their institution.

The latest, perceived student loan crisis should be used to help borrowers in trouble, not bail out lenders and schools that have come to rely on private loans.

Art Hauptman is an independent consultant on higher education finance issues. The views expressed herein are his own and do not necessarily reflect the positions of the New America Foundation.

Higher Ed Roundup: Week of April 21 - April 25

Ed Policy — Fri, 25 Apr 2008 22:33:00 -0400

No Federal Borrowing for Lenders, Administration Says

Elite Colleges Enrolling Fewer Low-Income Students

Substantial Black-White Graduation Gaps in College Too

Iowa Law To Rein in Questionable Lending Activity

No Federal Borrowing for Lenders, Administration Says

The Bush administration disappointed the student loan industry on Wednesday when it rejected a plan that would have allowed lenders to borrow funds directly from the U.S. Treasury to make new student loans. The proposal, put forward by the student loan giant Sallie Mae among others, would have allowed lenders to gain access to desired liquidity by borrowing funds from the Federal Financing Bank (FFB), an arm of the Treasury, at a subsidized rate. However, In a letter to Sen. Christopher Dodd (D-CT), who had backed the plan, the Secretaries of Education and the Treasury and the Director of the White House Office of Management and Budget wrote that "after a thorough analysis, it is clear that the FFB does not have the authority under the Federal Credit Reform Act to purchase, or otherwise participate in, loans to non-Federal borrowers in these circumstances." Instead, the letter said the administration would be supporting policies already contained in legislation passed last week by the House of Representatives, including one that would allow the Department of Education to purchase outstanding loans from lenders.

Elite Colleges Enrolling Fewer Low-Income Students

The proportion of low-income students enrolled at the nation's most elite colleges has declined in recent years, according to an analysis published yesterday in The Chronicle of Higher Education. On average, only 13.1 percent of the students at the nation's 75 wealthiest colleges received Pell Grants in 2006-07, down from 14.3 percent two years prior. While most schools lost ground in enrolling students with Pell Grants in this period, some made significant gains, including Amherst College and the University of Texas - Austin. Princeton University reported that enrollment of low income students increased from 6.9 percent in 2001, when the school decided to replace its loans with grants, to 10 percent in the current academic year. Many of the nation's elite colleges, which announced similiar financial aid plans this year for low-income students, hope for similiar improvement in socio-economic diversity.

Substantial Black-White Graduation Gaps in College Too

Low high-school graduation rates, especially among minority students, have garnered significant attention in the press, but the rates at which minority students are graduating from college are just as sobering, according to a new report from Education Sector's Kevin Carey. Less than half of black students who enroll at a four-year institution graduate in six years. At many schools, black students graduate at a rate 20 percentage points lower than their white peers. Graduation rates at the nation's Historically Black Colleges and Universities, though varied, average about 38 percent. The report points to some successful models to improve minority retention, and recommends that state accountability officers, college accreditors, and the U.S News & World Report's annual college rankings pay greater attention to these gaps in the hopes of narrowing them.

Iowa Law To Rein in Questionable Lending Activity

State lawmakers in Iowa have agreed on compromise legislation that would prohibit colleges in the state from accepting gifts from student loan providers and from entering into revenue sharing agreements with them. In addition, the bill, which is similar to a law passed last year in the State of New York, would require lenders to provide more information to students at Iowa colleges about the range of interest rates charged on private loan products. The legislation comes as the state's attorney general nears completion of an investigation he has been conducting into well-publicized allegations that the Iowa Student Loan Liquidity Corporation, the state affiliated lender, pushed students into taking on high-cost private loans and paid kickbacks to colleges, including $500,000 in reimbursement payments to Iowa State University. The problem of student debt is especially acute in Iowa, where 74 percent of students graduate with debt over $24,000, while more than half of students nationwide have less than $19,000 in debt. The bill is expected to pass, and lawmakers may add more regulations in October, when the AG is expected to submit the findings from his investigation.

Money Grab

Ed Policy — Thu, 24 Apr 2008 15:16:00 -0400

Representatives of the same student loan providers who ripped-off taxpayers more than $1 billion a year through use and abuse of the so-called "9.5 percent loan" legislative loophole are at it once again. This time, this special group of lenders is quietly lobbying for a lucrative carve out (also ready to be exploited) in pending student loan credit crunch legislation.

Inside Higher Ed reported the money grab story yesterday, but we've got more details on the proposal that the Education Finance Council is peddling on Capitol Hill. See their legislative language below.

We've bolded some of the most notable elements like entitling the lender to a government purchase of their product, setting a price in statute, mandating no servicer change on the relevant loans, etc, etc... And of course the proposal gives taxpayers nothing in return in the way of business practice reform, like say, banning the mingling of private and federal student loan assets, a cash reserve requirement to avoid this problem in the future, or perish the thought, restrictions on executive compensation.

Just to be clear on the lobbyists' business model. The taxpayers:

(1) guarantee the product against risk,
(2) guarantee the product has a specified rate or return,
(3) guarantee a source of low cost capital to make the product, and
(4) just to grease the rapid flow of profit, guarantee the product has a buyer at a set price -- thereby creating an option that the lenders can leverage for even more low source capital.

Where's George Will when we need him?

"Sec. 440B. SECONDARY MARKET OF LAST RESORT AND STANDBY LOAN PURCHASER

Insert after proposed subsection 440B (a) the following new subsection 440B (b), and renumber subsections "(b) and (c)" as "(c) and (d)":

"(b) STANDBY LOAN PURCHASE AGREEMENTS. - Notwithstanding any other provision of this Act and subject to subsections (c) and (d), upon the request of an eligible lender, the Secretary shall enter into one or more standby loan purchase agreements with such eligible lender that shall -

"(1) provide an option to the eligible lender to sell to the Secretary loans originated or expected to be originated under section 428, 428B, 428C, or 428H;

"(2) permit the eligible lender to sell to the Secretary from time to time any or all of such loans originated or purchased by the eligible lender, at a price equal to the sum of the total of the outstanding principal amount of, plus any accrued and unpaid interest, interest subsidy payments, and special allowance on, the loans that are sold;

"(3) permit the eligible lender to exercise its option to sell any or all of such loans to the Secretary at least monthly, upon seven days notice to the Secretary, at any time prior to the earlier of the final repayment of such loans or a date established by the Secretary, which date shall be not less than five years following the date of execution of the standby loan purchase agreement;

"(4) permit the eligible lender to repurchase any of the loans sold to the Secretary during the first 12 months following the sale of the loan to the Secretary and during any longer period in which the loan continues to be serviced by the prior servicer pursuant to section 440B(b), upon the same terms and conditions that the Secretary purchased such loan from the eligible lender;

"(5) upon the request of the eligible lender, not require a change in the servicer of a sold loan during the first 12 months following the sale of such loan, and permit, upon the agreement of the Secretary, the Secretary's continued use of that servicer after such initial period;

"(6) not require any alteration in the terms and conditions of a promissory note of a loan under section 428, 428B, 428C, or 428H, or the execution of a new promissory note; and

"(7) have such terms and provisions as shall be necessary to allow the debt of the eligible lender that is financing such loans to meet the standards of publicly offered money market securities with the highest short term credit rating from at least two nationally recognized credit rating agencies;

Amend renumbered subsection (c) by inserting the following at the end thereof on line 21 of page 8 before the period:

"; provided, however, that in the case of a sale pursuant to a standby loan purchase agreement under subsection (b), the loans offered for sale shall be representative (including representative with respect to risk of default) of the eligible lender's portfolio of loans under such sections that are then eligible for sale pursuant to the standby loan purchase agreement."

Amend renumbered subsection (d):

a) by inserting the following at the end of (d)(1) before the period:

", and the authority provided to the Secretary under subsection (b) to enter into standby loan purchase agreements shall expire on July 1, 2009, provided that the expiration of such authority shall not affect the authority of the Secretary to purchase any loan on or after July 1, 2009 pursuant to a standby loan purchase agreement entered into prior to July 1, 2009."

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