A perfect storm of risky lending practices and lax underwriting practices by higher education institutions has caused private student loan debt to swell to $150 billion, according to a new report.In its latest study on private student loans, the Consumer Financial Protection Bureau completes what up until now has been a fragmented picture of America’s growing student debt crisis.
Coupled with the $864 billion in outstanding federal student loan debt the consumer watchdog estimated earlier this year, the $150 billion private debt load brings the total student loan toll well over the $1 trillion mark.
“Subprime-style lending went to college and now students are paying the price,” U.S. Education Secretary Arne Duncan said in a statement Friday. “We still have some work to do to ensure that students who take out private student loans have the same kinds of protections offered by federal loans.”
But how did private loan debt spin so far out of control? Pointing to a “cycle of boom and bust,” the CFPB points out a few key players in its report:
Poor underwriting practices. “Funded in large part by the asset-backed securities market, many lenders made money by originating and then selling private student loans with less regard for borrowers’ creditworthiness. The market grew from less than $5 billion in 2001 to over $20 billion in 2008, and then rapidly contracted to less than $6 billion in 2011. After the financial crisis, underwriting standards tightened as investors pulled out of the market.”
Risky loan terms. In addition to having fewer flexible repayment options, private student loans are also slow to offer forbearance and are well-known for their unfriendly variable interest rates, which can swell into the double-digits. “Prior to 2010, federal law did not require a disclosure showing the actual interest rate on a borrower’s loan until after the lender documented the loan, approved the credit, and readied the check for mailing,” the report notes.
Predatory lenders. Just like subprime mortgage lending dragged so many American homeowners underwater during the housing crisis, some private lenders aggressively marketed their loans to students who weren’t financially fit to support them. From the report: “Many lenders also lowered the minimum credit score required to receive a private student loan so that they could originate and then sell off more loans. Many students did not understand the differences and features between federal and private loans. They ended up using riskier private loans before exhausting their safer federal options. “
Students trapped by debt. It’s harder than ever to discharge student loans in bankruptcy, despite the efforts of some activist groups to change the bankruptcy code. As it stands, there are $8.1 billion in defaulted private loans crushing hundreds of thousands of graduates, according to the CFPB. Americans over the age of 60 hold 4.2 per cent of student loan debt, a Federal Reserve report showed earlier this year.
Despite the dire findings in the report, there are growing signs private lenders have been reigned in a bit:
According to the report, in 2011, 90 per cent of private student loans had a creditworthy co-signer, compared to only 67 per cent in 2008.
-Student loan borrowers have had higher credit scores in the past few years.
-About 90 per cent of loans are now reviewed by a school financial aid office to make sure that loan amounts match financial need, the CFPB says.
-The Student Loan Debt Collection Assistant is available for borrowers to see their loan options and understand their rights when it comes to repayment.
-The Student Debt Repayment Assistant was launched to give borrowers information on whether they qualify for income-based repayment, deferments, and alternative payment programs.
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