U.S. Offers Loan Reforms of Its Own

June 4, 2007

The Bush administration formally added its voice Friday to the chorus of state and federal lawmakers proposing toughened enforcement of the student loan industry, contributing another layer of inevitability to the prospect that lenders and college financial aid officials will have to change their behavior and their relationships with each other.

The set of proposed rules released by the U.S. Education Department Friday differ in a few key ways from various proposals put forward by members of Congress (of both parties) and promoted by the attorney general of New York (the latter enacted into law by the New York Legislature).

But in the big picture, the overlap among the substance of the various proposals is significant -- offering a relatively clear indication of how the operating guidelines for the industry are likely to change over the coming months and years.

All of the proposals would bar gifts of anything of more than nominal value from lenders to financial aid officers; all but New York's law would require colleges' lists of preferred lenders to contain at least three unaffiliated loan providers; and all would require significantly more disclosure to students about their rights as borrowers. (A handy list comparing the various proposals is available on the Web site of the Project on Student Debt.)

The Education Department's new rules are noteworthy in that they represent a formal shift in what has heretofore been criticized as the Bush administration's largely laissez-faire approach to possible conflicts of interest and inducements in the student loan programs.

But while the department's proposed rules signal a willingness to regulate the industry more aggressively, several observers said, their potential significance is blunted by the fact that the agency is doing so only in the face of significant external pressure from Congress and after cascading waves of revelations and allegations about questionable behavior by lenders, college aid administrators and some of the department's own officials.

"This has the feel of a dated document that has been overtaken by events," said Luke Swarthout, higher education advocate for the U.S. Public Interest Research Group, who was an alternate member of a negotiating panel that the department established last fall to contemplate changes to federal rules governing the loan programs. "If they'd done something four years ago, or a year ago, or even six months ago, they might have had a lot of influence over this process. But the contours of this debate have in many ways moved beyond the Department of Education."

The House has already passed a version of the Student Loan Sunshine Act, and the Senate is expected to include similar restrictions on lender-college relationships in the Higher Education Act legislation that it could mark up as soon as next week (though action on the bill has been postponed several times already). And not only has Cuomo's code of conduct been enacted into law by the New York Legislature, but its embrace by groups like the National Association of Student Financial Aid Administrators means that the principles and practices it dictates could take root on many if not most college campuses almost immediately.

In repeated public statements, and in testimony before Congress, department officials have sought to combat the perception that they have failed to oversee the loan programs and have argued that they have moved as aggressively as they could to toughen rules that would broaden their oversight authority.

They have noted, for instance, that they initiated the negotiating process for student loan rules last August, long before the current loan scandal broke (though after, critics are quick to note, Sen. Edward M. Kennedy of Massachusetts indicated his plans to introduce the Student Loan Sunshine Act to force the department into greater oversight of the loan programs). And they have pointed out that many of the allegations of wrongdoing that have unfolded in recent weeks have surrounded private (non-federal) loans, over which the department does not have authority under current federal law.

The new rules announced by the department, which will be published in the Federal Register this week but were posted to the department's Web site for the "convenience of the public" on Friday, are the formal product of the months-long negotiating process that the department initiated last fall to consider changes in federal student loan regulations. When that negotiating process collapsed without the participants having reached agreement on a set of possible rules it considered at its last meeting in April, Education Secretary Margaret Spellings appointed an internal working group to propose such a package of regulations.

The 225-page proposed regulations that resulted deal with a broad range of loan issues, including such arcane ones as when a photocopy of a death certificate can be used to win a borrower's discharge from his or her loan obligations. But the guts of the rules are the provisions related to prohibited payments and other inducements from lenders and loan-guarantee agencies to college officials and limits on colleges' use of preferred lists of lenders.

Like the draft regulatory language that the department put before the members of the negotiating committee in April, the proposed rules released Friday would require colleges’ lists of preferred lenders to contain at least three providers, and to bar from such lists any lender who has offered financial benefits in exchange for inclusion. The rules also require colleges to disclose the criteria they have used to select lenders on the list, and to make clear that borrowers have a right to select any lender they wish.

The rules would also prohibit lenders in the guaranteed loan program from offering payments, interest rate reductions, or other inducements to colleges in exchange for loan volume, and likewise prohibits them from providing benefits, including conference attendance or transportation, to college officials.

The new rules are markedly tougher than the department’s earlier language was, according to a comparison done by Mark Kantrowitz, founder of Finaid.com. The proposed rules released Friday would prohibit staffing of financial aid offices by lenders or guarantee agencies except on an "emergency, non-recurring basis," for instance, and assume that a gift from a lender to a college or financial aid official is inappropriately tied to loan volume unless the lender or college is able to show that it isn't.

And unlike the earlier language contemplated by the department, the proposed rules would insist that the lenders on a college’s preferred list be unaffiliated with one another, Kantrowitz said.

But he and others noted several ways in which the department’s proposed rules, even as they grew somewhat more restrictive, would continue to be less restrictive than the changes sought by the Student Loan Sunshine Act and other legislation under consideration in Congress and by the code of conduct that Cuomo has promulgated and numerous lenders, colleges and groups, including the National Association of Student Financial Aid Administrators, have embraced.

The department’s rules would continue to allow college officials to participate on lenders’ advisory boards, for example, and would permit lenders to make philanthropic contributions to colleges as long as they were not clearly in exchange for a share of the institutions’ loan volume, said Robert Shireman, executive director of the Project on Student Debt.

And the department's rules would continue to allow lenders to reimburse college officials for travel and lodging to training sessions or "service facility tours." Kantrowitz described the latter, particularly, as "nothing more than a junket."

Reaction to the new regulations from the department's Congressional critics was as expected. Rep. George Miller, the California Democrat who heads the House Education and Labor Committee, said he was "pleased that the Department of Education has finally joined us in our efforts to clean up the student loan industry. Given the extent of the corruption within these programs that has been highlighted by ongoing investigations by Congress and by state attorneys general, it is long past time for the department to start acting in the best interests of students and their families.” Kennedy, the Massachusetts Democratic senator, offered a gentler response, welcoming the development as "movement forward."

Once the proposed regulations appear in the Federal Register, a 60-day comment period will ensue. That would presumably result in the department issuing final regulations in November, to take effect next July, but Kantrowitz and others speculate that it is conceivable that the external pressure could lead the department to put them into effect immediately.

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