The Future of Student Lending: Should There Be a New Paradigm Beyond Direct Loans???

1. The Future of Student Lending: Should There Be a New ParadigmBeyond Direct Loans??? Parent Loans FFELP ???? Direct Loans Perkins WASFAA April 2009 Dr. Joe L. McCormick KentuckyCAN, Inc.

2. Federal Student Loans: A Brief History • 1958 to 1965 National Defense Education Act (Perkins Loans) • $100 million appropriation in first year • Restricted to science and math students • 1965 to 1992 Guaranteed Student Loan Program (FFELP) • Phenomenal growth • Multiple players (over 8,000 lenders in mid ’80s) • Complex systems • 1993 to Present: FFELP, Direct Loan Program, and Perkins Student Loan Program

3. Three Major Federal Loan Programs: Why Direct Loans Came to be? • Increased Pressure in Congress to achieve budget savings and the • Credit Reform Act of 1990 • Federal government went from a “cash” basis of scoring the cost of debt to an “accrual” basis • Under a cash basis of accounting, DL is more costly than FFELP; under an accrual basis, DL is cheaper than FFELP

4. Three Major Federal Loan Programs: Why Direct Loans Came to be? • Attempt by Clinton Administration to replace FFELP with Direct Loan Program on a five-year schedule • Reconciliation Act of 1993 – made the DL program an “entitlement” program as outlined in Section 452(b) of the HEA

5. FFELP Loan availability is conditional, not required CBO scores FFELP as a cost only to federal government Multiple loan origination systems Income sensitive repayment option Direct Loans Loan availability is mandatory & required in statute CBO scores both a cost & a revenue to DL Single source for loans Income-contingent repayment option Major Distinctions in FFELP & Direct Loans

6. Federal Student Loans Today • FFELP financing in turmoil • Access to private loans increasingly restricted • Reduction and/or elimination of borrower benefits in FFELP • State and nonprofit lenders have serious difficulty securing new loan capital • Congress has intervened with a temporary fix (ECASLA) • New Administration proposes move to solely Direct Loans and Perkins Loans by July 1, 2010 • Alternatives to solely Direct Loans are being proposed

7. The President’s Proposal: the 2010 Budget • Beginning July 1, 2010, all Stafford, PLUS, & Consolidated loans be made from the Direct Loan Program • Subsidies currently paid to FFELP lenders would be redirected to increase Pell grants at an annual savings of $4.0 billion per year • Expand the Perkins Student Loan Program • OMB estimates $50.0 billion in savings over ten years; CBO estimates $94.0 billion in the same period • In short: replace FFELP with Direct Loans by July 1, 2010

8. The President’s Proposal • Direct Loan Funds to students provided by auction of U.S. Treasury notes • Loan origination & disbursement via the existing USDE system for disbursing Pell funds or “COD” • Contract out the loan servicing function to existing FFELP servicers on a competitive bid basis emphasizing customer service and default prevention

9. Alternatives to President Obama’s Proposal

10. National Forum on Education LoansFebruary 2006 • A group of practicing student aid administrators met to discuss “the ideal student loan program.” • One source of funds for a single loan program • Loan limits equal to Cost of Attendance minus other aid • Funds disbursed by the school • Flexible repayment options including payroll deductions or the federal tax system • Expanded opportunities for loan forgiveness • Financial literacy programs prior to and during college

11. NASFAA Proposal 2009 • Combine the best features of FFELP, DL, & Perkins into one federal student loan program • Same loan terms for all borrowers • Offer students a low, fixed-rate of interest • A seamless loan origination, disbursement, & repayment experience • Capitalize on the best practices of all current players in federal student loan programs • Ensure a continuous & predictable source of loan capital not dependent on any single entity • Utilize government-backed special purpose bonds to fund the program • Reduce federal costs by creating a self-sustaining funding mechanism for student loans • Create a common servicing platform • Create incentives to help students pay their student loans • Shift the focus of guarantors to facilitate successful student loan repayment and college access

12. American Student Assistance Proposal 2009 • Combine FFELP & Direct Loans into one federal loan program • Ensure fairness & equity with respect to educational debt management services for all student borrowers • Continue the public-private partnership for funding educational loans minus costly lender subsidies • Simplify the loan origination process and ensure a stable source of funding for the new unified federal student loan program

13. Sallie Mae Proposal 2009 • Objectives: • Preserve choice, competition, & innovation in loan delivery systems • Strengthen programs & incentives to reduce defaults • Greatly reduce implementation risks • Components • Give schools choice to originate with DL or FFELP • Use federal funding for all government loans via ECASLA • Eliminate FFELP “special allowance” formulas • Common loan terms for both DL & FFELP • Servicing loans by competitively bid multiple contractors • Enhanced default prevention programs

14. What Will Congress Do? • Will it accept the 2010 Budget proposal to move to DL & eliminate FFELP??? • Will it be a compromise proposal that attempts to maintain both FFELP & DL in some form??? • Who Knows for sure??? It may hinge on how Congress deals with Reconciliation. • The only certainty: Uncertainty!!!

15. A New Paradigm for Student Loans???? • Stop !!!!! • Take a Deep Breath…… • Clear your mind of Conventional Thought! • BE IN THE QUESTION! TAKE CHANCES!GET MESSY!

16. Serious Doubts seem to always precede Major Changes: • “Who in their right mind would ever need more than 640k of ram?”……..Bill Gates, 1981 • “I think there is a world market for maybe five computers.”…..Tom Watson, chairman of IBM, 1943 • “Who the hell wants to hear actors talk?”….H.M. Warner, Warner Brothers, 1927 • Everything that can be invented has been invented.”……Charles Duell, Commissioner of U.S. Patent Office, 1899

17. A New Paradigm for Student Loans beyond Direct Lending? Ideal Loan System would: ** Serve intended populations ** Provide uniform benefits to borrowers ** Maximize incentives for repayment ** Reward public service ** Provide public subsidy for those most in need who ultimately cannot pay • Absolutely!!!! • Current Federal Loan System is too • Costly • Complex • Cumbersome • Inflexible • Overregulated • Cannot guarantee access to loan capital

18. Just for a Brief Moment, Think of a Student Loan As… • A social investment in human capital, not just another student financial aid program • Personal investment in one’s future quality of life and lifelong learning needs • A surrender of future earnings, more than money to go to college. Educational loan choices in the present represent a denial of economic choicesin the future • An asset, either a performing asset or a non-performing asset (not just a default!)

19. Student Loans in the 21st Century:What Do Students/Schools Really Want! • A seamless totally electronic process with minimal disruptions • Timely delivery of loan funds measured in nano seconds, not days or weeks • Loan amounts sufficient to meet their needs • Administratively burden-free processes • Flexibility to deal with lifelong learning

20. How About?? • A paperless process • A line of credit versus annual & aggregate loan limits • Everyone is eligible with no in-school interest subsidy or sub & unsubsidized loans • No loan defaults; loans are either performing or nonperforming • No deferments or other confusing loan repayment provisions

21. Let’s Be Bold & Outrageous! Create Lifelong Learning Accounts • At birth, issue SS card and a lifelong learning account for postsecondary education opportunities • Parents/grandparents may contribute to the lifelong learning account as a typical 529 savings plan for college and draw a tax deduction up to a certain income level • As student gets older and reaches the age he can work, a mandatory set percentage of earnings (say 2%) is deducted from his earnings as a routine part of his payroll withholding and deposited in his/her lifelong learning account for college expenses

22. Lifelong Learning Accounts • As college expenses are incurred, • The lifelong learning account is used by the student • To pay eligible college expenses defined as cost of attendance minus all other aid as certified by the school • With authorization to draw into negative balance thus exercising a lifelong line of credit for education

23. Lifelong Learning Accounts • Student’s earnings (both in & out of school) • Continue to be assessed the mandatory fixed percentage to be deposited to his/her lifelong learning account • To pay down negative balances and • Build positive cash balances for future education expenses • At age 65, • Accounts with a negative balance would simply be written off • Elderly student may pass any positive balance in his lifelong learning account on to his/her children’s life-long learning account

24. A Lifelong Learning Account Would: • Be absent in-school interest subsidy thus eliminating Need Analysis for eligibility • One federal loan financing program providing total access to loan capital for all students by retaining the current “entitlement provisions” in Section 452(b) of the HEA • A standardized repayment system built into payroll deductions & the current federal tax system. • No borrower origination or guarantee fees! No penalty or late fees or collection costs to incur • Defaulted student loans would cease to exist! The Lifelong Learning Account may always have either a positive or negative balance

25. The Lifelong Learning Account of Tomorrow Would: • Allow Congress to use the savings generated by such a plan to maximize support for the Pell Grant Program and • Recognize there is a “shared” benefit that educating all our citizens brings to society as well as the individual student; and in the long run, Society is the primary beneficiary of an educated population!

26. The Lifelong Learning Account Is Not New a New Idea • 1968 Milton Friedman declared the student loan was an investment in the future and should not be designed as an installment loan, but rather an income contingent loan! • 1972 New Patterns for College Lending: Income Contingent Loans (A Proposal by D. Bruce Johnstone) • 1999 Joe McCormick presentation at NASFAA Conference • 2006 National Forum on Educational Loans • 2008 Brian K. Fitzgerald, former head of the ACSFA – create a College Access Account or “line of credit”

27. The Future of Federal Student Loan PolicyPoints to Ponder As we review the various proposals being discussed and monitor the debate and deliberations of Congress on the future of federal student loan policy, please “Be in the question? Ask Why? Ask Why Not?”

28. Why? • Why are there interstate highways in Hawaii? • Require schools to certify loans to guarantee agencies, when they no longer guarantee loans? • Why do we park our cars in a driveway and drive our cars on a parkway? • Have default rates with punitive damages for schools and students but not for lenders? • Why is a boxing ring square? • Why do we need 106 questions on the FAFSA to determine a fourth-generation welfare student is eligible for in-school interest benefits?

29. In a 21st Century Global Economy • A highly educated and skilled citizenry is the only way the United States can maintain a position of leadership and prominence in the world. • “We will provide the support necessary for you to complete college and meet a new goal: by 2020, America will once again have the highest proportion of college graduates in the world.” President Obama

30. Japan – 91.3% Denmark – 80.5% United Kingdom – 79.3% Russia – 78.5% Germany – 76.9% Belgium – 76% Canada – 75.2% Portugal – 73% Finland – 72% Australia – 71.6% Austria – 71% Netherlands – 71% Slovak Republic – 70% Switzerland – 70% 15. Sweden – 69% 16. Czech Republic – 67.7% 17. Norway – 67% 18. Estonia – 67% 19. Iceland – 66% 20. France – 64% 21. Slovenia – 64% 22. Poland – 63% 23. Mexico – 60.5 % 24. New Zealand – 58% 25. Hungary – 57% 26. United States – 56% 27. Italy – 45.3% America’s Standing in the World Rankings of College Completion Source: Postsecondary Education Opportunity, March 2009

31. As We Ask Why and Contemplate the Future of Federal Student Loan Programs RememberThe Student Is… • The most important person on the campus. Without • students, there would be no need for the university. • Not a cold enrollment statistic, but a flesh and blood human • being with feelings and emotions like our own. • Not someone to be tolerated so that we can do our • thing. They are our thing. • Not dependent on us, rather we are dependent on them. • Not an interruption of our work, but the purpose of it. We • are not doing them a favor by serving them. They are doing • us a favor by giving us the opportunity to serve them!

32. Federal Student Loan Policy for the 21st Century Questions??? Comments??? Thank you! Dr. Joe L. McCormick jmccormick@kentuckycan.org 502/548-8165