Guarantee Agencies

Here's something that we never could have predicted: President Bush is leaving the federal Direct Student Loan program in a stronger position than he found it.

Back in January 2001 few student-aid observers thought that Direct Lending, which had been championed by the Clinton administration and Congressional Democrats, would survive the Bush presidency. Some loan industry lobbyists were so confident of the program's demise that they actually advised the administration to show restraint. "It would be foolish for the Bush administration to try to eliminate direct lending," Jeff Andrade, an advocate of the Federal Family Education Loan (FFEL) program, told The Chronicle of Higher Education shortly before Bush was sworn in. "The program is withering on the vine on its own." [Andrade soon after received a plum assignment at the U.S. Department of Education.]

Now, nearly eight years later, the Direct Loan program's fortunes are on the rise. In the wake of the credit crunch, the program's volume has increased by nearly 50 percent this year, according to the Education Department. Roughly 400 schools have switched to Direct Lending from the competing Federal Family Education Loan (FFEL) program over the last 12 months, bringing the total number of schools offering Direct Loans to about 1,370. If the program's growth continues at its current pace, Direct Lending will overtake the FFEL program for the first time in the program's history. [An additional irony is that, as a result of the credit crunch, the FFEL program is looking more and more like direct lending -- with the federal government providing federal capital and liquidity to struggling lenders to make federal loans.]

Barack Obama's historic victory last night ensures that a change in direction is coming to the U.S. Department of Education and hopefully to federal higher education policy.

Starting tomorrow, we will take a closer look at Obama's signature higher education proposals. (Got to give him at least a one day honeymoon, right?) Today, we will present our wish list for the incoming administration. Here are some changes we would like to see:

• Emphasize Oversight and Enforcement at the Department of Education: Over the last eight years, the Bush administration officials in charge of the Department looked the other way as widespread abuses occurred in the Federal Family Education Loan (FFEL) program. To this day, the Department has not disciplined a single lender for violating a federal law that prohibits loan providers from offering inducements to secure student loan business. At the same time, the education secretary allowed lenders to keep more than $1 billion they illegally obtained in improper subsidy payments. Federal leadership is sorely needed to protect the integrity of the federal student loan programs, for the sake of both the students who depend on them and the taxpayers who finance them. For starters, the new administration should take a close look at the conflict-ridden relationship between Sallie Mae and USA Funds, the guarantee agency it effectively controls. As we have noted, there is compelling evidence that the loan giant has exploited this arrangement to take advantage of borrowers who are having difficulty repaying their federal loans. A thorough investigation is needed.

Over the last two years, as we have investigated and reported on the "pay for play" student loan scandals, we have heard from some skeptical loan industry officials and college leaders and lobbyists who question whether any students have actually been hurt by the unethical practices that have been revealed.

Well, if lenders and college officials are truly assessing the damage, then they need look no further than two new reports last week showing how predatory lending practices have put students in harm's way.

These must-read reports --one from The Chronicle of Higher Education and the other from Iowa's Attorney General -- focus respectively on the operations of Sallie Mae, the nation's largest student loan provider, and the nonprofit lender Iowa Student Loan Liquidity Corporation.

Both reports demonstrate how the loan companies' drive for profits and market share have at least allegedly led them to engage in improper and possibly illegal activities that have left students with larger debt loads than they should have had.

The reports also underscore how the U.S. Department of Education's appalling lack of oversight over the student loan industry has left financially needy students vulnerable to abuse. Apparently the only people interested in enforcing the law and protecting students-- judging by these reports -- are state attorneys general and whistleblowers who bring false claims lawsuits against unscrupulous companies on behalf of the government. In the absence of federal leadership, is it any wonder that student loan providers have been so willing to push the envelope?

They're the middlemen of the Federal Family Education Loan (FFEL) program, they engage in some ill-defined activities outside their purview, and in many cases are closely linked to loan companies. Now, thanks to the reauthorization of the Higher Education Act, guaranty agencies will also be playing a key role in the pilot PLUS loan auction program.

As we've written previously, the pilot PLUS loan auction is an opportunity to harness market forces (credit market emergencies notwithstanding) to determine the ideal subsidy lenders should receive in exchange for originating student loans. Lenders will bid for one of two spots to exclusively originate PLUS loans in a state, and will keep that authority for two years. [More on the student loan auction can be found on our Federal Education Budget Project Web site.]

The reauthorization of the Higher Education Act improved upon this program by introducing penalties for lenders who win an auction but fail to follow up on their commitment by not making all PLUS loans in a state. These disciplinary measures include reducing the subsidies lenders receive on other loans, banning them from participating in future auctions, or kicking them out of the FFEL program altogether. These measures should ensure that only serious lenders submit a bid.

More than 500 days after being placed on paid administrative leave, Matteo Fontana officially resigned from his position at the U.S. Department of Education in early September, according to a report yesterday in The Chronicle of Higher Education. The Department's political leaders are surely breathing a sigh of relief.

After all, over the past 17 months, they have come under heavy fire (including from us) for the way they have handled the case, which revolves around special shares of stock that Fontana received from a student loan company he was in charge of overseeing.

But if Department leaders think that Fontana's resignation brings this case to a close, they are kidding themselves. Serious questions remain about Fontana's actions and about the Department's response to them.

In April 2007, the Department placed Fontana, the then-general manager of the Financial Partners Division of the U.S. Department of Education's Federal Student Aid office, on paid leave after Higher Ed Watch revealed that he had held at least $100,000 worth of stock in the company Student Loan Xpress. It is clear that Fontana's purchase and subsequent sale of the stock represented a substantial conflict of interest -- he was, after all, responsible for overseeing the lenders and guaranty agencies that participate in the Federal Family Education Loan (FFEL) program.

On Thursday, the U.S. House of Representatives Financial Services Committee is set to hold a hearing on auction rate securities -- a broken investment mechanism that non-profit student loan companies have relied on heavily for financing. The hearing is largely the brainchild of Rep. Paul Kanjorski (D-PA), a member of the committee who is using it to gin up support for federal policies to help non-profit lenders. This was evident from Kanjorski's initial press release on the hearing, in which he faulted the Bush Administration for failing to use "its full authority to help non-profit lenders like PHEAA," the primary student loan provider in the Congressman's home state.

Clearly Kanjorski thinks that the way the U.S. Department of Education enacted the Ensuring Continued Access to Student Loans Act (ECASLA), the law Congress passed last spring to help student loan providers weather the credit crunch, did not do enough to help non-profit lenders. We at Higher Ed Watch disagree. Instead, we believe Kanjorski has framed the non-profit lender problem in a dubious manner, and is proposing to solve this "problem," with a series of flawed solutions.

It seems that we have to keep reminding policymakers (and sadly, the media, too) that the one, and only, goal of the federal student loan program is to provide loans to college students that are more generous than those offered in the private market. That's it. So, yes, there would be a problem if students weren't able to get federal loans, which even top industry lobbyist John Dean agrees should be the "litmus test" of whether or not there is a "crisis."

What do an appendix, plica semilunaris, and student-loan guaranty agency all have in common? They're all vestigial structures whose original purpose is no longer necessary. But unlike the first two examples, guaranty agencies are desperate to show -- despite all evidence to the contrary -- that they are still relevant.

As parts of a system known for its complexity and confusion (the Federal Family Education Loan Program, otherwise known as FFEL), guaranty agencies are the ultimate amorphous entity, branching out into numerous roles that are completely unrelated to their original purposes.

Soon after Congress created the FFEL program in 1965, it authorized the involvement of guaranty agencies (many of which were already in existence in the states), to encourage lenders to offer student loans by providing default insurance. Congress also gave the guarantors important oversight responsibilities, such as ensuring that only eligible students obtain federal loans, and that lenders make a concerted effort to keep delinquent borrowers from defaulting.

While it made sense for guaranty agencies to occupy these roles at a time when technological limitations made it difficult for solely the federal government to oversee FFEL, the program's current setup and recent oversight failures make it clear that guaranty agencies should not be the ones to carry out these functions.

California Halts State Oversight of For-Profit Colleges

Ties Between Sallie Mae and Guarantee Agency Come Under Renewed Scrutiny

Student Loans Still a Problem, Says Outgoing Ed. Dept. IG

We hope you all enjoyed your Fourth of July vacation. While it’s nice to have the occasional hard-earned day off, we know someone else who has been on a very long paid break.

It has been 459 days since Matteo Fontana, the then-general manager of Financial Partners Division of the U.S. Department of Education’s Federal Student Aid office, was placed on administrative leave. The Department took this action after Higher Ed Watch revealed that he held at least $100,000 worth of insider stock in the student-loan company Student Loan Xpress. At the time, Education Secretary Margaret Spellings promised that she was taking the matter “very seriously.” But as far as we can tell, the Department hasn’t done anything beyond giving Fontana his regular paycheck and telling him to disappear.

It is clear that Fontana’s purchase and subsequent sale of the stock represented a substantial conflict of interest -- he was, after all, responsible for overseeing the lenders and guaranty agencies that participate in the Federal Family Education Loan (FFEL) program. In addition, at the time he received the stock he was in charge of the National Student Loan Data System (NSLDS), a national database that keeps track of the student aid awards of tens of millions of students. Last year, the Department was forced to shut it down temporarily because, as Higher Ed Watch also revealed, student-loan companies had been mining it to collect personal information about borrowers for marketing purposes.

Too many times of late, we have seen mainstream journalists fall for the spin of lenders, who in the wake of the credit crunch have had a vested interest in raising panic levels about the availability of student loans.

That's why it's such a pleasure for us to see good, critical, and insightful reporting on the loan industry receive the recognition it deserves. Case in point: Paul Basken, a senior reporter at The Chronicle of Higher Education, has received a National Press Club award for a revealing piece he wrote last May showing how the revolving door between the Bush Administration and the student loan industry brought great rewards to Sallie Mae and put financially needy students in harm's way. [Disclosure: the author of this post used to work for the Chronicle.]

We wrote about Basken's article last year. But at a time when the student loan scandals of yore are fading fast from memory, we felt that it was important to remind our readers of just what he found. The conflict of interest that he uncovered still exists and needs to be dealt with.