Your Student Loan Ranger has been talking quite a bit recently about the importance of disclosing information to student loan borrowers. Last week, we discussed how the focus on the interest rate increase on subsidized Stafford loans—which we don't favor—can obscure systemic problems such as reporting requirements designed to provide consumer information that aren't working well.
Earlier, we voiced our support for Sen. Dick Durbin's (D-Ill.) proposed Know Before You Owe Act that would help ensure that borrowers are informed of the advantages of federal loans over private loans.
All this reminded us that the Institute for College Access and Success discussed how colleges and universities can make sure students maximize federal aid before turning to private loans in their July 2011 study "Critical Choices: How Colleges Can Help Students and Families Make Better Decisions about Private Loans." It is based on interviews with financial aid administrators at 22 widely varying colleges.
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The study demonstrates that institutions of higher education can meaningfully reduce risky private student loan borrowing by explaining to prospective student loan borrowers the differences between federal and private student loans and the availability of any untapped federal, state, or college aid.
In most instances, the best time to do this will be during "school certification," when a private lender asks a college to certify a student's enrollment and for other information before issuing a loan. This is often the first indication a school has that a student has applied for a private loan, and it is a critical "teachable moment" when a borrower is making a major financial decision but has not yet committed to it.
Critical Choices lists seven promising practices for which there is evidence they reduce private student loan borrowing. One particularly effective practice is requiring counseling for all private loan applicants. Barnard College saw private student loan volume drop by almost 75 percent in the first year it implemented this policy. In the most recent year, only 30 of approximately 2,400 students used private student loans, and all but one of them had first maximized their federal funds.
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An effective practice at colleges where counseling all private loan applicants may not be feasible is requiring counseling for private loan applicants who have not exhausted their federal loan options before certifying a private loan. In recent years, Colorado State University has found that about half the students it contacted over the phone decided to exhaust their federal loan options first.
Other promising practices include contacting students who have previously borrowed private loans, because they are more likely to borrow private loans; monitoring unpaid bills, since several colleges reported a spike in private loans when tuition was due or when unpaid bills resulted in registration holds; and asking lenders to make checks co-payable to the college and the student. This provides an opportunity for counseling and cancellation if the lender does not require school certification.
The report also highlights practices schools should avoid, including approving all certification requests, as this misses the crucial opportunity to counsel students before they commit to a private loan, and packaging private student loans in financial aid award letters, which conveys tacit approval.
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Borrowers should pay particular attention to widespread misinformation that may be reported by financial aid counselors as reasons students and parents apply for private loans. This misinformation includes assuming they earn too much to qualify for federal student loans when there is no income limit; believing the application process for federal loans is too long and complicated, even though it has recently been improved; or thinking private loans will be disbursed earlier than federal loans.
Students and parents often don't understand the difference between fixed and variable rate loans and are attracted to the apparently lower interest rates on private student loans. Unlike federal loans, which contain strong borrower protections, private loans are a risky way to pay for college that most people should avoid if possible.
Isaac Bowers is a senior program manager in the Communications and Outreach unit, responsible for Equal Justice Works' educational debt relief initiatives. An expert on educational debt relief, Bowers conducts monthly webinars for a wide range of audiences; advises employers, law schools, and professional organizations; and works with Congress and the Department of Education on federal legislation and regulations. Prior to joining Equal Justice Works, he was a fellow at Shute, Mihaly & Weinberger LLP in San Francisco. He received his J.D. from New York University School of Law.
Corrected on 5/10/12: An earlier version of this post misidentified the state Sen. Dick Durbin represents.