Sallie Mae

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.

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.

At Higher Ed Watch, we have focused recently on deals that chains of publicly-traded, for-profit trade schools have made with loan providers like Sallie Mae that have allowed them to push low- and moderate-income students to take out high cost, subprime private loans. But for-profit colleges are not the only higher-education institutions that have forged these kinds of arrangements and put students in harm's way. Many expensive non-profit private colleges have come to rely on these arrangements as essential tools in carrying out their enrollment management plans.

And now with the credit crunch, as well as a federal crackdown on sweetheart deals between lenders and colleges, many private college leaders are anxious that the easy access they've had to the private loan market is starting to dry up.

That much is clear from the results of a recent survey conducted by he National Association of Independent Colleges and Universities (NAICU), which lobbies on behalf of private nonprofit colleges, to determine the effect that the credit crunch is having at its member institutions. Despite some alarmist rhetoric in the news release accompanying the report "about reductions in student loan availability," the survey confirms what we've been saying -- that there is absolutely no federal student loan crisis. Of the 315 private colleges that responded to the survey, not a single school reported having any trouble obtaining federal loans for their students.

Last week, we wrote that Sallie Mae and its promoters on Wall Street claim the company was "blind-sided" by the rising default and delinquency rates on subprime private loans it made to low-income and working class students at poor performing higher education trade schools. It's a convenient argument considering that the loan giant is facing at least one, and possibly several, class action lawsuits by angry shareholders who accuse the company of deliberately misleading them about the amount of risk it was assuming. But the argument is disingenuous at best.

Financial analysts have long raised red flags about Sallie Mae's private lending practices. During earnings calls and at shareholder meetings and investment conferences, analysts regularly peppered Sallie Mae officials with questions about whether the company, which is used to having government backing on its loans, had the expertise needed to assess the risks associated with lending unsecured, private loan debt to financially-needy students.

Of particular concern to these analysts have been the sweetheart deals that Sallie Mae forged with some of the most scandal-ridden chains of for-profit colleges, such as Career Education Corporation and Corinthian Colleges. Under these Orwellian-sounding "opportunity pool" or "recourse loan" arrangements, Sallie Mae agreed to provide funds for private student loans, with interest rates and fees totaling more than 20 percent per year, to financially-needy students who normally wouldn't qualify for them because of their subprime credit scores. Sallie Mae apparently viewed these loans as "loss leaders," meaning that the company was willing to make these loans, many of which were likely to go into default, in exchange for becoming the exclusive provider of federal and private loans for the tens of thousands of subprime and non-subprime students these huge chains serve.

Sallie Mae is facing a potential series of class action lawsuits from angry investors who believe the student loan giant misled them about the amount of risk the company was taking on in pushing high-cost private loans on subprime borrowers attending poor-performing trade schools.

Sallie Mae is already facing at least one class action lawsuit filed by shareholders in the Federal District Court in Southern New York, and company officials have alerted the Securities & Exchange Commission that they expect "similar actions" to be filed elsewhere shortly. The pending New York lawsuit accuses Sallie Mae of failing to "engage in proper due diligence" before providing private loans to high-risk students at for-profit, trade schools; of deliberately not putting enough money in reserve to cover anticipated losses on "uncollectible loans" in order to artificially boost earnings; and of making "false and misleading statements" to shareholders about the overall quality of its private loan portfolio to keep its stock price high.

Officials at Sallie Mae have not yet filed a formal response to these claims. But actions that the loan giant has taken recently appear to boost the shareholders' case. In January, the company, reeling from the news that it was spending hundreds of millions of dollars to cover losses on bad loans, announced that it would no longer engage in subprime lending at trade schools. "Sallie Mae has lent too much money to students who have gone to schools without very good graduation rates," Al Lord, the company's Chief Executive Officer, said at the time. In court, that's called a statement against interest.

The Los Angeles Times recently provided a disturbing example of how some for-profit trade schools like Corinthian Colleges have been pushing subprime, high-risk students to assume heavy levels of debt that they may never be able to repay. In an article on the credit crunch, the LA Times quoted a 20 year old student, with a 10 month old baby, who is taking classes at Everest College in West Los Angeles to become a medical assistant. To pay for an eight week course at the Corinthian-owned school, this student has had to take out an $8,000 private loan with an 8 percent interest rate. The student, and several friends with similar loans, told the newspaper "that they knew that repayment would be difficult on the $9 an hour or so they expected to earn if they got jobs." The course, they said, gave them "75% to 90% of what they need to get and keep a job."

Pennsylvania Attorney General Tom Corbett's decision last week to reach a $200,000 settlement agreement with the for-profit trade school chain Career Education Corporation over allegations that one of its schools had duped students into taking high-cost private student loans has come under withering criticism. At Higher Ed Watch, we believe that criticism is well deserved, as the settlement provides no relief for the former students who appear to have been misled into taking out expensive private student loans, and will do nothing to protect students at the scandal-ridden chain's other colleges who may be falling victim to similar deceptive practices.

Over the last several months, the student loan industry and its allies on Capitol Hill have led a campaign to persuade the news media and policymakers that Congress went too far last year when it cut taxpayer subsidies to lenders that participate in the Federal Family Education Loan (FFEL) program. The lenders and their friends argue that the subsidy cuts and tightening credit markets now are leaving students in jeopardy of losing access to federally guaranteed student loans. Don't believe it.

Last week, we argued that Sallie Mae's decision to stop engaging in subprime student lending at some of the most scandal-ridden chains of for-profit colleges is good news for low income and working class students, not bad. Disadvantaged students with poor credit ratings should never have been stuck with high-cost private student loans, particularly ones with interest rates and fees exceeding 20 percent.

[slideshow]The Career College Association, which lobbies on behalf of these proprietary school chains, disagrees with our assessment. The group's leaders say the move by Sallie Mae and some other lenders to stop providing subprime loans to high-risk students at the schools it represents will "foreclose access to higher education for thousands of borrowers."

"Our member institutions tell us that many lenders have stopped subprime student lending and may stop private lending altogether," Harris Miller, the association's president, wrote in a news release. "Their retreat may leave many students unable to finance the balance of their educations."

PHEAA May Pay $15 Million For 9.5% Loan Payments

The Department of Education has asked the Pennsylvania Higher Education Assistance Agency (PHEAA), one of the country's largest nonprofit student loan providers, to repay as much as $15 million in federal payments it improperly obtained by exploiting a subsidy program that guaranteed loan providers a 9.5 percent rate of return on government-backed student loans. The request comes two months after an audit by the Department’s own Inspector General found that PHEAA had improperly obtained $34 million in subsidy payments. The Department rejected these findings and suggested the $15 million price tag but is ultimately letting PHEAA decide how much it has to repay. A PHEAA spokesman suggested to The New York Times that the lender may end up with "zero liability." PHEAA is the first party in the 9.5 scandal to be held financialy accountable for its actions. In 2006 another lender, Nelnet, was caught with $278 in improperly obtained Department funds.