Feds Overhaul Servicing Contracts

Facing criticism that it doesn't properly oversee the companies managing student loan payments, the Education Department revamps its contracts.

September 2, 2014

The U.S. Department of Education on Friday announced changes to how it pays the companies that manage student loan payments, responding to growing criticism that its oversight of those companies is inadequate.

Officials have renegotiated the government’s contracts with the four main loan servicers, which together collect payments for tens of millions of federal student loan borrowers.

The servicers will now also receive bonuses for reducing the delinquency rates of their borrowers. And borrower feedback will figure more prominently into the formula that dictates how many new accounts the servicers receive each quarter.

The revamped agreements are aimed at creating better incentives for the companies to provide good customer service and make sure that borrowers are repaying their loans on time. Some critics have said that the companies aren't doing enough to help struggling borrowers. The department also said it would explore additional changes to the federal direct loan program and pledged to solicit suggestions from student borrowers.

“All hard-working students and families deserve high-quality support from their federal loan servicer, and we are continuing to take steps to make sure that is the case,” Education Secretary Arne Duncan said in a statement.

The changes to loan servicing, which department officials first teased earlier this year, are the most drastic in the five years since the department began originating all federal student loans.

The department may also hope that the changes help reset its relationship with a chorus of student, labor and consumer groups that have grown increasingly frustrated with how the department has administrated the federal direct loan program in recent years.

Some of the sharpest criticism of the department has come from student advocates, consumer groups, unions and Senate Democrats, all of whom are pleased that the federal government, rather than banks, now originates the vast majority of student loans. But, they say, the department hasn’t done a good enough job of prodding its contracted servicers to help struggling borrowers.

Officials at the Consumer Financial Protection Bureau and Treasury Department  have also raised concerns about the quality of the department’s loan servicing.

Students and consumer groups have been especially critical of the department’s relationship with its largest servicer, Navient, the former loan-servicing unit of Sallie Mae that is now a separate company.

Navient and Sallie Mae reached a multimillion-dollar settlement earlier this year with federal prosecutors to settle allegations that it had overcharged military service members on their loans.

“It's nice that they're making these changes to loan servicing but we fell like the department hasn’t adequately dealt with the Navient settlement from May,” said Maxwell John Love, president of the United States Student Association.  

Love said that in light of the allegations made against Navient, it’s unacceptable for the company to continue receiving any loan volume and to be a finalist for another department contract involving the origination of federal student loans.

The department’s Office of Federal Student Aid is reviewing all of its servicers for past compliance with the federal law that gives loan benefits to active-duty service members. Navient did not admit wrongdoing in its settlement with the government earlier this year. It has touted the fact that its default rate is among the lowest of the four loan servicing companies.

Deanne Loonin, a staff attorney at the National Consumer Law Center, which represents low-income student loan borrowers, said that Friday’s changes were “a step in the right direction” for the Education Department.

“There are a lot of positives here,” she said. “The department and administration do seem to have recognized the need to improve loan servicing.”

For example, she praised the inclusion of performance metrics that include delinquency rates rather than just the “cliff of default.” Borrowers can be struggling to repay their loans for more than a year before they actually trigger a default. 

Still, Loonin said, the department should do much more to protect borrowers. She said that the loan servicers should be evaluated based on objective metrics of performance, rather than relative to each other. In addition, Loonin said, the department should move away from customer satisfaction surveys because they are not a useful metric for how well servicers are actually keeping borrowers’ loans in good standing. 

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