Student Loan Servicing Standards: Should the Government Look to Other Markets to Better Protect Student Borrowers?

• Author: Wegner, Ted

1. INTRODUCTION II. BACKGROUND A. Student Loan Servicing B. Common Problems with Servicers 1. Repayment Options 2. Choice of Servicer 3. Forbearance 4. Servicer Transfers 5. Customer Service C. Current Enforcement and Relief III. ANALYSIS A. RESPA and Potential Regulation from the Real Estate Market 1. Nipping Problematic Loans in the Bud 2. Dealing with Transfer Problems B. Looking to the Credit Card Market IV. RECOMMENDATION A. Lessons from the Mortgage Market B. Applicability of the Credit Card Market to the Student Loan Servicing Marketplace C. Aligning Incentives D. Implementation V. CONCLUSION I. INTRODUCTION

   Student loan debt is quickly becoming a problem of great national concern. More than 40 million borrowers owe a collective $1.2 trillion in outstanding debt. (1) Student loan debt is now the second largest consumer debt market in the United States. (2) College graduates saddled with high amounts of debt are putting off major life decisions while they struggle to pay it off. (3) Homeownership by Americans under the age of 35 has gone from 43.3% in the first quarter of 2005 to 34.6% in the first quarter of 2015. (4) The median age for a first birth, rising steadily in the past decade, is now at 26, and the birth rate among women 20 to 29 is at an all-time high. (5) Many students with debt are also feeling the pressure to enter high paying jobs while passing up opportunities in the public interest sector. (6) Recent graduates may also feel pressure to forgo starting their own businesses or working for a start-up company in favor of a safer opportunity elsewhere. (7) Because the government owns or guarantees a large portion of student debt, there is not as high a chance of systematic risk to the economy, but the possibility that the high amount of debt will create economic drag is very real. (8) It seems clear that the student loan crisis shows no signs of being averted anytime soon.

   This Note will focus on one specific component of the student loan debt market: student loan servicers. Student loan servicers are the crucial link between the borrower and the lender. Servicers are the ones who manage borrower accounts, process payments, and speak directly with the borrower. (9) Borrowers must turn to their servicers if they are having trouble making payments on their loans. (10) It is easy to see why servicers are a crucial part of the student loan debt market. Unfortunately, many students experience great frustration with their servicers. Worse, some borrowers are not aware of who their servicer is or to what repayment options they might be entitled. (11) These types of problems can lead to missed payments and even default, exacerbating the student loan crisis described above.

   In Part II, this Note will detail the many frustrations student borrowers have when dealing with student loan servicers. Part III of this Note will compare the student loan debt market to the mortgage and credit card markets. Both of those markets have pre-existing regulations on servicers. Lastly, in Part IV, this Note will recommend that some of the regulations from the credit card and mortgage market can be successfully adopted in the student loan market.

2. BACKGROUND

   There are about 41 million Americans who owe student loan debt. (12) The student loan market is primarily made up of three types of loans. The first type is federally backed loans made by private lenders through the Federal Family Education Loan Program (FFELP). (13) This program was discontinued in 2010, but there remains over $350 billion still owed from these types of loans. (14) The second category of loans, replacing the FFELP, are loans distributed by the Department of Education's Direct Loan Program. (15) The most common type of loan within this category is the Stafford loan. There are subsidized and unsubsidized Stafford loans. The key difference is that subsidized Stafford loans are awarded on the basis of financial need, and no interest accrues when borrowers are in an authorized deferment period--typically when a borrower is attending school. (16)

   Students can also obtain a PLUS loan through the Direct Loan Program. (17) Parents and graduate students can take out PLUS loans to supplement their Stafford loans. Because of this, PLUS borrowers often carry high balances. (18)

   The final student loan category is private loans. Because the government has less regulatory power over these types of loans, this Note will primarily focus on FFELP, Stafford, and Direct PLUS loans. (19) Another type of loan to be aware of is the Perkins Loan. The Perkins Loan Program is intended to serve undergraduate and postgraduate students who demonstrate exceptional financial need. (20) Because of its relatively small size, the program has more generous repayment requirements for borrowers. (21) However, the future of the Perkins Loan Program is currently uncertain as legislators debate its financial practicality. (22) In December 2015, the program was extended for two years, but the author of the extension characterized it as a "managed shutdown." (23) Still, supporters of the Perkins program are hopeful that it can be continued past the recent two-year extension. (24)

   1. Student Loan Servicing

      From 1994 to 2008, the U.S. Department of Education used only one company to service loans backed by the government: ACS (or Xerox).25 This model was phased out along with the FFELP starting in 2009 when the Department contracted with four companies to service nearly all federally backed student loans. (26) The four servicers-referred to as Title IV additional servicers (TIVAS)--are: Great Lakes Educational Loan Services, Nelnet, FedLoan Servicing, and Sallie Mae (now Navient). (27) The original contracts were for five years, but the Department of Education has since exercised an option to extend the contract with all four companies for another five years. (28) However, the government retains the right to add additional servicers or terminate any of the contracts at will. (29)

      To the frustration of many borrowers, those enrolled in either the Stafford or Direct PLUS program are not allowed to choose or switch their servicer. (30) However, since 2014, a new system was phased in that allows borrowers to choose their servicer when consolidating loans. (31) Still, no mechanism exists for allowing borrowers to choose their servicer before they begin repayment.

      Because the borrowers do not choose their servicers, the government uses a metrics based performance evaluation system to assign servicers to borrowers and assess their overall performance. (32) Among the criteria the government considers are: customer satisfaction, percentage of borrowers in default, percentage of borrowers in repayment status, and the percentage of borrowers who are more than 90 days delinquent but less than 271 days delinquent of their loans. (33) When the Department of Education renewed the TIVAS contracts in 2014, it introduced a new metric that more aggressively reduces assignments for servicers when loans under their watch go into delinquency. (34) The new contract also specifies that the allocations to new borrowers (based on the metrics system) will be done twice a year instead of once, and that the surveys of schools and number of loans in delinquency will be done four times a year. (35) Despite these changes in the new contracts, there are still concerns that the new terms only address incentives for the servicers and not protections for borrowers. (36) The Department of Education maintains that the performance metrics system is the best way to allocate and evaluate the servicers. Still, questions persist about how reliable the system is--both in gauging borrower satisfaction and assessing optimal servicer performance. (37)

      An interesting provision of Perkins loans is that they have special servicing requirements. (38) It is important to note that the TIVAS do not service the Perkins loans. (39) Instead, the participating schools grant and service the loans to students with a contribution from the government. (40) As a result, the government has more latitude in requiring certain due diligence provisions. These include requirements like keeping the borrower aware of any changes to her loan, responding promptly to borrower inquiries, and providing additional information in the event of a dispute over the terms of the loan. (41) There are also billing and collection requirements in addition to mandatory communications to alert the borrower of her repayment plan. (42) In sum, these requirements to the school/servicers represent an interesting contrast to the relatively lax standards the TIVAS are held under.

   2. Common Problems with Servicers

      In May of 2015, the Consumer Financial Protection Bureau (CFPB) issued a Request for Public Information Regarding Student Loan Servicing in an attempt to survey the current servicing landscape and to study whether additional safeguards need to be put in place. (43) The request yielded over 30,000 responses from borrowers, membership organizations, state attorney generals, servicing companies, trade groups, and others. (44) These responses identified several areas of concern in the student loan servicing market. (45) These areas of concern, both from the lens of the borrower and servicer, will lay the foundation for the analysis and recommendations offered later in this Note.

      1. Repayment Options

         It is critical that student borrowers be made aware of the various repayment plans they are entitled to as a result of their federally backed loans. If they are not, they may wrongly think they are locked into an unsustainable repayment plan, increasing the likelihood of default. (46) A servicer noted the increasing complexity and rising number of repayment options that complicate servicers' ability to adequately inform borrowers of their options. (47) Still, many borrowers complain that servicers steer them to repayment options that are more beneficial to the servicer...