Suing Student Loan Servicers

In a decision hailed by consumer advocates, a federal appeals court rules that a major student loan agency is not immune from lawsuits.

October 22, 2015

Student loan borrowers and others will be able to sue a national student loan corporation after a federal appeals court said Wednesday that the corporation’s affiliation with a state government does not shield it from lawsuits.

The U.S. Court of Appeals for the Fourth Circuit ruled that the Pennsylvania Higher Education Assistance Agency, or PHEAA, is not an “arm of the state,” and therefore is not immune from lawsuits.

Consumer advocates praised the decision as a win for student loan borrowers because they would be allowed to hold PHEAA accountable for its actions in court.

PHEAA, which also operates under the names American Education Services and FedLoan Servicing, manages the student loan accounts for millions of borrowers across the country. The agency reported in 2014 that it serviced a total of $287 billion worth of loans. It is also one of the U.S. Department of Education’s four major servicers, managing the accounts of more than eight million federal borrowers as of this past summer.

The court ruled that even though PHEAA was established by Pennsylvania, it is not an “arm of the state” because it is financially independent of the state, generates its own commercial revenue, and makes its own fiscal and policy decisions.

Keith New, a spokesman for PHEAA, said the agency is reviewing the decision and declined to comment further.

The ruling by the appeals court immediately allows two pending lawsuits against PHEAA to move ahead.

One is a longstanding whistle-blower lawsuit that accused PHEAA and a handful of other student lenders of illegally inflating their loan portfolios to obtain higher subsidies from the federal government.

The False Claims Act case was brought in 2006 by Jon H. Oberg, a former Education Department researcher, who alleged that the lenders profited off a loophole in federal law, illegally collecting hundreds of millions of dollars from the government.

Oberg’s revelations sparked student lending reforms in Congress. The other lenders and entities involved in the case have since settled, but not PHEAA, which maintained that its status as a state entity shielded it from the lawsuit. (Wednesday was the third time the Fourth Circuit reviewed Oberg’s case and ruled that it could continue.)

A second case that will now move forward against PHEAA involves a Virginia man who sued the agency under the Fair Credit Reporting Act for refusing to remove information he said was erroneous from his credit reports. The man, Lee Pele, claims that PHEAA incorrectly dinged his credit reports for a default on a loan that was not his. The agency’s error, he says, resulted in him being denied a mortgage loan and having other credit problems.

The appeals court did not rule on the merits of either the Oberg’s whistle-blower case or the inaccurate credit reporting case. It sent both cases back to a lower court for further proceedings.

Still, Scott Michelman, a staff attorney at Public Citizen, the consumer advocacy group that represented Pele, said the appeals court's decision that PHEAA is not immune from lawsuits has significant implications.

“This decision is really beneficial for consumers,” he said. “It ensures that this major student lender can be held accountable in court.”

In addition, the ruling could have implications for other state-created and state-affiliated student loan agencies across the country, Michelman said.

“Although the decision only applies by its terms to itself, there are a number of other state-associated student lending entities that are major players in the student loan industry,” Michelman said. “This decision might persuade other courts dealing with similar arrangements to treat other state-associated student lending entities similarly.”

Many of those entities for years made their own loans and insured federally backed student loans under the old bank-based lending system. And now some are fighting for a greater share of the federal loan servicing business from the federal government. Others are expanding into new markets.


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