Rohit Chopra, Senior Fellow at the Center for American Progress, testified prior to the US Congress Joint Economic Committee on September 30, 2015. Below is his declaration.
Chairman Coats, Ranking Member Maloney, and members of the committee, thank you for holding this hearing today.
I am currently a Senior Fellow at the Center for American Progress. I just recently departed as assistant director of the Customer Financial Protection Bureau, CFPB, where I led the agency’s work on student financial services. I also acted as the CFPB’s first student loan ombudsman, a brand-new position established by Congress. My remarks today are my own and do not represent the views of other individual or company.
The financial crisis has added to a significant increase in student debt in America. In my testament today, I will talk about the chances and obstacles with private capital involvement, including the emergence of new items, such as those that obligate future income. While investigating alternative models of financing greater education through personal capital sources is rewarding, this need to be notified by a careful examination of past problems in the marketplace. The development of brand-new items is a pointer of the requirement to modernize our student loan customer defense framework and guarantee fair competition.
Swelling student financial obligation
This month marks the seventh anniversary of the collapse of Lehman Brothers and the acceleration of the worldwide monetary crisis. Households across the nation saw their house values plunge, their retirement cost savings crater, and their jobs disappear.
While rising tuition is commonly blamed on the development in average student debt held by graduates, the monetary crisis is also a major culprit. With states slashing support for greater education and the crisis damaging trillions of dollars in home wealth, a growing number of families turned to student debt to access college. And in these seven years, student debt has doubled to a total of $1.3 trillion owed by more than 40 million Americans.
Naturally, this does not consist of many other types of financial obligation triggered by the expenditures of going to college. For example, numerous students and their families may get a house equity loan, look for a loan from their retirement fund, or borrow from household and friendsfriends and family. Others drain their cost savings, which leads some to stay afloat by making use ofby utilizing credit cards.
As long as college stays pricey, personal credit items will most likely always belong of the puzzle. In theory, personal capital involvement might supply the marketplace with important cost signals and cause better service. Nevertheless, this has actually usually not been the case in the student loan market in recent history.
Prior to 2010, personal financial institutions came from most student loans under the Federal Household Education Loan Program. Through this program, banks and specialty loan providers such as Sallie Mae offered loans to students subject to an optimal rate of interest. These loans were eventually guaranteed by the federal government. In theory, loan providers might compete against each other by competing on lower interest rates.
Unfortunately, lenders did not vigorously contend on price and instead looked for to acquire market share by pushing schools to position them on the organization’s favored loan provider list. Instead of aggressively bargaining on behalf of students, numerous schools and school officials were clashed.
According to an industrywide examination by New york city LawyerAttorney general of the united states Andrew Cuomo in the mid-2000s, lenders provided payment, gifts, and perks to schools and school officials, provided the financial helpfinancial assistance office’s ability to drive loan volume to particular lenders. The lawyer basicattorney general of the united states found cases where student loan industry executives paid heavy consulting fees and transferred stock to school officials.
By the end of 2007, the 8 biggest lenders in the market– Citibank, Sallie Mae, Nelnet, JPMorgan Chase, Bank of America, Wells Fargo, Wachovia, and College Loan Corporation– had all agreed to a new code of conduct. Lots of paid millions to settle charges of wrongdoing in connection with these practices. In 2008, Congress belatedly limited many of these aggressive practices in the HigherCollege Opportunity Act.
Recent obstacles in the private student loan market
The Financial Crisis Query Commission thoroughly recorded the delayed governing response to problems in the subprime home loan market. Despite years of warnings, the Federal Reserve Board of Governors failed to utilize its authority under the HomeOwn a home and Equity Defense Act to rein in harmful lending practices. As the commission’s report noted, in July 2008, “long after the dangerous nontraditional home mortgage market had disappeared and the Wall Street home loan securitization machine had ground to a stop, the Federal Reserve lastly adopted brand-new guidelines.” The lax oversight of the home mortgage market proved to be catastrophic for the broader economy.
Less widely known is the absence of response by the Federal Reserve Board and other regulators to efficiently police the personal student loan market. In 2004, almost $8 billion in private student loan asset-backed securities were issued. Two years later, more than $16 billion were provided. Comparable to the home mortgage market, the need for these securities sustained a subprime boom. More loans were being marketed straight to customers, and enhancing number of customers did not utilize less costly federal loan options first. Only after the marketplace dried up did the Fed start to address problems through rulemaking.
Considering that the crisis, regulators have actually shown a higher commitment to implementing existing laws. Just recently, personal student loan providers have also faced effects to attend to serious misconduct that hurt student loan borrowers.
Sallie Mae/Navient: Illegal conduct targeting military service members
Last year, the United States Department of Justice bought Sallie Mae and Navient to pay $60 million for offenses of the Servicemembers Civil Relief Act, or SCRA, after recommendations of grievances from the CFPB. The Department of Justice described the business’ conduct as “deliberate, willful, and taken in neglect for the rights of service members.” The accuseds wrongfully conditioned advantages under the SCRA upon requirements not found in the law, poorly advised service members that they need to be deployed to receive advantages under the SCRA, and failed to supply total SCRA relief to service members after having actually been put on notification of these customers’ active responsibility status.
The prohibited conduct of Sallie Mae and Navient damaged almost 78,000 service members. Approximately 74 percent of these refunds are attributable to private student loans. Refunds varied from $10 to more than $100,000. Given the severity of the offenses, the accuseds agreed to proactively query an US Department of Defense database and automatically provide SCRA benefits.
Sallie Mae/Navient: Billing disclosure misrepresentation, prohibited late cost harvesting, discriminatory financing, and electronic funds transfer offenses
In 2014, the Federal Deposit Insurance coverage Corporation purchased Navient to pay restitution and charges of an additional $37 million for allocating borrowers’ payments throughout numerous personal student loans in a manner that optimized late costs and deceived customers about how they might avoid late charges.
The consent order likewise noted violations of the Equal Credit Opportunity Act– which secures borrowers from being discriminated versus due to their race, gender, religious beliefs, and other aspects– in addition to violations of the Electronic Fund Transfer Act, which safeguards customers in the case of erroneous transfer errors.
Discover Financial Solutions: Prohibited student loan-servicing practices, pumped up billing statements, and illegal financial obligation collection practices
Two months ago, the CFPB ordered Discover to pay $18.5 million in fines and charges to around 100,000 victims. Discover acquired nearly all of Citibank’s personal student loan company and kept many of its operating procedures. The CFPB investigation discovered that Discover was pumping up billing statements, illegally called customers early in the morning and late during the night, and took part in other prohibited debt collection conduct.
Other alleged misbehavior in the private student loan market
In 2014, the CFPB sued ITT Educational Solutions for unfair and abusive conduct, including pressing students into taking out high-cost loans. The CFPB also sued Corinthian Colleges for predatory private student loaning and strong-arm financial obligation collection methods in violation of the law. State attorneys general have likewise declared misbehavior relevant to lending abuses.
According to a report evaluating court filings, scientists have raised significant concerns about prospective “robo-signing” in private student loan collection cases. In the years preceeding the financial crisis, banks such as JPMorgan Chase, Bank of America, and People Bank originated personal student loans that were consequently pooled and securitized. In an analysis of court filings associated with the National Collegiate Student Loan Trusts, the report explains that pleadings lacked clear evidence that the complainant actually had the loan in question. These supposed practices bear a close resemblance to the serious breakdowns in the mortgage-servicing market that caused unlawful foreclosures.
Advancements in personal capital involvement
In recent years, business owners have determined a number of unmet requirements in the marketplace. Especially, the variety of offers to refinance high-rate student loans has grown extremely rapidly. They are typically provided to customers who have actually acquired work, so lenders can use current income to underwrite loans. According to the CFPB’s Customer Grievance Database, these carriers have gotten fairly few complaints from customers. This product market is still fairly small and usually serves graduates of four-year organizations who make above-average incomes.
Other market participants have actually offered items that obligate a part of future earnings instead of a common fixed amortization schedule. These items are sometimes referred to as income-share arrangements. In some aspects, income-share agreements may treat among the major pitfalls of personal student loans: the lack of a cost effective repayment option during a sustained duration of hardship. However, similarmuch like other private loans, these products may be very hard to examine and compare considering that future earnings is commonly highly unpredictable.
Many of these new market entrants have been acutely familiar with the need to provide these products in a fair and transparent fashion. After all, if any abuses are discovered during the baby stages of the market’s advancement, future customer need may be seriously reduced.
While most brand-new market entrants have good intentions, sensible guidelines of the road are a critical element to safeguard against bad actors and protect honest, ethical market participants. Market, consumers, and policymakers share a goal in making sure the market is adequately competitive and freedevoid of distortionary conflicts of interest.
Customer protection and competitors
While income-share agreements will likely do little to absolutely nothing to attend to the existing student debt stress affecting our nation, they advise us that it is important to remedy the severe deficiencies in the private student loan market today and to improve the customer security framework so that brand-new market entrants can successfully challenge current incumbents. Congress ought to improve the customer security framework with the following concepts in mind.
1. Terms must be clear and transparent, not buried in the fine print
In 2008, after years of unpleasant practices in the personal student loan market, Congress enacted legislation needing brand-new disclosures. The Federal Reserve Board of Governors implemented these brand-new disclosures in 2010. Unfortunately, these disclosures appeared developed mainly to fit the business model of existing players, mainly big financial organizations, rather than spurring competition that benefits customers.
Income-share agreements offer a specific obstacle because using the existing disclosures would be awkward. For example, any imputed annual percentage rate would need to be based on a future estimated earnings. There would be additional intricacy if the share of earnings committed to payment of the responsibility differed by level of income– for example, 3 percent of the first $25,000 of income, 5 percent of income in between $25,001 and $150,000, and 10 percent of earnings more than $150,000.
Service providers of income-share arrangements must collaborate with regulators on the best ways to use these existing disclosures, possibly with additional info to ensure greater clearness. With time, the CFPB should develop an enhanced e-disclosure program that will offer consumers the capability to compare traditional amortizing products to nontraditional items. This ought to include the ability to compare payment choices made readily availableoffered to customers with federal student loans, in addition to how customers can prepay obligations.
Schools can likewise play an efficient function to ensure accountable lending. For examples, school certification of personal loans– wherein schools accredit that students have unmet requirement– can meaningfully decrease risk. At the very same time, policymakers must also safeguard against school problems of interest. If schools are able to economically gain from relationships with market participants, such plans ought to be completely disclosed and comply with existing law.
2. When servicing and gathering on commitments, consumers need to be dealt with relatively
Regulators have actually discovered patterns of incorrect practices in the servicing and collections process. As kept in mind above, providers have designated payments in methods that optimize charges and distorted billing statements. Securitization and other financier involvement plans can also have unintended repercussions originating from skewed rewards.
Unlike home mortgages and credit cards, there is no particular set of minimum standards for student loan customers when it comes to maintenance, potentially causing a race to the bottom and significantly disadvantaging truthful market participants.
Given that the industry has actually failed to establish a robust code of conduct, policymakers will likely find that they needhave to put into place new customer defenses to prevent further abuse. New market entrants need to likewise follow the principles preserved in the Fair Financial obligation Collection Practices Act.
3. Military service members and veterans must not be punished for their service
The incorrect foreclosures of military families by JPMorgan Chase, Wells Fargo, Bank of America, and Citibank, along with the Sallie Mae/Navient plan to overcharge service members with student loans, should work as a raw reminder that policymakers must beef up oversight and protections for these customers.
The Servicemembers Civil Relief Act ought to also be modified to enable service members to maintain their preservice obligation rate cap even if they refinance into a different student loan product. Policymakers must likewise consider criminal charges for specific outright violations.
Companies of income-share agreements would be wisesmart to guide clear of any bad treatment of service members and veterans by developing a clear set of procedures to make sure these consumers are not unjustly punished.
4. Regulatory authorities and the public need to have confidence that the marketplace is totally freewithout discrimination
Higher education is planned to helpto assist aspirational individuals make the manytake advantage of their potential, instead of restricting them based upon factors beyond their control. Pursuant to the House Mortgage Disclosure Act, mortgage producers satisfying minimum thresholds need to report particular characteristics of loan applications to a public database, including the race and gender of the applicant and the factor for rejection. Policymakers must think about comparable requirements for companies of private funding for education. Accessibility of this data would also create needed transparency for the market.
Suppliers of personal student loans and income-share arrangements ought to work cooperatively with one another and with regulators on a standardized information architecture to decrease costs connected with reporting this data, while likewise protecting personal privacy.
5. Private credit items to fund highercollege should assist customers construct credit history
Student loan items are among the very first credit obligations for customers today. Ensuring that providers are providing precisely is critical. Under the Higher Education Act, federal student loan credit info must typically be furnished to customer reporting companies in accordance with the Fair Credit Reporting Act, however there is no comparable requirement for other products to finance a postsecondary education.
Congress should think about enacting a comparable requirement with a phase-in duration for the market to improve data standards to ensure furnishing accurately shows the loan status.
6. Products must provideoffer a clear course for customers to handle through periods of distress
For students finishing in the middle of the monetary crisis, they discovered that their degree was worth much less than they had actually prepared for, leading numerous into delinquency and default.
Prior to 2005, bankruptcy was one choice to manage through this difficulty. Currently, reorganizing personal student loan financial obligation is practically difficult compared with other forms of credit. According to a research carried out by the CFPB and the US Department of Education, the 2005 modifications to the bankruptcy code did not result in lower prices for customers or meaningfully broaden access. Multiple researches have concluded that there does not seem any systemic abuse by the bankruptcy code by student debtors. Borrowers with private student loans are effectively trapped with few loan modification options– a stark contrast to federal student loans.
If Congress reverses the favorable treatment to loan providers that do not offer flexible payment alternatives, this would supply a strong reward for loan providers to work constructively with customers to prevent default. When products consist of security webssafeguard in times of distress, they might better serve customers without sacrificing investor returns.
Finally, industry and policymakers need to take steps to promote competitors and prevent actions that merely provide incumbents more market power. Open information standards and application program user interfaces, or APIs, can help spur technology-enabled comparison buyingwindow shopping, comparablemuch like markets for everything from airplane tickets to diapers.
While today’s hearing is examining possible options to existing loan items, we must not delude ourselves into believing that brand-new loan products are a silver bullet. One of the best alternatives to existing policy is to reverse the trend of disinvestment in public greatercollege. If Americans should commit a growing number of of their future earnings to attain their dream of going to college, then we will remain to weaken the function of greatercollege as a means to climb up the economic ladder.
Possibly more significantly, we should address the existing debt problems of Americans, which undoubtedly swelled as an aftershock of the monetary crisis. Helping borrowers handle their payments and prevent default by cleaning up student loan servicing and spurring chances to refinance must be high up on the list.
In addition, as Congress seeks to reauthorize the Higher Education Act, more comprehensive reforms are also requiredhad to enhance accountability for schools and financial organizationsbanks, such as efforts to provide all participants skin in the video game. There have to also be significant efforts to enhance access to efficiency and outcome information.
Just as policymakers are reconsidering the function of private capital in the after-effects of the conservatorship of Fannie Mae and Freddie Mac, we must likewise identify whether and how private capital participation can benefit students. Providing greater regulatory clarity for new items in this market and intensifying the consumer security framework will yield advantages for both customers and truthful market participants.