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The Chronicle of Higher Education
Friday, March 8, 2002



Bush Administration Supports Direct Lending, at Least for Now, Education Official Says
By STEPHEN BURD

Baltimore

A Bush-administration official said on Thursday that the White House has no plans to dismantle the direct-student-loan program. However, that official -- Jeffrey Andrade, a higher-education adviser at the department -- said he could not guarantee that the administration would continue to support the program when the law that authorizes it expires next year.

During a session on student-loan policy at an Education Department meeting here on student aid, Mr. Andrade told college officials that the administration has no preference for either the direct-loan program or the competing guaranteed-loan program, one over the other. Direct lending is a federal program that since 1994 has provided loans directly to students through their colleges, eliminating the role of banks and guarantee agencies in the process. The program was championed by the Clinton administration, but Republican lawmakers frequently took steps to undermine it, and many direct-loan supporters have predicted that a Republican administration would kill it.

"What we have tried to do is be evenhanded, and I think we've promoted the idea that what program you decide to be in is the school's choice," he said. "And we're going to do everything we can to make the direct-loan program as efficient as possible to meet your needs."

When asked after the session whether the administration would remain supportive of direct lending next year when Congress begins work on legislation to renew the Higher Education Act, which governs the federal student-aid programs, Mr. Andrade said it was too early to say. "That's a decision the president will have to make," he said.

Such sentiments did little to ease the concerns of supporters of the direct-loan program. For example, they were upset by a decision that Education Department made earlier this year to scrap its annual direct-loan conference and replace it with this conference on student aid, which is open to all financial-aid administrators.

Department officials, however, say they believe that it is inappropriate for the agency to devote a conference to one federal-loan program and not the other. On Wednesday, in welcoming student-aid administrators to the conference, William D. Hansen, deputy secretary of education, said, "Today, we are here together as one community with one purpose, which is further evidence that we are moving away from the war between the direct- and guaranteed-loan programs."

But by eliminating the annual direct-loan conference, the department is putting aid administrators in direct lending at a disadvantage, supporters of the program say. Lenders and student-loan-guarantee agencies hold annual conferences to keep their clients up to date on their latest services and to help them with any problems they are having with their products. At the annual direct-loan conferences, the department provided similar services to aid administrators at colleges in direct lending.

"At those conferences, we had direct-lending schools together in the same room, and we were talking about ways to improve service to our students, and how best to implement new processes, and we were learning from one another," said Rick Eddington-Shipman, director of financial aid at Michigan State University. "There are no sessions like that here."


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What's the difference for students between the direct loan program and the federal guarantee program? The rates are all the same, right? So, the only difference would be in the origination fees, and the who handles the servicing. Some lenders will repay your origination fees if you pay on time, but Direct doesn't.
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What's the difference for students between the direct loan program and the federal guarantee program? The rates are all the same, right? So, the only difference would be in the origination fees, and the who handles the servicing. Some lenders will repay your origination fees if you pay on time, but Direct doesn't.

Not true. The super low interest rates, rebates, automatic debit, and good customer service were virtually non-existent when all the loans were private.
The National Direct Loan program has been a great benefit to students and parents by providing competition to the banks, who had gotten very entrenched and overly comfortable in these programs previously. I know it's hard to believe that a government program would result in increased competition, but it has. SallieMae's "Great Rewards" and other similar programs are a result of this competition.

NelllieD

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[i]Not true. The super low interest rates, rebates, automatic debit, and good customer service were virtually non-existent when all the loans were private.
The National Direct Loan program has been a great benefit to students and parents by providing competition to the banks, who had gotten very entrenched and overly comfortable in these programs previously. I know it's hard to believe that a government program would result in increased competition, but it has. SallieMae's "Great Rewards" and other similar programs are a result of this competition.[/i]

Aren't the interest rates set by the government? They all have the same interest rate, don't they?

It's odd that the Direct Loan program has provided competition, since DL has none of the benefits that the private lenders have. The only promo that DL has done was the 0.8% reduction for consolidation, and that was a temporary thing.
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Aren't the interest rates set by the government? They all have the same interest rate, don't they?

Yes they all have the same interest rate. It's a bit more complex than it seems at first glance.

Before Direct was in the game, the banks had a little cartel on loaning money to students (I'd call it a monopoly, but since there were a number of banks involved, I guess it's a cartel). The rules were set by the government, but because the players were all of the largest banks in the nation, they were able to lobby and control the program to the extent that students were paying above market interest rates. And since this is all under federal regulation and it takes a long time to change any regulations, the banks were very entrenched and had no reason to lower rates or make things better on students. They were making a nice (not huge, but guaranteed) income the way things were. Meanwhile, customer service was getting really bad.

While the banks were making money, schools were finding it increasingly difficult to get loan money into students' hands (high interest rates and bad customer service does not encourage people to borrow money). The banks weren't changing, so the Direct Loan program was created. It started as a pilot program, with only a limited number of schools participating on a voluntary basis. It was very successful and as a result, the program was expanded to (I believe) all schools.


It's odd that the Direct Loan program has provided competition, since DL has none of the benefits that the private lenders have. The only promo that DL has done was the 0.8% reduction for consolidation, and that was a temporary thing.

Not true. Direct offers a .25% reduction for automatic debit payments, and I am pretty certain they were the first to offer this. The .8% reduction for consolidation is a huge benefit and even more importantly, Direct has capped all interest at 8.25%. For people who borrowed under the old rules that had "GSL" rates as high as 12%, this is an unbelievable benefit.

NellieD

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[i]Not true. Direct offers a .25% reduction for automatic debit payments, and I am pretty certain they were the first to offer this.[/i]

Yes, they do offer this, as do most other loan programs that I've seen. What they don't do is refund your origination fee, or give you a 1% interest rate break for on-time payment, which a number of other lenders do. The 0.8% break was a great savings, but unfortunately I didn't get a chance to do that.
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What's the difference for students between the direct loan program and the federal guarantee program? The rates are all the same, right? So, the only difference would be in the origination fees, and the who handles the servicing. Some lenders will repay your origination fees if you pay on time, but Direct doesn't.

The two programs are very similar, and so you are right to question if they aren't in fact "the same".

The Direct Loan program is newer than the Federal Family education laon program. "Direct Loans" was authorized by the 1993 amendments to the Higher Education Act---it was a Clinton Administration initiative, even though he almost traded away having the program because of intense lobbying pressure by (probably) Sallie Mae.

The two loan programs actually have their own separate regulations, too. the FFEL is Part 682 of the relevant Code of Federal Regulations (Title 34), and Direct is Part 685. (You only need to know that if someone tries to apply the wrong regs to your loans--and I've had that happen with the definition of "deferment". It's different in Part 682 and 685.)

You mention about origination fees. It's really more than that. Direct Loans is the U.S. Treasury's own money, (our money really), being lent back to you. FFEL ("Staffords") are some creditor's money (a bank, for example), being lent to you.

Congress sets the rates in both programs, because it's ultimately the U.S. Treasury that has to foot the bill if the creditor doesn't get paid. So they tell the lenders, that if they want to be in the program, they have to adhere to certain rules about fees, rates, etc., or forget about having that nice coverage in the event the student defaults. (They won't be considered part of the program and lose that protection from default.)

Nothing stops a lender from giving a deal better than what Congress outlined, but they have to give at least what Congress says.

The only rates that are the same are the initial rates for Direct and Stafford Loans. Right now they are the sum of the late-May, 90-day T-bill auction rate plus 2.3% (or plus 1.7% in school and grace period.) In the wild world of consolidations, people can end up with many different rates, depending on what gets combined.

That .8% discount so talked about on this board was authorized by Congress. Congress let the Secretary of Education reduce the interest rate by a predetermined amount, representing the "savings" in administering the Direct Loan program. Congress felt that 2.3% was maybe too high an add-on for whatever it takes to administer a student loan (you send out a bill and you collect a check, by and large.) It was very easy for a Democrat Secretary of Education to see how this savings should be granted to the lender, but Republican Secretaries generally have a problem seeing these same things.

The reason you won't see .8% again in the near future is that it ticked off a lot of the private lenders, who want that rate to be as high as they can get away with. If you look at some of my old posts from way back, I go into how the private lender has to make more from you than they pay to whoever they are getting your loan money from. And you know, they have their "costs" to process the loan, so . . .

(With Pennsylvania Higher Education Assistance Agency in the early 1990's, part of those costs was fancy wood paneling in the headquaters' offices, so you see about "costs".)

Given a choice, I would always go with Direct, since it is the program set up for students, not for students (but really for private lenders!). FFEL is the one where the banks make a buck. The Education Department isn't making a buck off Direct.



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Yeah, but go back and look at some of my posts from 2001 about when and if those discounts for paying four straight years, or so, are worth it.

Your discount is never going to be better than the private lender's cost of funds. With Direct, at least people have the shot of getting a rate below the government's own cost of funds.
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The competition came from the fact that, throughout the Clinton Administration, the government was always trying to find innovative ways to make life easier for the student borrower---including lower interest rates.

What you are seeing now only reflects Direct under the Bush Administration.

By the way, in Dokdale's article, it isn't made clear that the Administration can't "just" end Direct. Bush needs the approval of Congress---and the Democrats control one house right now . . .
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It was very easy for a Democrat Secretary of Education to see how this savings should be granted to the lender, but Republican Secretaries generally have a problem seeing these same things.

Good post and hit on some points that I didn't address. But I think in the above sentence you meant to say that it was easy for the Democrat Secretary of Education to see how these savings should be granted to the borrower (not the lender), unless I'm interpreting your post all wrong...

NellieD
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Before Direct was in the game, the banks had a little cartel on loaning money to students (I'd call it a monopoly, but since there were a number of banks involved, I guess it's a cartel). The rules were set by the government, but because the players were all of the largest banks in the nation, they were able to lobby and control the program to the extent that students were paying above market interest rates. And since this is all under federal regulation and it takes a long time to change any regulations, the banks were very entrenched and had no reason to lower rates or make things better on students. They were making a nice (not huge, but guaranteed) income the way things were. Meanwhile, customer service was getting really bad.

It really wasn't either a monopoly or a cartel. The government invited anyone to be a student lender, but, as you say, there were rules. As I have been saying for years now, the lobbyists' views carried a lot of weight, but the reason the rates were high at THAT time had nothing to do with lobbyists. The banks received a fixed interest rate from the government regardless of the direction of interest rates. So you could have a 9% student loan, with market interest rates at that time around 11 or 12% (and T-bills were that high then, hard to believe, at a time when they're 1.79%). The government would send a check for the difference of 11% or 12% and 9%. (The highest GSL ever went was 10% by the way, in the late 1980's. It was 9% from 1983 to about 1988.)

So it didn't matter what the student paid, the bank would get that higher rate.

It was the Reagan Administration who didn't want the students to have a "free ride" by getting subsidized interest. So they insisted that Congress set the rate at some high amount.

Since there had been inflation of 10-13%, a 9% interest rate, even, wasn't too troubling. What happened though, is that inflation fell to the 3% range, and the 9% stayed. And when Congress then tried to send that rate down, by then the lenders were fat and happy and insisted on the higher rates.

The customer service I experienced in the 1980's really wasn't that bad. My local bank lent to me under "GSL", and the check always got there. It was the Reagan Administration that insisted it come in two parts, with fees deducted.

While the banks were making money, schools were finding it increasingly difficult to get loan money into students' hands (high interest rates and bad customer service does not encourage people to borrow money). The banks weren't changing, so the Direct Loan program was created. It started as a pilot program, with only a limited number of schools participating on a voluntary basis. It was very successful and as a result, the program was expanded to (I believe) all schools.

What happened was the students stopped wanting to take out these loans (or didn't qualify because of ever-tighter restrictions). The schools started getting upset, because "there goes their lifeline to Sugar Daddy" (students--->loans----->cash money------>school treasury). Meanwhile, there was a recession in the early 1990's, and the private lenders started charging off the loans, boom, at 6 months. So the feds were ending up with tons of defaulted loans, and fewer "takers" for new loans were pissing off the colleges. So Direct Loans was created. The pilot program you refer to was actually an "income contingent" repayment program that was tested in the Bush Administration (the other Bush).

In 1993, there was only funding for 10% of the colleges to be in Direct Loans, and that was to expand to 100% by 1998. The lobbyists I've mentioned fought that idea tooth and nail, and it inevitably became a "voluntary" program for whichever schools sought to join. From Dokdale's article, it's clear that a number of schools did join and look forward to conferences on Direct Loan issues.

"It's odd that the Direct Loan program has provided competition, since DL has none of the benefits that the private lenders have. The only promo that DL has done was the 0.8% reduction for consolidation, and that was a temporary thing."

Not true. Direct offers a .25% reduction for automatic debit payments, and I am pretty certain they were the first to offer this. The .8% reduction for consolidation is a huge benefit and even more importantly, Direct has capped all interest at 8.25%. For people who borrowed under the old rules that had "GSL" rates as high as 12%, this is an unbelievable benefit.


I answered this somewhere else, but it's Congress that sets the interest rates in the FFEL ("Stafford"/old "GSL") and Direct programs. The .8% discount was permitted by Congress and the current Secretary has the power to offer another such discount, but suddenly this Secretary doesn't see the same kinds of "savings" in administration to favor student borrowers. (It's back to the "bad old days" of Republican Administration in some ways, I suppose.) Congress caps the interest rate at 8.25%.

(That's where I saw it: "GSL" rates never got higher than 10%.)

None of these are "market rates" by the way. Lending unsecured to students, you'd have rates as high as credit cards. The fact that the government comes in an expressly assumes the risk of default allows interest rates as low as they are. These only look like "market rates" because of how low rates are these past couple of months. But try and get your bank to lend to you, unsecured, even today, at 8.25% . . .


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You're right. I had seen that, but there's no edit feature on these. So that one has to sit as one of my "oops" ones.
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[i]Yeah, but go back and look at some of my posts from 2001 about when and if those discounts for paying four straight years, or so, are worth it.[/i]

I don't get it. I always pay me bill on time. What's the difference between paying the bill on time and getting a discount, and payin my bill on time and not getting a discount?

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I don't get it. I always pay me bill on time. What's the difference between paying the bill on time and getting a discount, and payin my bill on time and not getting a discount?

This goes to the situation last summer. Sallie Mae and one other outfit out there (at least one) were offering discounts on the interest rate for loans, AFTER a number of years of "timely payment". Direct was offering 80 basis points off, starting right at Month 1 (I think Sallie's so-called "Great Rewards" program started in Month 49 of the loan.

It turned out that getting a discount immediately was better than waiting years for another discount (even if the % rate was better).

You're right: right now Direct isn't offering any kind of discount. So if a private lender will cut you one, you may be better off (unless Congress decides to grant an overall benefit in the Direct Loan program, which is unlikely now but can't entirely be ruled out, since it is technically a "different" program.)

Just understand what the terms are of any "deal" these mass consolidators are offering. Although it pays for many people with variable rate loans to wait to July to consolidate, these wannabe-consolidator "friends" are already pitching the offer to lock them into 6.79% (less a discount), when it looks like the July rate could be in the 4's or 5's.

I don't know whold at to say about old posts. I'm sure the Fool Boards have plenty of "ENE recommends" (ENE having been the symbol for Enron) that look very embarrassing here in the future.
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The highest GSL ever went was 10% by the way, in the late 1980's. It was 9% from 1983 to about 1988

It seems I remember loans with a 10/12% interest rate that went up to the higher rate after a few years. They may have been SLS or PLUS loans...it's been a while.

And when Congress then tried to send that rate down, by then the lenders were fat and happy and insisted on the higher rates.

That's what I meant about them lobbying hard to keep things as they were.

The customer service I experienced in the 1980's really wasn't that bad. My local bank lent to me under "GSL", and the check always got there. It was the Reagan Administration that insisted it come in two parts, with fees deducted.

You're lucky. I personally had an okay experience with my 80's GSL too, but when I was working at a school during the 90's it was pretty bad. Many people were receiving horrible customer service from their banks and servicers, and some banks were selling loans to really bad servicers while students were still in school. It resulted in a lot of extra paperwork, a lot of hassles, students with no cash because their loan disbursements were delayed, and people in repayment having all sorts of problems with their servicers and unable to get their loans combined (not consolidated) for one payment. It got pretty ugly at times. Direct Loans simplified a lot of the process by providing one organization that had responsibility for disbursement, servicing and consolidation of loans.

I think the multiple disbursements is a good thing. If people don't make it through the whole school year, they really shouldn't get the whole year's worth of loan. Plus, if they return to school, they can re-borrow the disbursements they never received. It does help people manage their debt a little better.

None of these are "market rates" by the way. Lending unsecured to students, you'd have rates as high as credit cards. The fact that the government comes in an expressly assumes the risk of default allows interest rates as low as they are. These only look like "market rates" because of how low rates are these past couple of months. But try and get your bank to lend to you, unsecured, even today, at 8.25% .

The guarantee for the loan is supposed to be a benefit for the student, not the bank. If I can get a mortgage from a bank at 6.75%, I should be able to get a student loan for roughly the same amount. Because of the government guarantee, this is a totally secured loan as far as the bank is concerned. They have no risk at all, even less than a mortgage because they don't have to do anything. They just wait six months, then turn it over to the Feds. So banks could afford to charge as little or less than they charge on a mortgage. But the regulations allow them to charge more, and they are charging more than the "market rate" for a secured loan.

NellieD
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Another cost is the USA Group head (chairman I think) buying that 5 million dollar home near Indianapolis last year.

Good to know my Sallie Mae interest payments (which USA Group owns/controls) are going to be used to finance other students, or help keep origination costs down. Oh wait, that's the Direct Loan program.

and then there's Bankruptcy reform, where your student loans are going to be considered "priority" loans, which means that they will not be counted in your debt load if you want to go bankrupt to deal with other debt.
Heck, if students could avoid paying student loans for all eternity, they wouldn't need bankruptcy in the first place.

Someone once described student loans as a financial blight (it might have have been the author of "The Millionare Next Door"). I definitely agree.
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Someone once described student loans as a financial blight (it might have have been the author of "The Millionare Next Door"). I definitely agree.

It sounds like it could be Stanley or Denko (I think there were two on that book - I misplaced my copy!) You are so right that the whole program should be suspect, when you reallllly look at it. Any number of these colleges have some useless administrators lying around (six figure ones). I bet if they really cut out the fat, they wouldn't need to charge the tuition money represented by the loans . . .
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I think the multiple disbursements is a good thing. If people don't make it through the whole school year, they really shouldn't get the whole year's worth of loan. Plus, if they return to school, they can re-borrow the disbursements they never received. It does help people manage their debt a little better.

Who's to say that a loan award should apply a portion to each part of the year? In the 1970's, a loan award was an award for the whole academic year--and you got the money up front. Then again, all the loans were subsidized, so it didn't matter when the interest clock started ticking--'cause it didn't.

I've heard horror stories about schools sitting on or misplacing the second check, all the while the interest clock was ticking. I hardly see it "helping people managing their debt a little better". It's more like hassling people about the items that are in their financial aid package . . .

The guarantee for the loan is supposed to be a benefit for the student, not the bank. If I can get a mortgage from a bank at 6.75%, I should be able to get a student loan for roughly the same amount. Because of the government guarantee, this is a totally secured loan as far as the bank is concerned. They have no risk at all, even less than a mortgage because they don't have to do anything.

What the student has is an "entitlement" (like social security, an amount already budgeted for qualified individuals), not a guarantee. The guarantee is the government's guarantee to the creditor. The student was never guaranteed the student loan, even when Staffords were called "Guaranteed Student Loans (GSL)". A relative of mine couldn't get one; allegedly he had too much family income to qualify. Some guarantee.

Secured or no, the default rate on student loans is significantly higher than those on mortgages. It is only because of the government's assurance that the creditor will get paid that the student loan rates even approach those of today's mortgages. And that's only in today's bizzaro world of super-low interest rates. In the 1970's and even '80's, student loans were routinely lower than the standard mortgage rate. The government was always willing to make up the difference between a market rate and the subsidized rate attached to student loans. So the two really have different histories . . .

But the regulations allow them to charge more, and they are charging more than the "market rate" for a secured loan.

When I took out my first GSL, it was 9% and mortgages were about 13%. So regulations had them charging me much less (and getting the government to send the 4% difference their way no less.) So these have always been a highly subsidized product, not dependent on the market. As I've said, if the government guarantee were not there, the rates on these things would be out of this world.

They just wait six months, then turn it over to the Feds. So banks could afford to charge as little or less than they charge on a mortgage. But the regulations allow them to charge more, and they are charging more than the "market rate" for a secured loan.

Because at the time the regulations were written, the "cap" was really a subsidized rate (8.25% in a world of 10% mortgages.) All what you are saying argues that the cap on student loans should be somewhere in the neighborhood of 5%, with the government making up the difference---just like it did in the 1970's and '80's.

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