[Senate Hearing 113-59]
[From the U.S. Government Publishing Office]
S. Hrg. 113-59
PRIVATE STUDENT LOANS: REGULATORY PERSPECTIVES
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HEARING
before the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED THIRTEENTH CONGRESS
FIRST SESSION
ON
EXAMINING THE SUPERVISION OF PRIVATE STUDENT LENDERS BY FEDERAL
FINANCIAL REGULATORS AND WHAT ACTIONS LENDERS MAY TAKE TO WORK WITH
BORROWERS TO AVOID DEFAULT DURING PERIODS OF HARDSHIP
__________
JUNE 25, 2013
__________
Printed for the use of the Committee on Banking, Housing, and Urban
Affairs
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COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
TIM JOHNSON, South Dakota, Chairman
JACK REED, Rhode Island MIKE CRAPO, Idaho
CHARLES E. SCHUMER, New York RICHARD C. SHELBY, Alabama
ROBERT MENENDEZ, New Jersey BOB CORKER, Tennessee
SHERROD BROWN, Ohio DAVID VITTER, Louisiana
JON TESTER, Montana MIKE JOHANNS, Nebraska
MARK R. WARNER, Virginia PATRICK J. TOOMEY, Pennsylvania
JEFF MERKLEY, Oregon MARK KIRK, Illinois
KAY HAGAN, North Carolina JERRY MORAN, Kansas
JOE MANCHIN III, West Virginia TOM COBURN, Oklahoma
ELIZABETH WARREN, Massachusetts DEAN HELLER, Nevada
HEIDI HEITKAMP, North Dakota
Charles Yi, Staff Director
Gregg Richard, Republican Staff Director
Laura Swanson, Deputy Staff Director
Jeanette Quick, Counsel
Phil Rudd, Legislative Assistant
Greg Dean, Republican Chief Counsel
Jelena McWilliams, Republican Senior Counsel
Jared Sawyer, Republican Counsel
Dawn Ratliff, Chief Clerk
Kelly Wismer, Hearing Clerk
Shelvin Simmons, IT Director
Jim Crowell, Editor
(ii)
C O N T E N T S
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TUESDAY, JUNE 25, 2013
Page
Opening statement of Chairman Johnson............................ 1
Opening statements, comments, or prepared statements of:
Senator Crapo................................................ 2
Senator Reed................................................. 3
Senator Brown................................................ 4
Senator Heitkamp............................................. 5
WITNESSES
Rohit Chopra, Assistant Director and Student Loan Ombudsman,
Consumer Financial Protection Bureau........................... 6
Prepared statement........................................... 28
Response to written questions of:
Chairman Johnson......................................... 49
Senator Crapo............................................ 53
Senator Brown............................................ 55
Senator Manchin.......................................... 60
John C. Lyons, Senior Deputy Comptroller, Bank Supervision Policy
and Chief National Bank Examiner, Office of the Comptroller of
the Currency................................................... 8
Prepared statement........................................... 35
Response to written questions of:
Chairman Johnson......................................... 62
Senator Crapo............................................ 66
Senator Brown............................................ 67
Senator Manchin.......................................... 77
Todd Vermilyea, Senior Associate Director, Division of Banking
Supervision and Regulation, Board of Governors of the Federal
Reserve System................................................. 9
Prepared statement........................................... 42
Response to written questions of:
Chairman Johnson......................................... 78
Senator Crapo............................................ 80
Senator Brown............................................ 81
Senator Manchin.......................................... 88
Doreen R. Eberley, Director of Risk Management Supervision,
Federal Deposit Insurance Corporation.......................... 11
Prepared statement........................................... 44
Response to written questions of:
Chairman Johnson......................................... 89
Senator Crapo............................................ 92
Senator Brown............................................ 93
Senator Manchin.......................................... 102
Additional Material Supplied for the Record
Letter submitted by Consumer Bankers Association................. 104
Letter submitted by The Financial Services Roundtable............ 107
(iii)
PRIVATE STUDENT LOANS: REGULATORY PERSPECTIVES
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TUESDAY, JUNE 25, 2013
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 10:04 a.m., in room SD-538, Dirksen
Senate Office Building, Hon. Tim Johnson, Chairman of the
Committee, presiding.
OPENING STATEMENT OF CHAIRMAN TIM JOHNSON
Chairman Johnson. Good morning. I call this hearing to
order.
For many Americans, a college degree is an important goal
that can mean a lifetime of better earnings and opportunities.
However, this goal has come at a higher price: the cost of
education has risen significantly while the job market has
weakened, straining a generation of Americans seeking to
establish themselves in the broader economy. Student loan debt
now stands at over $1 trillion and is second only to mortgage
debt as the largest form of debt in the country. Student loan
balances have almost tripled since 2004, and an alarming one-
third of borrowers are delinquent on their loans. Last year,
nearly eight out of ten students in my home State of South
Dakota graduated with student loan debt.
These rising debts reach beyond individuals and impact many
sectors of the economy. High levels of student loans mean many
put off buying a home or never become homeowners at all.
Student loans make it harder to start small businesses. Student
loan payments often take priority over retirement savings. And
rising student loan balances in States like South Dakota make
it harder for graduates to stay in rural communities.
While most student loans are Federal, private loans make up
$150 billion of the market. Private lenders allow many students
to attend college who would not otherwise be able to afford it
and may sometimes offer better terms than Federal loans.
However, nearly 1 million borrowers are in default on their
private student loans. And while Federal loans offer flexible
relief during periods of hardship, most private student lenders
do not offer the same options for struggling graduates.
Our witnesses today represent the Federal agencies
responsible for ensuring that lenders balance sound lending
principles with appropriate measures to avoid default. I look
forward to hearing your testimony on guidance you provide to
lenders and what limitations lenders may face in providing
relief. The CFPB has been very active in private student loans,
recently publishing a proposal to oversee large student loan
servicers and a report on affordable private student loan
repayment. I am interested to hear from the CFPB on both of
these efforts.
Next week, on July 1, millions of students face a doubling
of the interest rates on some Federal loans. I urge the
regulators to be vigilant in monitoring growth in the private
student loan market that may result from changes to the Federal
student loan market. It is critical that regulators respond
quickly to marketplace changes and that consumer protections
are safeguarded when demand rises.
With that, I turn now to Ranking Member Crapo.
STATEMENT OF SENATOR MIKE CRAPO
Senator Crapo. Thank you, Mr. Chairman, for holding this
hearing today.
Student loans play a vital role in the lives of many
students and their families across this country. The loans help
maintain a strong and educated workforce by ensuring that all
Americans can have access to higher education regardless of
their financial circumstances.
Recently the New York Federal Reserve reported that student
loan debt has risen to become the second largest household debt
burden behind mortgages. The total outstanding student debt was
$986 billion in the first quarter of 2013. Just 9 years ago,
that number was $240 billion.
Several factors have contributed to this student debt
explosion of the last decade, including college tuition rates
that have significantly outpaced inflation and a record number
of students and employees opting for school in light of the
very tight job prospects in the market.
When discussing the student loan market, there is
considerable confusion as to who is making the loans and how
the loans are made. According to the CFPB, 85 percent of the
total outstanding student debt is in Federal student loans,
offered through the Department of Education. That is roughly
$838 billion.
Private student loans, the subject of this hearing, make up
15 percent of the outstanding debt, and that market is expected
to shrink even further. A recent Standard & Poor's report noted
that new originations for Federal loans occupy roughly 94
percent of the market while private lenders originate the
remaining 6 percent.
Much of the contraction in the private lending market is
due to the restructuring of the Department of Education loan
programs in 2010 to virtually eliminate private lenders. Other
important considerations include the fact that Federal loans
default on average three times as often as private loans.
Federal loans do not undergo an underwriting process, and there
is almost limitless spending for borrowers who take out Federal
loans for graduate school.
With respect to private student loans, one concern I often
hear is that banks do not offer enough borrower relief options.
In the testimony submitted today, it appears that prudential
banking regulators and the CFPB are offering conflicting
guidance on borrower relief options. The CFPB is pressing for
more borrower relief; however, the prudential banking
regulators are concerned with how modified loans affect a
bank's safety and soundness as well as whether they violate
accounting rules.
Lenders have stepped up and expressed their willingness to
help more troubled borrowers and cite that loan modifications
may benefit both borrowers and lenders in certain
circumstances. Today I hope we can get a better understanding
of the obstacles that face us directly from the regulators.
I also would like to hear about how the regulators are
working together to resolve this conundrum of providing student
loan relief while not endangering the safety and soundness of
the system.
Finally, since the vast majority of student loans are made
by the Department of Education, we need to acknowledge that the
Committee on Health, Education, Labor, and Pensions has a
critical role in determining whether the Department of
Education's student loan programs are helping the situation or
binding students and their families into too much debt. I know
all of my Senate colleagues want to find a solution to ease the
burden on our young people.
Mr. Chairman, before we conclude, we received a letter from
the Consumer Bankers Association and a letter from the
Financial Services Roundtable regarding student loan issues,
and I would request that both letters be entered into the
record.
Chairman Johnson. Without objection.
Senator Crapo. Thank you.
Chairman Johnson. Thank you, Senator Crapo.
Are there any other Members who wish to make a brief
opening statement?
Senator Reed. Mr. Chairman?
Chairman Johnson. Senator Reed.
STATEMENT OF SENATOR JACK REED
Senator Reed. Thank you, Mr. Chairman. Thank you very much
for holding this hearing, and we are reaching a tipping point
with student loan debt, as you and Senator Crapo have
illustrated, particularly as we approach July 1st with the
potential doubling of loans on students who have the most need
in our country.
Student loan debt, as both my colleagues have indicated, is
really the next big financial crisis, and it could have a
lasting impact on our economic growth and the prospects for the
coming generation. We have seen student loan debt rise
throughout the recession even as other household debt has
fallen. And student loan debt, as my colleagues have indicated,
is now the second largest outstanding balance after mortgage
debt with respect to households. And this is affecting the life
trajectory of generations of Americans, the young people today
and, if we do not do anything, even their children.
Our students are caught between a rock and a hard place.
The job market increasingly demands postsecondary education. At
the same time, college is getting much more expensive. There
has been a major cost shift in higher education. Costs have
gone up. State support for public institutions has gone down,
and as a result, tuitions are rising--in fact, exploding.
In the Federal student aid program, 68 percent of Federal
student aid is in the form of loans, and I have the privilege
of holding the seat held by Claiborne Pell. When Senator Pell
introduced the Pell grants back then, the mix was much
different. In fact, I believe it was 80 percent grants and 20
percent loans, and we have flipped, turned the whole thing over
on its head. In fact, many of my contemporaries were the
beneficiaries of that wonderful 80 percent grant to 20 percent
loan effort, and we are not keeping up with that at the Federal
level.
We have to keep these loans affordable. Low interest rates
is part of the solution, and, again, it is distressing many of
us that we are on the precipice of doubling the subsidized rate
from 3.4 to 6.8 percent in just a few days.
Ironically, as we increase the rates--and my colleague from
Massachusetts Senator Warren has pointed this out again and
again--the Federal Government is making about $50 billion this
year on their loans and is expected to make $180 billion
between now and 2023. So there is a lot of money. It is just
not getting to the young people that need it and their
families.
We have got to work on both sides, and we have to recognize
that we have to be back where we were, I believe, in the 1950s,
1960s, and the 1970s when we were actually using Federal
resources to help people get to college, not using students to
pay down the debt. And many of my colleagues are suggesting
that we do precisely the latter, not the former.
So I look forward to today's testimony and the broader
issue of private loans, but we really have a crisis that is
before us.
Thank you, Mr. Chairman.
Chairman Johnson. Is there anyone else? Senator Brown.
STATEMENT OF SENATOR SHERROD BROWN
Senator Brown. Thank you, Mr. Chairman. I appreciate
Senator Reed's words. My wife is the daughter of a utility
plant maintenance worker and a home care worker, and she
graduated, first in her family to go to college, from Kent
State 30--I will not say how many years ago--30-plus years ago
with a student debt of about $1,200. I think that tells the
story that he mentioned.
Thank you to the witnesses and thanks, Mr. Chairman and
Senator Crapo, for holding this hearing.
In November 2009, I introduced legislation to create a
private education loan ombudsman. These provisions were part of
Dodd-Frank in 2010. Some 3-1/2 years later, it is gratifying to
see the great work that CFPB's first Student Loan Ombudsman Mr.
Chopra is doing with this office--thank you for that--speaking
out about issues, helping borrowers get real relief.
About a year ago, my Subcommittee held a hearing on private
student loans where Mr. Chopra and I discussed the discrepancy
between the low rates at which banks borrow and the interest
rates that they charge students, something that Senator Reed
and Senator Warren both talked about. For example, the Nation's
largest student loan lender borrows at an average rate of 1.4
or 1.5 percent, while the average private student loan borrower
is paying more than 5 times that amount, some 7.9 percent. Mr.
Chopra's testimony then noted and now notes that the increase
in private student loan lenders' interest margins ``may
demonstrate a lack of competition, as well as an opportunity
for more efficient private capital participation.''
The president of the Nation's largest student lender said
in January the margins here are really a function of
alternative financing opportunities. We are making loans to
parents and students, family education loans. Their
alternatives are fairly limited.
Today I am proud to announce that my fellow Member of the
Banking Committee Senator Heitkamp and I, along with Senators
Durbin and Murray, are introducing legislation to create
opportunities for borrowers to refinance their private student
loans. The Refinancing Education Funding to Invest for the
Future Act, or REFI for the Future, would authorize the
Treasury Secretary, in consultation with the Education
Secretary and the CFPB, to create a program to encourage
competition and spur refinancing of private student loans. The
most indebted student borrowers are the most likely to have
private student loans. Of the $1 trillion that Senator Crapo
mentioned in student loan debt, only about 15 percent, but that
is still $150 billion, is in the private student loan market.
It is something we can do something about. Senator Heitkamp's
and my legislation will help to do that.
Thank you, Mr. Chairman.
Chairman Johnson. Senator Heitkamp.
STATEMENT OF SENATOR HEIDI HEITKAMP
Senator Heitkamp. You know, a couple months ago, I hosted a
housing tour across North Dakota. We have an acute shortage and
affordability issues due to our economy as things grow. At the
roundtables that I conducted, one issue came up over and over
and over again, which is that young people cannot get entry
into the market because they are not bankable. And they are not
bankable because they are carrying thousands and thousands and
thousands of dollars of student debt. And families talk to us
every day and say, ``How come at a time of record low interest
rates we are paying 8, 9, 10 percent on our student debt?''
We cannot continue this. And we know from massive credit
card interest that if we do not figure out a way, they will
continue to pay the interest and never get out of the principal
debt and never be bankable, never be able to get a loan to
build a business, be entrepreneurial.
This is crushing the future of our economy if we do not
deal with it, and this is a small point, obviously not the big
part of student loan issues. We are concerned about the rates.
But we are also concerned about giving those people with
private loans an opportunity to refinance, just like you would
if you had a mortgage.
And so I want to applaud Senator Brown for the work that he
has done. I am proud to be on this, and I want to thank the
Chairman and the Ranking Member for holding this hearing. This
is an issue that will not go away. It is an issue that we will
continue to work on until we know that we have secured a viable
future for American families and they will not be buried under
with student debt.
Thank you, Mr. Chairman.
Chairman Johnson. Thank you all.
I want to remind my colleagues that the record will be open
for the next 7 days for opening statements and any other
materials you would like to submit.
Now I will introduce the members of the panel.
Rohit Chopra--did I pronounce that correctly?
Mr. Chopra. Close enough.
[Laughter.]
Chairman Johnson. He is the Student Loan Ombudsman at the
Consumer Financial Protection Bureau.
John Lyons is the Senior Deputy Comptroller for Bank
Supervision Policy and Chief National Bank Examiner at the
Office of the Comptroller of the Currency.
Todd Vermilyea is Senior Associate Director for Banking
Supervision and Regulation at the Board of Governors of the
Federal Reserve System.
Doreen Eberley is the Director of Risk Management
Supervision at the Federal Deposit Insurance Corporation.
I thank all of you again for being here today. I would like
to ask the witnesses to please keep your remarks to 5 minutes.
Your full written statements will be included in the hearing
record.
Mr. Chopra, you may proceed.
STATEMENT OF ROHIT CHOPRA, ASSISTANT DIRECTOR AND STUDENT LOAN
OMBUDSMAN, CONSUMER FINANCIAL PROTECTION BUREAU
Mr. Chopra. Thank you, Mr. Chairman, Ranking Member Crapo,
and Members of the Committee, for the opportunity to testify
today.
It is clear that many in Congress are keenly interested in
finding solutions to some of the troubling trends in the
student loan market. Understandably, many policymakers across
the country are seeking to address some of the underlying
drivers of growing student loan debt, including the rising cost
of tuition. However, it will also be prudent to address the
large pool of existing debt owed by millions of Americans.
The Consumer Financial Protection Bureau estimates that
outstanding student loan debt is approaching $1.2 trillion.
While most of the market consists of Federal loans, 81 percent
of our high-debt undergraduate borrowers used private student
loans. And like a business, a consumer's ability to manage
cash-flow is absolutely critical to his or her financial
health.
Private student loan providers generally do not offer this
cash-flow management option, which is available to borrowers of
Federal student loans. And for private loan borrowers who
default early in their lives, the negative impact on their
credit report can make it even more difficult to pass
employment verification checks or ever reach their dream of
buying a home.
While risks in the student loan market do not appear to
jeopardize the solvency of the financial system, the
difficulties borrowers face when trying to manage cash-flow may
have a broader impact on the economy and society. We recently
published a report on what we heard from the public about these
potential impacts.
The National Association of Home Builders wrote to the
Bureau about the relatively low share of first-time homebuyers
in the market compared to historical levels and that student
debt can ``impair the ability of recent college graduates to
qualify for a loan.'' And when young workers are putting large
portions of their income toward student loan payments, they are
less able to stash away cash for that first downpayment.
In submissions by coalitions of small businesses, groups
cited a number of factors about the threat of student debt. For
many young entrepreneurs, it is critical to invest capital to
develop ideas, market products, and create jobs. But high
student debt burdens require these individuals to take more
cash out of their business so that they can make monthly
student loan payments.
The American Medical Association wrote that high debt
burdens can impact the career choice of new doctors, leading
some to abandon caring for the elderly or children for more
lucrative specialties.
Student debt can also impact the availability of other
professions critical to the livelihoods of rural communities.
According to an annual survey, 89 percent of veterinary
students are graduating with debt, averaging over $150,000 per
borrower. Veterinarians encumbered with high debt burdens may
be unable to make ends meet in a dairy medicine or livestock
management practice in rural areas.
Classroom teachers submitted letters detailing the impact
of private student loan debt, which do not always offer the
income-based repayment options or loan forgiveness programs.
When there was concern about the domino effect of problems
in the capital markets, policymakers took action. In 2008,
distress in the credit markets led the Federal Government to
enact policies to assist financial institutions to raise
capital for student loan issuance. While programs like the
ECASLA and TALF were primarily designed to assist financial
institutions to originate more loans, understanding them might
be useful for policymakers seeking to address some of the
market failures faced in this market.
In our recent report on student loan affordability, we
discussed a number of ideas put forth by the public. I want to
briefly note two that might increase private capital
participation and market efficiency.
The first is spurring loan restructuring opportunities.
Most private student loans have few options available for
alternative repayment plans. Policymakers might look to provide
a path forward for borrowers in distress, creating a
transparent step-by-step process that leads to affordable
payment terms where monthly payments can match a reasonable
debt-to-income ratio and repayment of the loans can be more
affordable. This may be helpful to financial institutions as
well who can recognize a higher net present value of loans in
distress.
The second is jump-starting a student loan refinance
market. For borrowers who have dutifully managed their monthly
payments on high interest rate loans, many raised the need for
a way to refinance. This approach could give responsible
borrowers the opportunity to swap their loan for one with a
lower rate. When mortgage borrowers and others see rates
plummet, they try to refinance. Responsible borrowers should
have that option, too.
Thank you for the opportunity to share insight on the state
of the market, and I look forward to any questions you have.
Chairman Johnson. Thank you, Mr. Chopra.
Mr. Lyons, please proceed.
STATEMENT OF JOHN C. LYONS, SENIOR DEPUTY COMPTROLLER, BANK
SUPERVISION POLICY AND CHIEF NATIONAL BANK EXAMINER, OFFICE OF
THE COMPTROLLER OF THE CURRENCY
Mr. Lyons. Chairman Johnson, Ranking Member Crapo, and
Members of the Committee, I appreciate this opportunity to
discuss the OCC's supervisory approach to private student
lending conducted by national banks and Federal savings
associations. Promoting fair and equitable access to credit,
including education financing, is a core OCC mission and one of
our highest priorities.
Financial assistance is an important means of helping
promote higher education in this country. National banks and
Federal savings associations have a long history with Federal
and private student lending programs, but they make up just 3
percent of the approximately $1 trillion in outstanding student
loans in this country today. However, the private student loans
offered by national banks and thrifts provide an important
supplement for many students seeking to finance their
educations.
For most consumer loans, such as auto loans, the
underwriting structure and management of the loans are
straightforward. The funds serve a specific purpose, and the
source of repayment is well defined and easily assessed at the
loan's origination.
Student loans, however, pose unique challenges for lenders
and borrowers. For example, student loans often require a
several-year commitment that extends beyond when the student
starts school until repayment begins after the education is
complete. Private student loans are usually unsecured, and a
significant time may pass between when the lender advances the
funds and when that student reaches their anticipated earnings
potential.
In addition, because the Government does not guarantee
private student loans as it does Federal student loans, many
lenders require cosigners to help ensure repayment.
Notwithstanding the challenges of private student lending,
we expect national bank and thrift lenders to provide
flexibility to borrowers when appropriate. For example, lenders
typically defer payments while borrowers are in school and
offer grace periods afterward to help borrowers transition to
employment. Student loans are the only consumer product with
such a transition period. This flexibility reflects the unique
circumstances of the student borrower and that these loans
truly are an investment in the borrower's future.
We also encourage lenders to work with borrowers who
experience financial hardship. That assistance may come in the
form of forbearance, modification programs that reduce interest
rates or change other terms of the original loan, or extended
grace periods that go beyond what is permitted in other
consumer loans for up to 12 months. The OCC supports these
efforts and issued guidance to our examiners in 2010 describing
our expectations for managing forbearance, workout, and
modification programs.
While the OCC encourages national banks and thrifts to work
with borrowers facing difficulties, this does not relieve these
institutions of their responsibility to ensure that regulatory
reports and financial statements are accurate and
representative of the financial condition of the institution.
Neither the public nor the banking industry should confuse the
expectation for full and accurate reporting as a limit on
available forbearance, workout, and modification programs.
To be clear, our Student Lending Guidance allows
flexibility for lenders to offer forbearance and modification
programs, but requires banks to report the volume and nature of
these transactions accurately. The flexibility to assist
borrowers and the responsibility to report these actions
accurately are not mutually exclusive. Together they promote a
safe and sound banking system.
My testimony concludes with a discussion of a number of
policy recommendations to strengthen student lending. Overall,
the OCC supports recommendations aimed at improving the
transparency of student loans to help students and their
families make better informed decisions. Likewise, we support
loan documents and billing statements that are easy to read and
understand.
In closing, while private student lending is a small part
of the available financial assistance in this country, it is an
important part, and we encourage banks to work with troubled
borrowers during periods of hardship.
Thank you for the opportunity to testify, and I would be
happy to answer your questions.
Chairman Johnson. Thank you, Mr. Lyons.
Mr. Vermilyea, please proceed.
STATEMENT OF TODD VERMILYEA, SENIOR ASSOCIATE DIRECTOR,
DIVISION OF BANKING SUPERVISION AND REGULATION, BOARD OF
GOVERNORS OF THE FEDERAL RESERVE SYSTEM
Mr. Vermilyea. Chairman Johnson, Ranking Member Crapo, and
other Members of the Committee, thank you for the opportunity
to testify at today's hearing. First, I will discuss recent
student loan market trends and the portfolio performance of
both Government-guaranteed and private student loans. I will
then address the Federal Reserve's approach to supervising
financial institutions engaged in student lending.
The student loan market has increased significantly over
the past several years, with outstanding student loan debt
almost doubling since 2007 from about $550 billion to over $1
trillion today. Balances of student loan debt are now greater
than any other consumer loan product with the exception of
residential mortgages, and this is the only form of household
debt that has continued to rise during the financial crisis.
Since 2004, both the number of borrowers and the average
balance per borrower has steadily increased. In 2004, the share
of 25-year-olds with student debt was just over 25 percent, and
it stands at more than 40 percent today. At the end of 2012,
the average balance per borrower was slightly less than $25,000
compared with an average balance of just over $15,000 in 2004.
Of total student debt outstanding, approximately 85 percent
is Government-guaranteed in some way while private loans
represent 15 percent of the market. While Federal student loan
originations have continued to increase in each year, private
loan originations peaked in 2008 at roughly $25 billion and
have dropped sharply to just over $8 billion in 2012.
In line with the rapid growth in student loans outstanding,
the balance of student loans, private and guaranteed, that are
currently delinquent has risen sharply, standing at 11.7
percent in 2012, a large increase from 6.3 percent in 2004.
However, some 44 percent of balances are not yet in their
repayment period, and if these loans are excluded from the data
pool, the effective delinquency rate of loans in repayment
roughly doubles to 21 percent.
Of the $1 trillion in total outstanding student loan debt,
about $150 billion consists of private student loans. In the
private student loan market, roughly 5 percent, or $8 billion,
is delinquent. There are likely a number of factors underlying
the difference in performance of Government-guaranteed and
private student loans. For instance, underwriting standards in
the private student loan market have tightened considerably
since the financial crisis, and today almost 90 percent of
these loans have a guarantor or cosigner.
The Federal Reserve has no direct role in setting the terms
of student loan programs. The Federal Reserve does, however,
have a window into the student loan market through our
supervisory role over some of the banking organizations that
participate in this market.
Federal Reserve supervision of participants in the student
loan market is similar to our supervision of other retail
credit markets and products. For large institutions, the
Federal Reserve regulates with significant student loan
portfolios, our onsite examiners evaluate institutions' credit
risk management practices, including adherence to sound
underwriting standards, timely recognition of loan
deterioration, and appropriate loan loss provisioning.
The Federal Reserve and other Federal banking agencies have
jointly developed guidance outlining loan modification
procedures that discusses how banks should engage in extension,
deferrals, renewals, and rewrites of closed and retail credit
loans, which include student loans.
Any loan restructuring should be based on a renewed
willingness and ability to repay and be consistent with an
institution's sound internal policies. The Federal Reserve
encourages its regulated institutions to work constructively
with borrowers who have a legitimate claim of hardship.
Moreover, Federal Reserve examiners will not criticize
institutions that engage in prudent loan modifications but,
rather, view modifications as a positive action when they
mitigate credit risk.
As supervisors, our goal is to make sure that lenders work
with borrowers having temporary difficulties in a way that does
not contradict principles of sound bank risk management,
including reflecting the true quality and delinquency status of
student loan portfolios.
Higher education plays an important role in improving the
skill level of American workers. Due to increases in enrollment
and the rising costs of higher education, student loans play an
important role in financing higher education. The rapidly
increasing burden of student loan debt underscores the
importance of today's hearing.
This concludes my prepared remarks, and I would be happy to
answer any questions you have.
Chairman Johnson. Thank you, Mr. Vermilyea.
Ms. Eberley, please proceed.
STATEMENT OF DOREEN R. EBERLEY, DIRECTOR OF RISK MANAGEMENT
SUPERVISION, FEDERAL DEPOSIT INSURANCE CORPORATION
Ms. Eberley. Chairman Johnson, Ranking Member Crapo, and
Members of the Committee, thank you for the opportunity to
testify on behalf of the FDIC on the important topic of private
student loans.
In today's fragile economic environment, with persistently
high levels of unemployment and underemployment, many consumers
are struggling with debt loads from student loans, both Federal
and private. We understand the concerns of struggling private
student loan borrowers and encourage the banks we supervise to
work constructively with these borrowers.
While it is difficult to be precise about the size of the
private student loan market, it is estimated that, as of
December 31, 2011, the market totaled about $150 billion, or 15
percent of all student loans outstanding. In the 2011-12
academic year, banks supervised by the FDIC held about $14
billion in outstanding private student loans and originated
about $4 billion in new loans.
The FDIC supervises private student loan lenders using the
same framework of safety and soundness and consumer protection
rules, policies, and guidance as for other loan categories. The
interagency Uniform Retail Credit Classification and Account
Management Policy, or Retail Credit Policy for short, applies
to student loans as it does to other unsecured personal loans.
This policy provides institutions with guidance on classifying
retail credits for regulatory purposes and on establishing
policies for working with borrowers experiencing problems.
Private student loans held by FDIC-supervised institutions
are generally performing satisfactorily. They have a past-due
ratio of just under 3 percent and a charge-off rate of just
over 1.5 percent per year. While the overall performance of
these private student loans is satisfactory, we understand that
many borrowers are currently having difficulty repaying their
loans, and we encourage the banks we supervise to work with
troubled borrowers using the guidance provided by the Retail
Credit Policy.
The Retail Credit Policy provides institutions flexibility
in offering prudent loan modifications. Institutions are
responsible for establishing their own modification standards
within the principles set forth within the Retail Credit
Policy. They must also monitor the performance of modified
loans to ensure that their standards are reasonable. We make
clear to our institutions that we will not criticize banks for
engaging in alternate repayment plans or modifications that are
consistent with safe and sound practices. In the end, prudent
workout arrangements are in the long-term best interest of both
the financial institution and the borrower.
Under the policies they established, FDIC-supervised banks
offer troubled borrowers forbearance for periods ranging from 3
to 9 months beyond the initial 6-month grace period after
leaving school. In addition, a number of workout plans are also
available to borrowers of institutions we supervise, including
interest rate reductions, extended loan terms, and in
settlement situations, principal forgiveness.
However, it is important that workout programs not leave
the borrower worse off. For example, a workout that results in
significant negative amortization can leave a borrower deeper
in debt.
Concerns have been raised that troubled debt restructuring
accounting rules, or TDR rules, limit a bank's ability to
modify student loans. The TDR rules are established by
generally accepted accounting principles, which banks are
required by law to follow. However, the TDR rules do not
prevent institutions from working with borrowers to restructure
loans with reasonable terms. The FDIC will not criticize a
restructured loan even if it is designated a TDR.
We also appreciate the significant challenges borrowers
face for refinancing higher-rate private student loans. One of
the more important challenges is the lack of participants in
the refinance market.
The FDIC continues to seek solutions for challenges in the
student lending arena. In the new few weeks, we intend to issue
a financial institution letter to the banks we supervise
clarifying and reinforcing that we support efforts by banks to
work with student loan borrowers and that our current
regulatory guidance permits this activity. The financial
institution letter will make clear that banks should be
transparent in their dealings with borrowers and make certain
that borrowers are aware of the availability of workout
programs and associated eligibility criteria.
We have also formed an internal work group to engage
private student loan lenders and consumer groups on these
issues. We are discussing our current policies and the
refinancing challenges with other regulators to determine
whether additional clarifications or changes of current
policies may be needed.
Thank you again for inviting me to testify. I look forward
to your questions.
Chairman Johnson. Thank you, Ms. Eberley, and thank you all
very much for your testimony.
As we begin questions, I will ask the clerk to put 5
minutes on the clock for each Member.
This question is for the whole panel. If Congress fails to
act, interest rates will double on some Federal Stafford loans
next week. If these rates double, what do you think the impact
will be on the private student loan market? What steps are your
agencies taking to closely monitor the situation and any
related growth in the private student lending market? Mr.
Chopra, let us begin with you.
Mr. Chopra. Well, the data in the Federal student loan
interest rates only impacts future borrowers, so it has
absolutely no impact on private student loan borrowers who are
currently trying to refinance to pay back those loans.
Some industry observers would guess that the change in the
interest rates might be a slight tail wind to private loan
origination, but I do not expect it to be a huge one.
Chairman Johnson. Mr. Lyons.
Mr. Lyons. I think what you may see in the private loan
market is risk-based pricing, which is what they should be
doing today, and I think you should see that continuing
forward. It all is predicated on the competition within the
market and with the competitors of pricing as well.
Chairman Johnson. Mr. Vermilyea.
Mr. Vermilyea. If pricing in the Government space were to
increase, we would expect that the relative attractiveness of
the price of products would increase, so we would expect growth
in new originations. Our examiners would monitor this. They
would monitor underwriting standards. As the importance of the
asset class increased, their scrutiny of it would increase
commensurately.
Chairman Johnson. And, Ms. Eberley?
Ms. Eberley. I think that there would definitely be an
impact on borrowers in the Federal program going forward, as
Mr. Chopra noted, with the increase in interest rates. But the
impact on the private market I think is really unclear. As
noted by Mr. Lyons, the private market does engage in risk-
based pricing, and so the pricing of the Federal loan product
is not really a factor in the private loan product.
I would add that I would expect that students would
continue to try to exhaust Federal loans first before moving to
private loans just because of the available options under the
Federal loan program for repayment and rehabilitation in
particular that are not available under the private program.
Chairman Johnson. Mr. Lyons, followed by Mr. Vermilyea and
Ms. Eberley, the agencies do not have public guidance tailored
to private student lending, instead relying on an interagency
policy on retail credit that was last updated over 13 years
ago. Some have suggested that this guidance prevent private
lenders from granting appropriate relief to struggling
borrowers.
What flexibility do lenders have in working with borrowers
to prevent default? And what additional steps will your
agencies take to provide clear, up-to-date loan workout
guidance for private student lenders? Mr. Lyons.
Mr. Lyons. Senator, the interagency guidance, as you said,
was prepared 13 years ago. The OCC in 2010 provided some
additional guidance to our examiners addressing forbearance,
workout programs, and so on, and it was really driven by the
fact that banks were not properly recording transactions,
workout transactions and forbearance transactions on their
books. So we provided examiners with clarification and further
guidance, and as I said, that was in 2010.
Having said that, we continue to encourage banks to work
with customers. There is nothing in the guidance, either the
uniform retail guidance or the OCC guidance, that prevents a
bank from working with a customer. The bank, however, does have
the responsibility of properly recording that transaction on
their books.
Chairman Johnson. Mr. Vermilyea, do you have anything to
add?
Mr. Vermilyea. The retail loan guidance is very broad in
nature and articulates timeless principles of risk management.
It is not a prescriptive piece of guidance. It does not declare
certain types of things out of bounds, but instead encourages
banks to work with their borrowers when they can reaffirm the
ability and willingness of the borrower to repay.
Chairman Johnson. Ms. Eberley.
Ms. Eberley. I believe that the Retail Credit Policy
guidance does offer institutions the flexibility to work with
borrowers, and, in fact, the institutions that the FDIC
supervises have used that flexibility and offer a range of
workout programs. The one that I highlighted earlier was a
differing range of forbearance after the initial 6-month grace
period. Forbearance periods range from 3 to 9 months in the
institutions we supervise.
So we have not set forth anything concrete or prescriptive,
but our institutions are using the flexibility and the guidance
in the way that it was intended.
Chairman Johnson. Senator Crapo.
Senator Crapo. Thank you, Mr. Chairman.
Mr. Chopra, last month, the Bureau published a report on
the effects of student debt on young people's economic futures,
and in that report you make several policy recommendations,
including spurring a more robust refinancing market, offering
more relief options, and a possible credit report clean slate
program. It is my understanding that some of these proposals
may require legislative changes.
Have you heard from the lenders and the regulators about
the merits of these programs? And do you believe that the
lenders currently have the tools and legal authority to
participate in these programs?
Mr. Chopra. Well, all of those suggestions that we put
forth in the report were a summary of public comments that we
received, and many of them, in fact, would not require
legislation.
In order to maximize the value of a troubled loan
portfolio, banks and other financial institutions generally go
through the process of identifying interventions that would
increase the net present value of those loans. As the other
panelists have mentioned, restructuring those loans is
something where safety and soundness as well as helping
borrowers seem to go hand in hand, and I share the concern of
many investors, both equity and debt, who would like to see
financial institutions maximize the value of these portfolios.
It also ensures that those customers become lifelong loyal
customers and can continue to bank with that institution by
borrowing mortgages, auto loans, and other things that may
provide higher net income to that institution.
Senator Crapo. Thank you. And for the other regulators, I
have heard from many lenders that they are willing to offer
more relief options. However, if the lender does modify a
student loan, then they have to account properly for
modifications on their books under the GAAP accounting
standards. And a high number of modifications could signal to
the prudential banking regulators that the lender's loan
portfolio is not safe or sound.
Thus, we have a situation in which the CFPB is advocating
for certain relief options that may not be possible under
current guidance and prudential banking regulations.
First of all, is that correct? And how can lenders offer
loan modifications without running afoul of the safety and
soundness and accounting standards that they now must qualify
under or must pursue? Mr. Lyons.
Mr. Lyons. Senator, we encourage banks to work with
customers when they have financial hardships. That would be
reflected in the portfolio regardless of whether they did that
or not. So whether it was a TDR or not, you would probably have
a past due loan and a delinquent loan, so the risk would still
be identified in the portfolio. We encourage banks to work with
customers before they get to the point where it is severely
delinquent.
Banks do have the flexibility of offering a number of
different programs, but as we did say, they are responsible for
accurately reporting those transactions on their balance sheet.
They have a fiduciary responsibility to their depositors,
investors, and shareholders that they accurately report the
risk profile of those portfolios.
Senator Crapo. Thank you.
Mr. Vermilyea?
Mr. Vermilyea. So very similar, we expect our banks to work
with borrowers in a way that benefits both the bank and the
borrower. A restructured loan that is performing is far better
for everyone than a severely delinquent loan or a charge-off.
We also expect banks to follow basic principles of sound
risk management. Typically, for a bank that has a large
portfolio of restructured loans, we would expect them to
segregate these loans from others on their balance sheet and
then monitor the risk characteristics of this portfolio,
understand the probability of default, understand the loss
given default, and then hold appropriate reserves and capital.
If a bank could demonstrate with their data that these
loans performed in the same way as past credits, then that
would be a perfectly appropriate outcome. But we always expect
banks to follow accounting guidelines as well.
Senator Crapo. Thank you.
Ms. Eberley?
Ms. Eberley. I would agree with everything my fellow
panelists have said, that, you know, when you have a troubled
debt restructuring, you by definition have a troubled debt to
begin with. So the actual accounting designation of a TDR
really does not impact the examiner's view of whether or not
the debt was troubled to begin with. It does impact the
examiner's view about the bank's ability to work with that
borrower and turn a problem situation into a better situation.
By definition, a troubled debt restructuring indicates that the
bank is working with the borrower, taking a bad situation and
trying to find a way out.
It is important that our examiners do take a look on the
back end, as Mr. Vermilyea noted, of an institution's results
with their troubled debt restructurings, with their
modifications, to make sure that modification programs are
reasonable and are ending up in a result that is good for both
the consumer and the bank.
Senator Crapo. Thank you.
Thank you, Mr. Chairman.
Chairman Johnson. Senator Reed.
Senator Reed. Thank you very much, Mr. Chairman.
Mr. Chopra, you are responsible for coordinating with the
Department of Education, and also you are responsible for
reviewing the servicers--is that correct--the people who are
servicing these loans?
Mr. Chopra. Yes. The Bureau has a number of initiatives
with the Department of Education and has supervisory authority
over large financial institutions over $10 billion in assets
for consumer financial laws with servicing operations. In
addition, we have proposed supervision of certain large nonbank
servicers.
Senator Reed. Well, let me ask you a question. To what
extent are these loans held by servicers in sort of trust
arrangements, as was common with mortgage securities, or held
directly by financial institutions so that they can, in fact,
negotiate with their customer directly?
Mr. Chopra. As for private student loans, I would say
roughly half are held in ABS trusts where there is a master
servicer and appropriate guidelines, and governing those
changes to the notes would apply. A key difference between
subprime mortgage MBS or private student loan ABS is that it
appears that the servicers, generally speaking, have more
discretion relatively speaking in the mortgage world to
conducting certain interventions that may maximize the value
for those debt investors.
Senator Reed. Are they taking those advantages from your
perspective now as you get ready to regulate them?
Mr. Chopra. Well, our oversight solely relates to consumer
financial laws. There is certainly activity to restructure
certain loans with certain players that service asset-based
securities whose underlying assets are private student loans.
But I think, in general, the activity of modifying or
restructuring debt that may be in the best interest of the debt
investor and the borrower is troublingly low.
Senator Reed. Troublingly low. Thank you.
Mr. Lyons, do you supervise both the banks and the
servicers that are part of the holding companies you supervise?
How does that----
Mr. Lyons. Well, if it is connected in a national bank, we
do supervise a national bank's activities, whether it is on the
bank's books or if it is being serviced by the national bank.
We will look at that activity as well.
Senator Reed. And is it common for banks to maintain a loan
on their books as performing because they hope ultimately to
collect something since these loans are not dischargeable in
bankruptcy?
Mr. Lyons. Student loans are not dischargeable in
bankruptcy. That does not mean that the bank should not under
certain circumstances show impairment or charge that loan off
if it is not performing.
Senator Reed. But do they routinely show impairment or do
they assume that, one, they will collect eventually? Under
accounting rules can they----
Mr. Lyons. Under accounting rules that we enforce, we
expect the bank to show impairments and to take charge-offs
when they become past due, over 120 days, regardless of whether
or not there is----
Senator Reed. And what is the general record of impairment
of student loans today in the institutions you supervise? High?
Low?
Mr. Lyons. There are eight national banks that conduct
private student lending. Each one of those banks has engaged in
some type of workout or forbearance. The number is not very
large. The performance in those portfolios has been pretty
good. As we said earlier, the past due rates are generally in
the 3- to 4-percent range, and the loss rates are generally 4,
4.5 percent. So the performance has been relatively good.
Senator Reed. That is of this vintage loans----
Mr. Lyons. That is the entire portfolio, so that would
cover all vintages.
Senator Reed. OK. And is there any difference between those
loans held by the institution and those held by a servicer
affiliate of the institution?
Mr. Lyons. I am not sure what the servicer portfolios
delinquency rates are. What I quoted you was what is on the
book.
Senator Reed. Mr. Vermilyea, how about the servicer
portfolio? Since the holding company--there would presumably be
a holding company subsidiary. Are you noticing high levels of
default or high levels of modification?
Mr. Vermilyea. Well, the data that we have is very similar
to that cited by our colleague from the OCC. We do not have
data that distinguishes the delinquency and default rate for
loans where the servicer is separate. We can follow up on that.
Senator Reed. Please do so. But, again, I just want to
confirm, Mr. Chopra, from your perspective, your point was that
you are not seeing the kind of modifications numbers that would
follow from the loan crisis that you are seeing in terms of
delinquencies. Is that a fair statement? I do not want to----
Mr. Chopra. There are, of course, usages of forbearances,
as the other panelists have mentioned, but I do not think there
is a significant amount of concessions given by lenders, where
they appropriately note them in their accounting statements and
then modify the loan. It is a very low volume.
Senator Reed. Thank you.
Chairman Johnson. Senator Warren.
Senator Warren. Thank you, Mr. Chairman.
As we have seen in recent studies and as some of our
witnesses have testified today, private student loans carry
high interest rates, they are difficult to restructure, and in
many cases, they have created a barrier for people trying to
buy their first homes. That is why I was surprised that a
Federal Home Loan Bank has been making available an $8.5
billion line of credit to the Nation's largest private student
loan company, Sallie Mae.
The Federal Home Loan Banks were established to expand
homeownership, but now it seems that they are undermining that
goal by helping finance more student loan debt. In addition,
the Federal Home Loan Banks get extraordinarily cheap access to
capital thanks to Government sponsorship, and that cheap
capital was provided to Sallie Mae. And let us be specific on
this. Sallie Mae has been getting this line of credit for one-
third of 1 percent interest, and then turning around and
lending money to students at a rate about 20 times higher than
that.
So yesterday I sent a letter to FHFA Acting Director Ed
DeMarco because he regulates the Federal Home Loan Banks, but
you are all experts, so I want to ask you about this, too. Does
it make any sense for a Fortune 500 company that makes high-
profit student loans to be able to borrow money for less than
one-third of 1 percent from a program that has Federal backing
for homeownership? Mr. Lyons, how about if we start with you?
Mr. Lyons. Senator, the OCC does not regulate Sallie Mae
so----
Senator Warren. I understand that. I understand that.
Mr. Lyons. I am not familiar with that program.
Senator Warren. But I am asking you the fundamental
question. They are getting money at a third of 1 percent.
Mr. Lyons. Right.
Senator Warren. And then turning around and lending it to
students at many multiples of that.
Mr. Lyons. Senator, can I please speak to national banks?
The rates that the national banks are charging for private
student loans today are comparable to what are being charged
for Federal loans. So there is a spread there. National banks
are offering rates LIBOR-plus, relatively the same as Federal
loans. So they are offering in the neighborhood----
Senator Warren. So you are telling me it is like Federal
loans, which this year will make $51 billion in profits for the
Federal Government. I am not sure I find that reassuring.
Ms. Eberley, do you have any comment on the question about
the Federal Home Loan Bank Board's lending to Sallie Mae at a
third of 1 percent?
Ms. Eberley. So I think the issue you are raising is a
public policy issue. The Federal Home Loan Bank is authorized
to make loans that are secured by the former Federal loan
program collateral, so loans that were issued by institutions
with a Federal guarantee. So that is allowed under----
Senator Warren. I am not asking the question whether or not
they behaved illegally. I am really asking the question if they
are there to promote homeownership. I think we have heard from
our witnesses today that homeownership may be undermined, that
there is data suggesting that homeownership is undermined by
the growing amount of student loan debt. And so I see the
Federal Home Loan Bank Board seems to be heading in opposite
directions at the same time.
Mr. Chopra, do you have any comment on this?
Mr. Chopra. I have no idea as to why----
Senator Warren. Hit your button.
Mr. Chopra. Oh, I am sorry. I have no idea about the
appropriateness of that arrangement. It is true, though, that
data would suggest that student loan borrowers are now less
likely to have a mortgage.
Senator Warren. All right. Well, that is a helpful point in
it, but really worrisome about the policy that we are following
here.
Let me ask another question. I understand when we first
started why we called student loans ``subsidized.'' But this
year, the Government will profit $51 billion from the student
loan program. The new loans will make a profit of $184 billion
over the next 10 years. And it turns out that even the so-
called subsidized loans make a profit of about 14 cents on the
dollar. The student interest rate is scheduled to double July
1st, and so the question I have is: Why do we call these loans
``subsidized''? I do not get this. Why are they called
``subsidized''? Mr. Lyons?
Mr. Lyons. Senator, you are referring to the Federal
program that national banks do not lend into. They lend into
the private market, so I would be happy to discuss the private
market.
Senator Warren. I take that as a no.
Mr. Chopra?
Mr. Chopra. Well, the reason that it is called
``subsidized'' is because in the old bank-based program, where
they gave Federal loans that were guaranteed, the Government
paid subsidies to the financial institutions for interest
accrued during periods such as being in school.
Senator Warren. Are we doing that anymore?
Mr. Chopra. No. That program has ended.
Senator Warren. No. So we call these ``subsidized'' loans
even though today the program has been completely changed and,
in fact, is making a profit for the U.S. Government.
I just want to say, you know, this just seems wrong to me,
Mr. Chairman. The Government lends to banks at three-quarters
of 1 percent interest, then does a huge markup on student
loans, and will make $51 billion in profits this year. Sallie
Mae borrows at one-third of 1 percent in a program that is
supported by the Federal Government and then does a markup on
student loans. It is time for the Government to stop making a
profit off our students.
Thank you, Mr. Chairman.
Chairman Johnson. Senator Brown.
Senator Brown. Thank you, Mr. Chairman.
Mr. Chopra, give me your thoughts on our REFI for the
Future Act, in answering some of the questions and concerns on
the $150 billion outstanding, and for the future, what this
means for private bank loans.
Mr. Chopra. So without knowing specifics, I can say that it
is absolutely important that we address the large population of
existing borrowers and not just the new borrowers. Many of
those existing borrowers were certainly victims of a financial
crisis that they played no role in creating, and they wonder
why they have been unable to take advantage of today's
historically low rates. And just as in 2008, there were market
failures that provided for temporary authorities to ensure
financial institutions could originate loans, but there are no
authorities currently to jump-start that sort of market. So it
seems that it is worthy of very careful consideration.
Senator Brown. Thank you. This is for all of you. Student
loan debt, as a number of people have pointed out, Senator
Crapo and the Chair and others, is the second largest form of
consumer debt behind mortgages. And I see some similarities
between these two issues, these two lending institutions in
some sense, if you will. The biggest banks we hear repeatedly,
finding out more information last week, are doing a generally
poor job complying with the national settlement over their
improper foreclosure practices. Homeowners have had some of the
same problems that responsible student loan borrowers are
having. They cannot refinance, they cannot negotiate a deal for
an alternative repayment arrangement with the institution with
whom they have their mortgage. But some large financial
institutions are at least trying to pursue some mortgage
modifications to stem their losses. But with the student loan
market, it does not seem like that refinancing is happening,
with very, very, very few exceptions. Despite the Federal
Reserve's testimony that student loan modifications are
generally in the best interest of both the institution and the
borrower, can lead to better loan performance, increased
recoveries, reduce credit risks, and that they will view such
modifications as a positive action when they mitigate credit
risk.
So even though the regulatory bodies are saying this makes
sense for banks to begin to refinance some of this $150 billion
in outstanding student debt, why--I understand this is a small
portfolio for Citibank or for some of these large
institutions--the student loan market is not very large,
relatively, for them. But each of you answer, why are the banks
not willing--when regulators are saying this makes sense, when
common sense suggests that this makes sense to refinance, why
are the large banks simply not coming to the table to refinance
these student loans? I will start with you, Ms. Eberley.
Ms. Eberley. Certainly. It is a good question why there is
not an active refinance market for student debt. There is
nothing in regulatory policy or practice that prohibits
borrowers from refinancing their student debt. None of the
institutions that FDIC supervises uses prepayment penalties or
anything that would prevent a borrower from actually engaging
in a refinance. Part of it may be that the interest rates
relative to other unsecured consumer debt available through
banks is actually priced a little higher than student debt is,
so that may be one factor.
The underwriting criteria used by the institutions that
FDIC supervises usually requires a guarantor, which means the
debt is underwritten at a rate that reflects that you have
already got an established borrower listed on the debt. So you
may be starting out with a low rate to begin with based on that
established credit history as opposed to a student on their
own. So that does not address any legacy loans that are
outstanding, that are at higher rates of interest, or that were
not cosigned. You know, so it is unclear why there is not an
active market to meet apparent demand. So I think the proposal
is very interesting, and that is something we would be
interested in working with you on.
Senator Brown. Mr. Vermilyea, this issue of too big to fail
with these largest banks, it is coming back again. Is this sort
of a too big to care sort of situation with these large banks
with a relatively smaller portfolio, they are just sort of
disdainful of doing anything with refinancing student loans?
Mr. Vermilyea. I do not think it is too big to care. I
think they are interested in profit opportunities where they
can find them. I would associate myself with the response from
the FDIC. It is not clear why this is not happening more. Our
regulatory policy would certainly permit it, indeed encourage
appropriate workouts. So like the FDIC, we are interested in
exploring this further.
Senator Brown. Mr. Lyons.
Mr. Lyons. Senator, I would echo the comments of my fellow
regulators. I think also it may reflect some market
inefficiencies like competition as well. As Ms. Eberley said,
many of the student loans, private student loans today, are
priced off of a cosigner, so they are actually at a lower rate
than would normally be the situation. So, that may also factor
into why we are seeing low refinancing opportunities.
Senator Brown. Mr. Chopra.
Mr. Chopra. Well, as you mentioned, net income from private
student loans is a very small fraction for large financial
institutions. As we note in our report, many of those financial
institutions' senior management are still addressing legacy
issues of troubled portfolios, particularly in the residential
mortgage space, that may be occupying significant management
bandwidth, including issues with the flexibility and agility
with their IT and accounting systems.
Senator Brown. All right. Mr. Chopra, your comments earlier
about, you know, establishing--what puzzles me further about
this that you mentioned earlier was that these institutions
that are simply not--that seem indifferent to if not hostile to
refinancing are the same institutions that I would think would
want these young people to whom they lend this money to be
lifelong customers and get a mortgage someday when they can pay
off their student loans and start businesses and all the
things--and use these banks with whom they have a relationship.
But that does not seem to be the case.
Thank you, Mr. Chairman.
Chairman Johnson. Senator Merkley.
Senator Merkley. Thank you, Mr. Chair, and I am going to
start by addressing something. As we were sitting here, the
Supreme Court released a ruling eviscerating the Voting Rights
Act, and I am deeply disturbed about that. The strategy of
voter suppression has been used against blacks, Latinos,
elderly, the poor, immigrants. We had a situation in our
history where New York City politicians held registration days
on Jewish holidays to keep Jewish individuals from voting. We
have had all kinds of forms of efforts to not embrace the full
ability of citizens to participate in our democracy. And today
we have strategies that include voter ID laws, the reduction of
early voting hours, the drawing of discriminatory districts,
and so we are not in an era free of a strategy to block
people's ability to participate as full citizens, and I think
it is deeply disturbing, the 5-4 decision that just came out is
deeply disturbing.
The topic we are addressing right now on the cost of
student loans, it seems like we have a new form of debtor's
prison for our students because the loans, in combination with
interest rates, mean individuals are having to delay living
independently, delay marriage, cannot get a loan to buy a
house, or if they do, their credit score, because of the debt
that they carry, is lower so they have to pay a lot more in
interest to buy a home. They cannot get a loan to start a
business. They may be disadvantaged in employment interviews.
All of these are factors that compromise one's ability to
thrive.
And one of the pieces that is disturbing to me is these
private loans vary their interest rates according to the credit
background of the applicant even though the loans are
guaranteed, which means that if you come from a background in
which you have less wealth, you are going to pay a higher price
over a very long period of time to get an education, thus
locking in inequities from one generation to the next.
Are any of you disturbed by that bias in the system? And if
so, what do you think we should do? Doreen, or Ms. Eberley,
perhaps we can start with you.
Ms. Eberley. So I may have misunderstood the question, but
the private student loans that we have supervisory
responsibility for, the lenders that make those loans, those
loans share a similarity with Federal student loans in that
they are not dischargeable in bankruptcy, but they are not
guaranteed by the Government. So that is a key distinction. So
the institutions bear the risk of loss for a default on those
loans.
Institutions are offering--the institutions that we
supervise are offering a choice of either a variable or a fixed
rate of interest at the onset of the lending agreement. So the
current variable rate of interest ranges between 3 and 9
percent, the fixed rate between about 5.5 and 11.5.
Senator Merkley. Is it fair to say someone from a
background where they have less wealth, less assets, is more
likely to pay the 9 percent than the 3 percent and, therefore,
pay a much higher price for their education?
Ms. Eberley. So it is true that an individual that had a
less strong credit history would pay a higher rate of interest.
Senator Merkley. So yes. The answer is yes?
Ms. Eberley. It is risk-based, yes, based on the
individual's credit history----
Senator Merkley. I take your point on the national
guarantee and thank you for pointing that out.
Does this bother anyone else?
Mr. Chopra. Well, Senator Merkley, the private student
loans are often underwritten to the FICO score and income of a
cosigner. So for borrowers whose parent, say, is not very
creditworthy, they, in fact, would have a higher rate when they
were freshmen. I think that many of them wonder, once they do
graduate and land a very good job, they wonder that given their
risk profile may have considerably shrunk, they have developed
their own credit history, why they are unable to find a product
in the market that is a lower risk-adjusted price.
Senator Merkley. And they wonder about that because they
are not able to refinance?
Mr. Chopra. That is right. And I think many of them see the
incredible savings that perhaps their parents, who may be
homeowners and have been able to refinance given today's
historically low interest rates, have been able to take
advantage of.
Senator Merkley. Does the system in general, as we have
described it here, create extra hurdles for those who come to
the education marketplace with poor assets?
Mr. Chopra. Well, there are certainly issues with market
efficiency when price does not seem to match risk, which seems
to be an issue.
Senator Merkley. Mr. Lyons, is there kind of a bias that
reinforces differences in background?
Mr. Lyons. Senator, I do not know that answer. I would echo
what Doreen Eberley indicated, that we expect banks to risk-
price. They do risk-price. To the extent a student utilizes all
of his Federal grants and loans and then has to move to a
student loan, a private student loan, that loan would be risk-
base priced.
Senator Merkley. If you have a loan that is 9 percent
versus one that is 3 percent, would it be fair to say that by
and large the cost of the loan is going to be 3 times as high?
Mr. Lyons. Not necessarily 3 times, but it will be more
expensive, yes.
Senator Merkley. The interest rate will be 3 times as high.
Mr. Lyons. Yes, the interest rate is 3 times as high.
Senator Merkley. And, thus, a low-income student, a student
with parents who are cosigning who have a poor credit record
might pay 3 times as much in interest over the course of the
loan.
Mr. Lyons. To the extent it is a higher risk, the bank
would charge a higher rate of return, yes.
Senator Merkley. Thank you.
Thank you, Mr. Chair.
Chairman Johnson. Senator Heitkamp.
Senator Heitkamp. Thank you, Mr. Chairman.
Just a couple of points, and I do not remember if it was
Mr. Lyons or Mr. Vermilyea who gave us the side-by-side
comparison, 2004 to today. I think it was you. You might want
to add another statistic to your record there. Fifty-five
percent of all private loans in 2005 had a cosigner; today it
is 90 percent. We are not only mortgaging our kids' future; we
are mortgaging their parents' future, their grandparents'
future, and we are putting their homeownership and their
retirement at risk.
This is a big issue, the issue of cosigning, and so I just
raise that because I think it is important to put that on the
table.
A couple issues--one on transparency and one on a recent
visit that I had in North Dakota where I had a chance to sit in
the car and actually listen to the radio, and this is for Mr.
Chopra. Have you seen the 1-800 numbers or heard the 1-800
numbers, ``Get yourself out of student debt trouble. We are
here to help''? They sound a lot like the predatory lending
that we have experienced over the last how many years with home
mortgages or consumer debt, credit card debt. And I see an
entrance now or an opportunity to move into that market by
people who are engaged in predatory lending practices, and I am
wondering if you guys are monitoring that, paying attention,
and if there is anything Congress should be doing right now,
you to educate students but us to get out ahead of it on a
regulatory basis.
Mr. Chopra. Well, we are certainly familiar with the
increase in debt collection and debt relief activities as the
conditions in the student loan market for many have been quite
challenging. For borrowers who have Federal student loans,
there are marketed services to pay a fee to enroll in certain
programs that may help then get out of default through the
Department of Education, which may be at no cost. So, of
course, we are looking to educate consumers and ensure that all
financial services providers are complying with the law.
Senator Heitkamp. Just to follow up, one suggestion that I
would have--and I know budgets are limited. But the ability to
advertise on the same platform, to educate on the same
platform, is critical, because what--they are not advertising
to kids on, you know, 790 talk radio; they are advertising to
those parents who have cosigned those loans. And that is a big
concern that I have.
Mr. Lyons, you raised a very important point, I think, on
transparency. Anyone recently has had a mortgage has sat down
for almost an hour and a half and done all the due diligence,
signed all of the, you know, awareness--``Yes, we know we are
mortgaging away our life.''
You know, frequently what happens to a kid and their
parents on student loans is that the paper gets slid across the
desk and sign on the bottom line if you want a better future.
And for especially a lot of first-generation college-goers, you
know, there is not maybe a level of sophistication on what the
alternatives are.
And so I am wondering if anyone on the panel, but
particularly you, Mr. Lyons, since you raised the issue, has
some suggestions for what we can do to promote more
transparency in the private marketplace and, you know, whether
that should be mandated, encouraged, or otherwise, you know,
talked about.
Mr. Lyons. Thank you, Senator. I would agree with the
recommendations that the CFPB put forth regarding disclosure
and clear transparency.
Senator Heitkamp. But how do we get banks to do that?
Mr. Lyons. I think that banks have taken steps over the
last several years since the crisis to improve transparency,
and so there are discussions before, during, and after that
they provide the students and the students' family; whereas, in
the past that may not have been the case.
Senator Heitkamp. All right. One thing I would suggest--and
my time is short, and that is why I am interrupting, and I will
follow up with some additional questions. But this needs to be
done in conjunction with institutions of higher learning. I
have a student right now in North Dakota who has $100,000 of
private debt; he is a first-generation student; he is a music
major, and he is living in his parents' basement. His parents,
I am sure, are on the hook for that same level of debt. He will
never retire that debt. He will never get out from underneath
it. And we have guaranteed that by not discharging this debt in
bankruptcy.
And so with a little bit of education about, you know, what
that education is worth compared to the earning power into the
future, and what we need to do to educate kids not only as they
pursue their dreams, but taking a look at what the earning
power is of the choices they make in terms of education
opportunities. And so I think you are only one part of the
problem--I would not say ``problem,'' but you are only one part
of the solution, which is here it is, financial literacy, but
back it up with also education on what the earning potential is
for these students, and maybe banks can be part of encouraging
that as well.
Thank you, Mr. Chairman.
Chairman Johnson. Senator Manchin.
Senator Manchin. Thank you so much, Mr. Chairman.
We were talking about public policy, and I would like to
get your input, since you are part of the public. I think you
are hearing from all of us that we believe that education
being--and the facts are overwhelming that education adds to
the value of not only the person, their well-being, their
families, their communities, their State, and the Nation. We
all, I believe, have that agreement. We are all products of it
probably.
With that being said, is it your opinion that we should not
make a profit on education when it comes to loans? That is a
public policy. We have got to make that. We need your input. So
if I can just start with you, ma'am.
Ms. Eberley. Well, I am not sure if you are talking about
in the Federal sector or the private sector.
Senator Manchin. I am talking about every--public policy,
do you believe public policy should be that profits should not
be made on education loans of any kind, so if we can just kind
of pay itself and break even? Or do you put the same procedures
and the same policies in place as you do any other type of
loans?
Ms. Eberley. I think it is an interesting question, and I
think you would have to differentiate between the Federal
sector and the private sector in answering that question.
Senator Manchin. Not really.
Ms. Eberley. Well, in the private sector----
Senator Manchin. If it is public policy, it is public
policy. So maybe your cost is a little different. Maybe your
whole policy is a little different. But there is still a
spread. There is a spread taking a lot of things in
consideration. Do you believe that spread should be zero or
minimized to the point to where there is no--I am just asking a
simple question.
Ms. Eberley. Yes, I think it would be hard to calculate a
zero spread on the private side just because the institutions
bear the risk of loss, so that there is not the Government
guarantee----
Senator Manchin. You do not have a public opinion then on--
--
Ms. Eberley. So I--you know, it is really not my area of
expertise, and I----
Senator Manchin. You have an opinion. You are public. You
have Representatives, Congress and the Senate. What would you
say to your Congressman and Senator?
Ms. Eberley. You know, I would have to think about it. I
have not thought through this.
Mr. Vermilyea. In the private markets, we need to take many
factors into consideration. One is credit availability.
Senator Manchin. I think the simple--I am just asking a
simple public policy. Do you believe--here we sit. Do you
believe that we should not make a profit if we can keep from
making a profit on trying to educate this great society of
ours?
Mr. Vermilyea. My concern would be that if there were a
mandated zero spread, for example, that there may not be credit
availability in the public----
Senator Manchin. So you are saying that basically in the
public--private sector that the almighty profit on every aspect
of life is going to prevail? I am just--I am not--I am a
private business person. I am just saying you have to put your
priorities where your values are. If education is what has
built this country, education has--this is the greatest country
on Earth, how do we get there? And have we left that premise?
And is everything the almighty dollar, the bottom line, to the
point where we are trying to educate the masses? It is a public
policy. You are talking--I am your Senator. What do you want me
to do?
Mr. Vermilyea. Education policy is not in the realm of the
Federal Reserve, and the Governors have not spoken on this
issue, so this is a matter for Congress.
Senator Manchin. OK. Now you know why we have a stalemate
in Congress now, because we cannot even get the public to
engage. That is--and I know you are looking, and you have to be
careful what you are saying. I am just trying to get input.
Sir?
Mr. Lyons. Well, I am not going to expand the discussion
must further, Senator. I do not think it is appropriate for a
prudential regulator to take a public policy position.
Having said that, I think I would echo what the two other
regulators indicated, that it would be difficult to attract
capital to a business that does not provide some profit to the
investors. Just a consideration.
Senator Manchin. And you think that basically the American
public and the investors in American society would not invest
in education knowing that it would be a zero return?
Mr. Lyons. I think that is a possibility that has to be
weighed.
Senator Manchin. OK. Mr. Chopra?
Mr. Chopra. Well, Senator, I agree with others that
investors will not be able to earn a return on equity if they
cannot earn any margin. But as it relates to your general
question of profitability, the only thing I can add is there is
data from a number of sources that does suggest there are
positive externalities of a highly educated workforce in the
sense of global competition, wage growth, and others, and
certainly policymakers may consider that when developing
policies to promote a highly educated workforce.
Senator Manchin. I am talking--primary and secondary
education were mandated by the Constitution and most every
State to subsidize and pay for, which I agree wholeheartedly.
And we all do that willingly. Higher education, there is not a
word in the Constitution in West Virginia that we have to give
a penny toward that. So our Founding Fathers a long time ago
thought this was a high-value, good return, and we got
involved. And we do.
We are talking about a financial program that does not
cost--we are not subsidizing. We are not asking someone to pay.
It will pay for itself. Should we remove the profit where
possible? And I think that is what Senator Warren and all of
us--now, can we find that balance somewhere so that we can all
be satisfied but you can still have enough money that we can
keep the program alive, but we still have taken the amount of
profit out that puts the burden on the backs of productivity? I
think that is it in a nutshell, and that is where we are coming
to, and we have got to--since we are not getting much help from
the input from our constituents, we have got to be able to
cipher through this one to find the balance between our
colleagues on both sides of the aisle.
Thank you, Mr. Chairman.
Chairman Johnson. I want to thank our witnesses for their
testimony today and for their hard work on this important
issue.
This hearing is adjourned.
[Whereupon, at 11:28 a.m., the hearing was adjourned.]
[Prepared statements, responses to written questions, and
additional material supplied for the record follow:]
PREPARED STATEMENT OF ROHIT CHOPRA
Assistant Director and Student Loan Ombudsman
Consumer Financial Protection Bureau
June 25, 2013
Chairman Johnson, Ranking Member Crapo, Members of the Committee,
thank you for the opportunity to testify today about student debt.
My name is Rohit Chopra, and I serve as an Assistant Director at
the Consumer Financial Protection Bureau (Bureau). In October 2011, I
was also designated by the Secretary of the Treasury as the Student
Loan Ombudsman within the Consumer Financial Protection Bureau, a new
role established by Congress in the Dodd-Frank Wall Street Reform and
Consumer Protection Act.
By holding today's hearing, it is clear that many of you are keenly
interested in finding solutions for some of the troubling trends in the
student loan market. Since the Bureau and others began raising concerns
about these trends, several monitors of the financial system have
expressed worry about how student debt could impact the housing market
and other parts of the economy.\1\
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\1\ See, for example, the 2012 Annual Report of the Financial
Stability Oversight Council, the March minutes of the Federal Reserve
Board's Federal Open Market Committee, and the 2012 Annual Report of
the Department of the Treasury's Office of Financial Research.
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The increasing level of student debt has certainly tested us. Most
directly, it has tested Americans working to pay back nearly $1.2
trillion. It has tested our rural areas, many of whom are struggling to
attract young, college-educated people to return and reinvest in their
communities. It has tested aspiring entrepreneurs, who are looking to
create jobs that will help our economy grow, but are often hampered by
student debt. It has tested our doctors and health care professionals,
many of whom cannot afford to pursue less lucrative jobs and serve the
growing population of the elderly. It has tested our realtors and home
builders, who are finding that many young Americans can't pursue their
dream of buying a home. And of course, it is a test for policymakers on
whether or not we will heed the warning signs and avoid the potential
negative impacts of growing student loan debt.
In that vein, the Bureau has been continuously collaborating with
financial institutions, consumers, investors, and other policymakers to
help create a well-functioning market. Together, we can seek to ensure
that borrowers can manage their student loan debt and climb the
economic ladder.
Understandably, many policymakers across the country are seeking to
address some of the underlying drivers of growing student loan debt,
including the rising cost of tuition, as well as interest rate
structures on Federal student loans. However, it will also be prudent
to address the large pool of existing debt owed by millions of
Americans.
I hope my testimony can shed additional light on the structure of
the student loan market and its similarities to the mortgage market,
issues in student loan servicing, potential economic impacts of high
levels of student loan debt, past actions by policymakers to assist
financial institutions, and opportunities to increase efficiency going
forward.
Parallels to the Mortgage Market
Of the approximately $1.2 trillion in outstanding student loan
debt, approximately $600 billion was funded using private capital.
Nearly three-quarters of the privately funded debt met the criteria for
a Government guarantee through the Federal Family Educational Loan
Program (FFELP). Financial institutions holding these FFELP loans enjoy
a range of subsidies, as well as a guaranteed return in excess of
similar duration Treasuries.\2\
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\2\ Congress discontinued the Federal Family Educational Loan
Program in 2010, though $437 billion in balances remain according to
the Department of Education's latest Federal student loan portfolio
data. Almost all new Federal student loans are originated by the
Department of Education under the Direct Loan program.
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While the student loan and mortgage markets may seem completely
different, there are some important similarities. In both the mortgage
and student loan markets, origination of nontraditional products boomed
in the years leading up to the financial crisis. Subprime private label
mortgage-backed securities and private student loan asset-backed
securities grew rapidly. Investor appetite for these assets led to less
stringent underwriting standards, leading many subprime mortgage and
private student loan originators to reduce documentation requirements
and other checks that ensure high-quality loans. A notable portion of
private student loans originated before the crisis did not go through
the basic process of verification of a student's enrollment and
utilization of other loans. These higher-risk loans also came with
higher interest rates.\3\
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\3\ Consumer Financial Protection Bureau and Department of
Education, Report on Private Student Loans (2012).
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Many borrowers with subprime mortgages actually qualified for a
mortgage with a lower rate. Similarly, more than half of private
student loan borrowers did not exhaust their Federal student loan
options, which are generally less expensive and have several attractive
benefits.\4\
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\4\ Consumer Financial Protection Bureau and Department of
Education, Report on Private Student Loans (2012).
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In the mortgage market, many borrowers were unaware of some core
features of their mortgage obligation, such as rate resets and other
surprises. In a report by the Bureau and the Department of Education to
Congress on private student loans, the agencies found that many student
loan borrowers were also unaware of what type of loan they had and that
their private student loans did not have many options for them in times
of distress.\5\
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\5\ Many consumers borrowed both Federal and private student loans
from the same financial institution, which also seems to contribute to
confusion among some consumers.
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While private student loans are a relatively small share of total
outstanding student loan debt, they are disproportionately used by
high-debt borrowers. For undergraduate student loan borrowers
graduating around the time of the unraveling of the financial crisis
with over $40,000 in debt, 81 percent used private student loans.\6\
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\6\ National Center for Education Statistics: National
Postsecondary Aid Study (2008).
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In the years following the crisis, investors would no longer
tolerate the risks associated with many of the practices used to
originate subprime mortgages and private student loans. And like the
mortgage market, underwriting standards for private student loans have
markedly improved, but the existing obligations have not disappeared.
The Quiet Aftershock
The unraveling of the mortgage market and the resulting financial
crisis hit our economy like an earthquake. We are all familiar with the
trillions of dollars lost in asset values, the millions of Americans
who lost their jobs and homes, and the billions of aid deployed to
assist financial institutions.
But less discussed is how the crisis has impacted those who were in
college. When those students graduated with more debt than they had
anticipated, they would also be entering a very difficult job market.
In 2007, jobs for college graduates were more plentiful. Unemployment
among young Americans with college degrees was 7.7 percent. Less than 2
years later, unemployment for young college graduates had more than
doubled, spiking to 15.5 percent.\7\ Many continue to be underemployed
and are working in job fields that may not require a degree.
---------------------------------------------------------------------------
\7\ Bureau of Labor Statistics: Recent college graduates in the
U.S. labor force: data from the Current Population Survey (2013).
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A tough job market meant that many Americans needed to find options
to honor their mortgage and student loan obligations. But both mortgage
and student loan borrowers face two key problems with their servicers.
First, when borrowers do have options, they can still be stymied.
In the mortgage market, borrowers whose loans were owned by GSEs had
options available to them to modify and refinance their mortgages. Even
though some sort of modification may have been in the best interest of
the investor and creditor, many mortgage servicers were unable to
successfully work with troubled homeowners. A member of the Federal
Reserve Board of Governors lamented the ``agonizingly slow pace of
mortgage modifications and repeated breakdowns in the foreclosure
process.''\8\
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\8\ Governor Sarah Bloom Raskin. Speech to the Maryland State Bar
Association Advanced Real Property Institute (2011).
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In the student loan market, many borrowers with Government-
guaranteed student loans owned and serviced by financial institutions
also report difficulty enrolling in Income-Based Repayment and other
programs for borrowers facing hardship.
Second, many borrowers have simply run out of options. For
homeowners whose mortgages were owned by investors in private-label
mortgage-backed securities, they did not always have access to options
that would let them find an affordable payment. The same is true with
private student loan borrowers who may be facing temporary hardship and
looking for an alternative repayment option to get through tough times.
Like a business, a consumer's ability to manage cash-flow is absolutely
critical to financial health. Private student loan providers generally
do not offer this cash-flow management option, which is available to
borrowers of Federal student loans.
For struggling homeowners and student loan borrowers, the
consequences of being unable to find an affordable repayment option are
severe. The impacts of foreclosures may not just be felt by the former
homeowner, but potentially by the entire neighborhood.\9\ And for
private student loan borrowers who default early in their lives, the
negative impact on their credit report can make it more difficult to
pass employment verification checks or ever reach their dream of buying
a home. As of the end of 2011, more than $8 billion of private student
loans were in default, representing 850,000 loans.\10\
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\9\ Frame, W. Scott. ``Estimating the Effect of Mortgage
Foreclosures on Nearby Property Values: A Critical Review of the
Literature.'' Economic Review of the Federal Reserve Bank of Atlanta
(2010).
\10\ Consumer Financial Protection Bureau and Department of
Education: Report on Private Student Loans (2012).
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Canary in the Coal Mine
The importance of adequate servicing in a functioning mortgage or
student loan market cannot be understated. The difficulties faced by
mortgage borrowers were investigated by a wide range of Federal and
State authorities.\11\ Many consumers reported lost paperwork, payment
processing errors, and conflicting instructions. A particularly
disconcerting occurrence involved the foreclosures faced by active-duty
servicemembers, despite prohibitions under the Servicemembers Civil
Relief Act (SCRA).
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\11\ See, for example, http://portal.hud.gov/hudportal/HUD?src=/
mortgageservicingsettlement/investigations.
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Last October, pursuant to the Dodd-Frank Wall Street Reform and
Consumer Protection Act, we submitted a report on complaints faced by
private student loan borrowers.\12\ Unfortunately, many of the problems
reported by these student loan borrowers bear an uncanny resemblance to
those faced by mortgage borrowers. Like in the mortgage market, the
treatment of servicemembers by student loan servicers has been quite
troubling.\13\
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\12\ Consumer Financial Protection Bureau: Annual Report of the
CFPB Student Loan Ombudsman (2012).
\13\ Consumer Financial Protection Bureau: The Next Front? Student
Loan Servicing and the Cost to Our Men and Women in Uniform (2012).
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My colleague Holly Petraeus, who leads the Bureau's Office of
Servicemember Affairs, and I also published a report describing the
obstacles military families face when attempting to use their student
loan repayment benefits provided by applicable laws. For example, men
and women in uniform are entitled to a 6 percent rate cap on their
student loans incurred prior to entering active-duty status, as
provided for by the SCRA. Unfortunately, some servicers have placed
inappropriate requirements on servicemembers seeking the rate cap.
One servicemember saw his request rejected multiple times because
his military orders did not include an end date. This is neither a
requirement of the SCRA, nor feasible for many military officers to
obtain, as their orders usually do not delineate an end date. Another
servicemember with multiple loans sought to reduce the rate on his
highest-rate loans, but the servicer proceeded to raise the rate on the
loans that were below 6 percent. While many of these problematic
practices have subsided since brought to light by this report, we
continue to receive these complaints by military families.
In both the mortgage and student loan markets, improper and
potentially unlawful servicing errors caused harm to servicemembers.
Admittedly, military families are a small segment of the population.
But if a servicer is unable to provide adequate service to those who
have special protections under the law, it raises questions about
whether it is agile enough to deal with the complexities of the larger
population of borrowers facing hardship.
I also share the concerns of prospective investors in this sector,
whose questions about servicer agility will force them to conduct
careful due diligence so that risks are fully understood.\14\
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\14\ In theory, investors could rely on the rating agencies, which
were compensated to evaluate student loan asset-backed securities,
serve to police quality issues, and align incentives of investors,
issuers, and servicers. That alignment appears, in retrospect, to have
been imprecise for certain ABS issuances prior to the crisis.
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Oversight of Student Loan Servicers
In the Dodd-Frank Wall Street Reform and Consumer Protection Act,
the responsibility to supervise insured depository institutions with
over $10 billion in assets for compliance with Federal consumer
financial laws transferred from prudential regulators to the Bureau.
While this includes many servicers owned by large banks with
substantial portfolios of Government-guaranteed Federal student loans,
as well as private student loans, most servicing activity takes place
within the nonbank sector.\15\
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\15\ In March, the Bureau proposed overseeing larger participants
in the nonbank student loan servicing market, to ensure that both banks
and nonbanks are on a level playing field. Comments closed on May 28.
The Bureau is currently considering the public comments on the proposed
rule before reaching any final decisions on the proposed rule.
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In mortgage servicing, consumers struggled with servicers who were
not prepared to handle loss mitigation and loan modification at scale
when the financial crisis hit. In contrast, Federal loan guidelines
have long offered flexibility to struggling borrowers, so student loan
servicers should be able to administer repayment alternatives and other
consumer protections efficiently and effectively. Our supervision
program will look for that and respond if servicers fall short.
Examinations will help determine whether entities have appropriate
processes to ensure that borrowers can enroll in modified payment plans
available to them, payments are appropriately credited to accounts, and
transfers of servicing rights are orderly, among other areas.\16\
---------------------------------------------------------------------------
\16\ The Bureau's student lending examination procedures are
available to financial institutions and the public. See http://
files.consumerfinance.gov/f/201212_cfpb_educationloanexam
procedures.pdf.
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While compliance with existing Federal consumer financial laws is
critical to protect honest businesses faced by unfair competition from
those that cut corners, other structural impediments to repayment of
almost $1.2 trillion in existing debt remain for many borrowers.
Student Debt Domino Effect?
While risks in the student loan market do not appear to jeopardize
the solvency of the broader financial system, unmanageable student debt
may have a broader impact on the economy and society. In February, we
asked the public to provide input on potential policy options to tackle
the problem of unmanageable student debt. We received more than 28,000
responses from experts and individuals impacted by student debt.\17\
Here were some of the potential impacts that participants noted:
---------------------------------------------------------------------------
\17\ For the full docket of submissions to this Request for
Information, see http://www.regulations.gov/#!docketDetail;D=CFPB-2013-
0004.
Homeownership and household formation: The National Association of
Home Builders1A\18\ wrote to the Bureau about the relatively low share
of first-time homebuyers in the market compared to historical levels
and that student debt can ``impair the ability of recent college
graduates to qualify for a loan.'' When monthly student loan payments
are high relative to income, applicants may be deemed less qualified
for a mortgage. The National Association of Realtors \19\ wrote in its
submission that first-time homebuyers typically rely heavily on savings
to fund downpayments. When young workers are putting large portions of
their income toward student loan payments, they are less able to stash
away extra cash for that first downpayment.
---------------------------------------------------------------------------
\18\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-1042.
\19\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-6822.
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Other submissions cited research that showed that three-quarters of
the overall shortfall in household formation can be attributed to
reductions among younger adults ages 18 to 34.\20\ In 2011, two million
more Americans in this age group lived with their parents, compared to
2007.\21\
---------------------------------------------------------------------------
\20\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-7202.
\21\ U.S. Census Bureau: Income, Poverty and Health Insurance in
the United States, P60--239 (2011).
---------------------------------------------------------------------------
Entrepreneurship and small business starts: In submissions by
coalitions of small business and startups,\22\ groups cited a number of
factors about the threat of student debt. For many young entrepreneurs,
it is critical to invest capital to develop ideas, market products, and
create jobs. High student debt burdens require these individuals to
take more cash out of their business so they can make monthly student
loan payments. Others note that unmanageable student debt limits their
ability to access small business credit; some report being denied a
small business loan because of their student loans.\23\
---------------------------------------------------------------------------
\22\ See, for example, http://www.regulations.gov/
#!documentDetail;D=CFPB-2013-0004-7223.
\23\ See, for example, http://www.regulations.gov/
#!documentDetail;D=CFPB-2013-0004-7223 and http://www.regulations.gov/
#!documentDetail;D=CFPB-2013-0004-7195.
---------------------------------------------------------------------------
Retirement security: In its submission, AARP \24\ raised concerns
about families headed by an American ages 50 to 64. The association
wrote that ``increasing debt threatens their ability to save for
retirement or accumulate other assets, and may end up requiring them to
delay retirement.'' Student debt can delay participation in employer-
sponsored retirement plans, leading to lost growth in the critical
early years of a career.
---------------------------------------------------------------------------
\24\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-6831.
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Health care, rural America, and education: The American Medical
Association \25\ wrote that high debt burdens can impact the career
choice of new doctors, leading some to abandon caring for the elderly
or children for more lucrative specialties. Aspiring primary care
doctors with heavy debt burdens may be unable to secure a mortgage or a
loan to start a new practice. This can have a particularly acute impact
on rural America, where rental housing is limited and solo
practitioners are a key part of the health care system.
---------------------------------------------------------------------------
\25\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-0878.
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Student debt can also impact the availability of other professions
critical to the livelihoods of farmers and ranchers in rural
communities. According to an annual survey conducted by the American
Veterinary Medical Association, 89 percent of veterinary students are
graduating with debt, averaging $151,672 per borrower.\26\
Veterinarians encumbered with high debt burdens may be unable to make
ends meet in a dairy medicine or livestock management practice in
remote areas.
---------------------------------------------------------------------------
\26\ See https://www.avma.org/news/journals/collections/pages/avma-
collections-senior-surveys.aspx.
---------------------------------------------------------------------------
Classroom teachers submitted letters detailing the impact of
private student loan debt, which usually don't offer forgiveness
programs and income-based repayment options. One school district
official wrote to the Bureau noting that programs to make student debt
more manageable could lead to higher retention of quality teachers.\27\
---------------------------------------------------------------------------
\27\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-0038.
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Competitive Market?
The student loan market has generally not exhibited signs of robust
competition--even when private market participants dominated. In the
Federal Family Educational Loan Program, financial institutions could
receive subsidies and guarantees if loans met certain criteria.
Congress set statutory interest rate caps; in theory, the most
efficient private actors would attract customers by providing the
lowest possible price on a commodity product.
Unfortunately, this was generally not the case. While lenders made
limited use of incentives, such as waivers of some origination fees,
those who charged the statutory maximum were not competed out of the
market. Even when borrowers were offered various advertised incentives,
most borrowers would never benefit from those incentives.\28\ Instead
of offering competitive prices to student loan borrowers, many
financial institutions drew scrutiny for business models that provided
benefits to schools and financial aid officials, who are able to
strongly influence student loan choices by students and families.\29\
---------------------------------------------------------------------------
\28\ For example, in a 2007 letter, Sallie Mae CEO Tim Fitzpatrick
discussed how just 10 percent of borrowers end up benefiting from
advertised incentives.
\29\ The Attorney General of New York entered settlements and code
of conduct agreements to address this problem in 2007 with many schools
and lenders, including the two largest lenders at the time: Sallie Mae
and Citigroup.
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Servicing of student loans and origination of private student loans
remains fairly concentrated within a relatively limited number of
players. Refinancing activity has been low, potentially due to this
lack of robust competition. In addition, even when both the borrower
and creditor may be better off with some sort of alternative repayment
plan when a borrower is in distress, restructuring activity in the
market is troublingly low.
Like mortgage borrowers, many private student loan borrowers want
to repay their obligations, but simply need an alternative payment plan
to weather tough times in the labor market. In addition, borrowers with
both Federal and private student loans have been frustrated with the
inability to refinance fixed-rate loans to take advantage of today's
historically low interest rates and their improved credit profile.\30\
If these issues are not addressed, there may be a negative impact not
just on consumers, but also on the broader economy.
---------------------------------------------------------------------------
\30\ It is worth noting that the absence of a developed student
loan refinance market may be an impediment to monetary policy
transmission. Savings from low borrowing costs for financial
institutions are not necessarily being passed on to student loan
borrowers with fixed-rate obligations. Given that student loan debt is
the largest form of debt for a large portion of younger households, a
robust student loan refinance market may be a prerequisite for monetary
policymakers to ensure that younger households can accrue benefits from
the low interest rate environment.
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Assisting Financial Institutions in the Crisis
In 2008, distress in the credit markets led the Federal Government
to enact policies to assist financial institutions to raise capital for
student loan issuance. While these programs were primarily designed to
help financial institutions originate more loans, understanding them
might also be useful for policymakers seeking to find ways to increase
efficiency and competition in the market for the benefit of borrowers.
The ECASLA Authority
In 2008, the Ensuring Continued Access to Student Loans Act
(ECASLA) was enacted, providing the Secretary of Education the
authority, with the consent of the Secretary of the Treasury and the
Director of the Office of Management and Budget, to establish
mechanisms to ensure that students and families had continued access to
Federal student loans regardless of conditions in the credit markets.
All programs administered under this authority were required to have no
net cost to taxpayers.
The Secretary of Education exercised this authority to intervene in
the credit markets by creating a number of loan purchase programs, as
well as a complex asset-backed commercial paper conduit that would
pledge Federal support for financial institutions and other lenders
seeking to access funding to finance Federal student loans. ECASLA
permitted the Secretary of Education to purchase certain Federal
student loans, provided that the owners of these Government-guaranteed
loans use the proceeds to originate new Federal student loans for
borrowers.
Another program established by the Secretary (designed by
Citigroup, Morgan Stanley, and a committee of lenders) provided
financing to lenders through issuance of commercial paper. Under this
program, the Government was obligated to buy this commercial paper if
investors do not.\31\
---------------------------------------------------------------------------
\31\ For further information on the asset-backed commercial paper
conduit facility established under the ECASLA authority, see http://
ifap.ed.gov/ECASLA/ABCP.html.
---------------------------------------------------------------------------
Lenders were able to transfer Government-guaranteed existing loans
into a special purpose vehicle, Straight-A Funding, LLC, which in turn
would facilitate the issuance of commercial paper issued to investors.
The Secretary of Education would purchase any commercial paper not sold
to investors, while the Secretary of the Treasury (through the Federal
Financing Bank) provided temporary financing. In total, the conduit
advanced $41.5 billion in commercial paper to assist about two dozen
lenders, who benefit from the Government's lower cost of capital.\32\
---------------------------------------------------------------------------
\32\ While financial institutions no longer originate Federal
student loans, many lenders still have obligations through the
Straight-A Funding, LLC, asset-backed commercial paper conduit
facility. For example, one of the largest participants, Sallie Mae, had
outstanding borrowings of over $16 billion at an average interest rate
of 0.82 percent, as of the end of 2012.
---------------------------------------------------------------------------
The Secretary of Education's actions under the ECASLA authority
injected significant liquidity into the market. Financial institutions
originated tens of billions of dollars in new loans in the subsequent
academic year, potentially due to the favorable cost of capital as a
result of Federal intervention. At the end of 2010, the Secretary of
Education had purchased a total of $110 billion in Federal student
loans from private sector lenders. While there was no budgetary cost to
taxpayers, the asset purchase programs did lead to some cases of
extraordinary gains when holders of Government-guaranteed student loans
sold those loans to the Secretary of Education.\33\
---------------------------------------------------------------------------
\33\ See, for example, SLM Corp., 10-K Annual Report for Fiscal
Year 2009 (2010) and SLM Corp., 10-K Annual Report for Fiscal Year 2010
(2011).
---------------------------------------------------------------------------
The TALF Program
In early 2008, the asset-backed securities (ABS) market came under
intense strain, and by October 2008, the market was nearly frozen.
Because ABS had historically funded consumer and small business credit,
a complete halt in the ABS trading markets would have undoubtedly
limited credit availability to households and small businesses. Citing
``unusual and exigent circumstances'', the Federal Reserve Board
authorized the Term Asset-Backed Securities Loan Facility (TALF), under
section 13(3) of the Federal Reserve Act.\34\
---------------------------------------------------------------------------
\34\ It is worth noting that this authority was subsequently
amended by Section 1101 of the Dodd-Frank Wall Street Reform and
Consumer Protection Act.
---------------------------------------------------------------------------
TALF did not provide loans directly to consumers. The program
provided nonrecourse loans to purchasers of TALF-supported ABS, where
the ABS was held as collateral. In other words, entities could borrow
at attractive rates from the program to purchase qualifying ABS.
Securities backed by Federal student loans and private student loans
were eligible for TALF support. Two student lenders offered
approximately $9 billion in TALF-supported ABS issuances in 2009 and
2010: Sallie Mae and Student Loan Corp (then a unit of Citigroup).\35\
---------------------------------------------------------------------------
\35\ For further information and data on TALF loans and issuances,
visit http://www.federalreserve.gov/newsevents/reform_talf.htm.
---------------------------------------------------------------------------
TALF was successful in jumpstarting ABS issuance of private student
loans. In 2009, the majority of student loan ABS issuances were TALF-
supported, totaling approximately $10 billion. No losses have been
experienced by TALF thus far. All student loan ABS issued under TALF
provided funding for private student loans. While Federal student loans
were eligible, there were no Federal student loan ABS issuances under
TALF.
Path Forward
Last month, the Bureau published a report on student loan
affordability that discusses what we learned from the public about
potential solutions for the market.\36\ During the crisis, policymakers
employed a number of creative tools to revive the student lending
market, as discussed above. Policymakers might now focus on the
following objectives to increase private capital participation and
market efficiency:
---------------------------------------------------------------------------
\36\ Consumer Financial Protection Bureau: Student Loan
Affordability (2013). This report specifically addresses issues policy
options for borrowers in repayment. Pursuant to the Section 1077 of the
Dodd-Frank Wall Street Reform and Consumer Protection Act, the Bureau
and the Department of Education also put forth recommendations to
Congress in July 2012 addressing other aspects of the private student
loan market.
---------------------------------------------------------------------------
Spurring loan restructuring opportunities: Some of those who
submitted comments suggested options to help borrowers in distress,
including those who have fallen behind on private loans.
Most private student loans have few options available for
alternative payment plans. Many of those who submitted to the Bureau's
request for information noted that if lenders had more incentive to
work with borrowers trapped in debt, both could benefit. Policymakers
might look to provide a path forward for those borrowers, creating a
transparent step-by-step process that leads to affordable payment terms
where monthly payments can match a reasonable debt-to-income ratio and
repayment of the loans can be more affordable.
Even if such a program required public funds, or a sharing of the
cost between the public sector and the owners of the loans, the
economic benefits of facilitating restructuring activity at scale might
outweigh program costs.
Jumpstarting a student loan refinance market: For borrowers who
have dutifully managed their monthly payments on high-interest private
student loans, many raised the need for a way to refinance. This
approach could give responsible borrowers the opportunity to swap their
existing loan for a new loan at market interest rates that reflect
their current credit profile.\37\
---------------------------------------------------------------------------
\37\ One unusual market trend is noteworthy here. Some private
student lenders are enjoying increasing net interest margins, which is
unlike the experience of lenders of other consumer financial products
in today's interest rate environment. This may demonstrate a lack of
competition, as well an opportunity for more efficient private capital
participation.
---------------------------------------------------------------------------
Students generally apply for private student loans when they are
young, have little to no credit history, and are not yet employed.
Lenders have to consider the possibility that borrowers won't graduate
or find a job with a salary that allows them to meet their monthly
payment. These risks are priced into new private student loans.
Most borrowers do attain employment though, and have been honoring
their promises to pay, but they simply can't find a refinance option.
When mortgage borrowers see rates plummet and see their incomes rise,
they try to refinance. Responsible student loan borrowers should have
this option, too.
Conclusion
Thank you for the opportunity to share insight on the state of the
student loan market. We look forward to continued dialogue with
industry, consumers, institutions of higher education, and policymakers
to ensure that we confront the significant challenges faced by student
loan borrowers. While there has recently been considerable discussion
about interest rates on Federal student loans for borrowers next year,
it will be important to address the potential impacts of the heavy
burdens for the millions of Americans already in debt.
If we are collectively successful, we can help a generation of new
graduates serve as an economic engine--bettering themselves, the
financial institutions that serve them, and the rest of society.
______
PREPARED STATEMENT OF JOHN C. LYONS
Senior Deputy Comptroller
Bank Supervision Policy and Chief National Bank Examiner
Office of the Comptroller of the Currency *
June 25, 2013
Introduction
Chairman Johnson, Ranking Member Crapo, and Members of the
Committee, I appreciate this opportunity to discuss private student
lending, and the OCC's supervisory approach for national banks and
Federal savings associations (hereafter, national banks and thrifts)
engaged in this business. Promoting fair and equitable access to
credit, including education financing, is a core OCC mission and one of
our most important priorities. We work hard to ensure that national
banks and thrifts offer and manage consumer credit portfolios in a safe
and sound manner that promotes long-term access to credit across a
spectrum of consumer products. National banks and thrifts have a long
history of participation as lenders and servicers of Federal and
private student lending programs; however, they are not dominant
players in this market, and their current portfolio holdings of private
student loans represent just 3 percent of the total $966 billion in
student loans outstanding.
---------------------------------------------------------------------------
* Statement Required by 12 U.S.C. 250:
The views expressed herein are those of the Office of the
Comptroller of the Currency and do not necessarily represent the views
of the President.
---------------------------------------------------------------------------
We also have a longstanding policy of encouraging national banks
and thrifts to work constructively with borrowers who may be facing
hardship. As my testimony will describe, with respect to private
student loans, we allow national banks and thrifts to offer additional
flexibility when working with student borrowers in recognition of the
unique challenges these borrowers face. This flexibility includes
extended grace periods for loan repayments that go beyond what is
permitted for other types of consumer credit. For long-term hardship
cases, national banks and thrifts may also permanently reduce the
interest rate or otherwise modify payments to assist the borrower.
As requested by the Committee's letter of invitation, my testimony
provides an overview of trends in student lending and national bank and
thrift participation in the private student loan market. I will
describe applicable regulatory guidance as well as the OCC's
supervisory approach to private student loans. I will also address
programs that national banks and thrifts may offer to assist borrowers
who may be facing temporary hardship due to the current job market. My
testimony concludes with a discussion of various recommendations that
have been made to enhance the private student loan market and to help
mitigate loan defaults, including a discussion of common workout
programs for Federal student loans and their applicability to private
student loans.
Background
I want to begin by describing some of the unique challenges student
loans can pose for lenders and borrowers and how the OCC has responded
to those challenges. For most consumer loans, such as automobile loans,
the underwriting, loan structure, and account management are
straightforward. The use of funds is for a specific purpose, and the
source of repayment is well defined, structured, and can be readily
assessed at origination. In contrast, private student loans are unique
for three main reasons: first, funding a post-secondary education often
requires a substantial, multi-year-term commitment that extends from
the time the student starts school until repayment begins once he or
she has finished his or her education; second, advances made under
private student loans are usually uncollateralized; and third, a
substantial time period exists between the date when the lender
advances funds and when that student reaches his or her anticipated
earnings potential. Private student loans also differ from Federal
student loans in that the Government does not guarantee repayment. For
this reason, many lenders require that private student loans have
cosigners.
Private student loans provide flexibility for deferment while
borrowers are in school, and post-school grace periods to help
borrowers transition from school to employment. Student loans are the
only consumer product with such a transition period. This flexibility
reflects both the unique circumstances of the student borrower and that
these loans truly are an investment in the borrower's future. As my
testimony will describe, the OCC believes this flexibility, if properly
applied, supports student borrowers, and allows lenders to make private
student loans and manage the resulting credit exposures in a safe and
sound manner.
When borrowers experience financial difficulties, the OCC
encourages national banks and thrifts to work with the borrower by
offering prudent forbearance and modification programs. We recognize
that well-designed and consistently applied workout programs can help
borrowers resume structured, orderly repayment and minimize losses.
Such work out programs are fundamental to effective lending, and
ultimately, benefit both the borrower and the financial institution.
The interagency Uniform Retail Classification and Account
Management Policy (Uniform Classification Policy) contains general
guidance for consumer credit forbearance and modification programs.\1\
This policy acknowledges that extensions, deferrals, renewals, and
rewrites of consumer loans can help borrowers overcome temporary
financial difficulties such as unemployment, medical emergency, or
other life events. It further notes that prudent use of these loan
modification measures is acceptable when based on the borrower's
willingness and ability to repay the loan, and when the modification is
structured in accordance with sound internal policies.
---------------------------------------------------------------------------
\1\ Uniform Retail Classification and Account Management Policy, 65
Fed. Reg. 113 (June 12, 2000).
---------------------------------------------------------------------------
While the Uniform Classification Policy provides general guidance
regarding extensions, deferrals, renewals, and rewrites, it does not
specifically address private student loan workout and forbearance
practices, nor does it directly address the unique challenges that
student lenders and borrowers may face. To address these issues, the
OCC issued supplemental guidance to our examiners in 2010 that
interprets the Uniform Classification Policy in the context of private
student lending, and describes the OCC's minimum expectations for
managing forbearance, workout, and modification programs (The Student
Lending Guidance or Guidance).\2\ The Student Lending Guidance
explicitly permits national banks and thrifts to engage in the
following actions to assist borrowers:
---------------------------------------------------------------------------
\2\ CNBE Policy Guidance 2010-02, ``Policy Interpretation: OCC
Bulletin 2000-20--Application to Private Student Lending.''
In-school deferments--allows a lender to postpone a
borrower's principal and interest payments as long as the
---------------------------------------------------------------------------
borrower is enrolled in school at least as a half-time student.
Grace periods--allows lenders to defer a borrower's
payments for 6 months immediately following the borrower's
departure from school, without conditions or hardship
documentation.
Extended Grace periods--allows lenders to defer a
borrower's payments for an additional 6 months immediately
following the initial grace period. This option is for those
borrowers who are experiencing a financial hardship and is
available to student loan borrowers who are unemployed or
under-employed.
Short-term forbearance--allows lenders to offer two-to-
three month loan extensions to a borrower to address short-term
hardships.
Loan Modifications--allows lenders to provide interest rate
and payment reductions to borrowers who are experiencing long-
term hardships.
The first three actions primarily help borrowers while they are in
school and as they transition to full-time employment, and are unique
to student loans. The extended grace period in particular is a direct
response to the difficult employment conditions that many students are
experiencing. Under our guidance, a national bank or thrift may allow a
borrower facing difficulty in finding a job to not make any payment for
up to 12 months after he or she leaves school. Upon completion of the
extended grace period, the borrower is considered current and will
remain in that status as long as scheduled payments are met. If the
borrower is still experiencing hardship at the end of this extended
grace period, we would expect the bank to work with the borrower and
determine whether additional actions are warranted. Such actions may
include the forbearance, workout, and modification programs allowed
under the interagency Uniform Classification Policy. We also require
banks to maintain appropriate loan loss allowances and regulatory
capital levels, consistent with applicable accounting and regulatory
requirements. Working constructively with troubled student borrowers,
while adhering to prudent accounting principles, provides appropriate
flexibility for both assisting troubled student borrowers and
protecting the safety and soundness of the institution.
Trends in Private Student Lending
In 2012, The College Board released its most recent ``Trends in
Student Aid Report''\3\ that included preliminary data for the academic
year 2011-2012. Student aid includes loans (Federal and private),
grants, work-study, and education tax benefits.
---------------------------------------------------------------------------
\3\ Trends in Student Aid 2012, The College Board,
www.collegeboard.org.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
According to The College Board, total financial aid for academic
year (AY) 2011-2012 was approximately $245 billion. Federal loans
represented $105.3 billion for AY 2011-2012, or 43 percent of total
aid. By comparison, private student loans for AY 2011-2012 were $8.1
billion, or 3 percent of total aid. This was similar to AY 2010-2011
and down substantially from the $25.6 billion in private student loans
originated during the peak AY of 2007-2008.
The student aid distribution in AY 2011-2012 continued recent
trends, where Federal aid (loans and grants) are the principal source
of student aid, while private student lending provides a supplement to
help with shortfalls. Private student loan share peaked in AY 2007-2008
at just below 14 percent ($25.6 billion), but has been a much smaller
share since then. After 2008, the financial crisis, high unemployment,
weaker loan performance, and reduced securitization funding all
contributed to lower market share in absolute and relative terms. We
see little indication that private student lending volumes will
increase or return to mid-2000 levels in the near term.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
National Bank and Thrift Participation in the Private Student Loan
Market
Total outstanding private student loans are difficult to estimate
since volumes are not collected as part of call report or public
financial statement reporting. Industry estimates place year-end 2012
totals somewhere between $126 and $150 billion. For this discussion, we
use the Federal Reserve Bank of New York's estimates of $126 billion
for private student loans and $996 billion for total student loans,
both as of December 2012.\4\
---------------------------------------------------------------------------
\4\ Quarterly Presentation on Household Debt and Credit, May 2013,
Federal Reserve Bank of New York.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
As the chart above shows, Federal loans dominate the student loan
market, with 87 percent, or approximately $849 billion of the total
$966 billion that was outstanding at the end of 2012. Within the
private segment of the student loan market, national banks and thrifts
hold approximately $27 billion of the remaining $126 billion in student
loans, or roughly 21 percent of the private market and 3 percent of the
total $966 billion outstanding. The ``Private--Other'' segment in this
chart includes other non-OCC supervised financial institutions.
National bank and thrift participation in the private student
lending market is highly concentrated, with only eight lenders holding
portfolios of $500 million or more. Wells Fargo, JPMorgan Chase,
Citibank, KeyBank, PNC, RBS Citizens, Bank of America, and U.S. Bank
combined hold approximately $25.8 billion in private student loans,
with Wells Fargo accounting for slightly more than 40 percent of the
total. Of the eight banks, four have ceased making new private student
loans since 2008 due primarily to concerns about portfolio performance
and liquidity. The second largest, JPMorgan Chase, only offers new
private student loans to existing bank customers.
Within these portfolios, a greater number of borrowers have
concluded the in-school deferment phase, and have started repayment.
For the eight largest banks, more than 70 percent of the outstanding
loans are in repayment, and overall delinquencies are relatively low,
generally between three to 4 percent; only one of the eight largest
lenders has a delinquency level in excess of 4 percent. In addition,
all eight of these banks offer forbearance and extended grace programs.
At the end of 2012, these banks had almost $750 million combined in
active post-school deferment. Loss rates for loans in repayment are
also relatively low, with the average for the eight largest private
student lenders at 4.6 percent. These delinquency levels are
manageable, and compare favorably to the overall student loan market
and are considerably lower than the current delinquency rates for
residential mortgages. The low levels associated with these private
student loans reflect the quality of underwriting, including a greater
prevalence of cosigners, and better risk selection than were evident
after 2008.
How the OCC Supervises Consumer Credit Portfolios
Most lenders' consumer credit portfolios, including student loan
portfolios, consist of a significant number of loans, with standardized
underwriting, loan structures, and repayment terms. Because of the
volumes involved, such standardized process-related decisions (credit
score floors, credit line assignment, documentation of income, etc.)
are critically important for consistent and timely credit decisions.
Supervisory oversight generally focuses on the quality of the bank's or
thrift's decisionmaking processes and on internal controls and audit.
For safety and soundness purposes, the OCC focuses on whether
management has established prudent risk tolerances, developed effective
account management practices, and has a fundamental, disciplined
understanding of portfolio quality.
Prudent risk tolerances generally involve establishing well-defined
underwriting and repayment structures. The OCC expects national banks
and thrifts to employ underwriting standards that consider both a
borrower's willingness and capacity to repay any credit extended, based
on reliable information prior to making the loan.
Effective account management and collection practices include
active monitoring of loan performance and timely actions when issues
arise. This includes the use of forbearance and modification programs
that are designed to benefit both the borrower and the bank by
improving the likelihood of repayment. As with risk tolerances, we
expect lenders to consider and articulate accepted and prudent use of
modification programs in advance, and then manage these activities
within defined parameters.
Understanding portfolio quality generally involves robust, timely
reporting that identifies loans or portfolio segments that are not
performing as expected. A bank's portfolio monitoring should include
new and existing loans, as well as the range of loss mitigation and
collection activities that it uses. A comprehensive and accurate view
of a loan portfolio's risk is critical for effective forbearance,
workout, and modification programs.
The interagency Uniform Classification Policy establishes standard
guidelines for loan classification and charge-off. Under that policy,
consumer loans 90 days past due are classified ``substandard,''\5\ and
amortizing loans that become 120 days past due are classified
``loss,''\6\ and charged-off. This is one aspect where the regulatory
treatment for Federal student loans and private student loans differs.
While both types of loans are uncollateralized, generally banks are not
required to charge-off loans that are federally guaranteed.\7\
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\5\ Under the agencies' regulatory classification guidelines,
``substandard'' assets are defined as assets that are inadequately
protected by the current sound worth and paying capacity of the obligor
or collateral pledged, if any. Assets so classified must have a well-
defined weakness or weaknesses that jeopardize the liquidation of the
debt. They are characterized by the distinct possibility that the
institution will sustain some loss if the deficiencies are not
corrected.
\6\ An asset classified ``loss'' is considered uncollectible, and
of such little value that its continuance on the books is not
warranted. This classification does not mean that the asset has
absolutely no recovery or salvage value; rather it is not practical or
desirable to defer writing off an essentially worthless asset (or
portion thereof), even though partial recovery may occur in the future.
\7\ Under Federal student loan program guidelines, Federal student
loans that are 270 days past due are considered to be in default.
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Designating a loan as ``loss'' does not mean that a lender should
stop the use of workout or modification programs, or that loss
mitigation or collection efforts should cease. It simply means that for
safety and soundness reasons and financial and investor transparency,
the bank should follow appropriate accounting practices and reflect the
increased credit risk in its financial statements.
The Uniform Classification Policy does not prohibit or discourage a
bank from working with troubled borrowers nor does it dictate when a
bank can begin to work with a borrower who may be facing hardship. We
believe that full, objective analysis and timely identification of
problem loans encourage lenders to work with troubled borrowers at an
early stage when programs generally have a higher probability of
improving repayment and reducing losses. To be effective, however,
forbearance and modification programs need to be based on accurate
assessments of risk and reliable information.
As previously noted, private student loans raise unique issues that
are not explicitly addressed by the Uniform Classification Policy. In
early 2010, OCC examiners noticed inconsistent practices regarding the
use of grace and forbearance periods for borrowers who were
transitioning from school to full-time employment. In response, the OCC
issued the Student Lending Guidance to address the unique challenges
associated with private student loan programs. As mentioned previously,
that Guidance acknowledges the challenges that borrowers face shifting
from school into the workforce, and recognizes the need to facilitate
orderly transitions. To facilitate that transition, the Guidance allows
a bank to defer a borrower's payments for up to a year.
The Guidance also specifically allows national banks and thrifts to
offer loan modifications, but we expect such modifications will reflect
three key concepts: i) eligibility and payment terms that are based on
a credible analysis of the borrower's hardship and reasonable ability
to repay; ii) sustainable payment schedules that avoid unnecessary
payment shock; and iii) revised loan structures that promote orderly
repayment and do not include elements such as interest-only payments,
balloon payments, and negative amortization.
A credible analysis of the borrower's difficulties and the use of
payment terms that are sustainable ensure that a modified student loan
is likely to be successful over the long term. Moreover, modification
programs should address hardship and payment issues directly, with the
objective of improving the borrower's ability to repay. The Guidance
discourages the use of payment terms such as interest-only and
negative-amortization. Such payment structures delay problem
recognition in the hope economic or other market conditions might
quickly improve and resolve the issue, but often will leave the
borrower exposed to uncertain market conditions, and ultimately, higher
costs as a result of the payment deferrals or increases in principal
balance.
Finally, while the OCC encourages national banks and thrifts to
work with troubled borrowers, offering prudent forbearance, workout,
and modification programs does not relieve these institutions of their
fiduciary responsibility to ensure that regulatory reports and
financial statements are accurate and fairly represent the financial
condition of the institution. This tends to be a point of confusion, as
some mistake the expectation of full and accurate reporting as limiting
available forbearance, workout, and modification programs. To be clear,
the Student Lending Guidance allows options and flexibility to lenders
in offering forbearance and modification programs to private student
loan borrowers, but requires banks to ensure the integrity of their
books and records by reporting the volume and nature of transactions
accurately. These options and responsibilities are not mutually
exclusive, and together promote a safe and sound banking system.
Consistent with Section 121 of the FDIC Improvement Act of 1991,
national banks and thrifts offering workout and modification programs
are expected to follow generally accepted accounting principles (GAAP)
to ensure transactions are accurately reflected in the institution's
regulatory reports and financial statements.\8\ In general, under GAAP
a bank must recognize a loan modification for a financially troubled
borrower that includes concessions as a troubled debt restructuring
(TDR), with appropriate loan loss provisions if impairment exists.\9\
The designation of a loan as TDR does not prohibit or impede a bank's
ability to continue to work with the borrower.
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\8\ See 12 U.S.C. 1831n.
\9\ The Glossary section of the Call Report Instructions provides
regulatory guidance for the identification of TDRs and associated
allowance methodologies under the topics Troubled Debt Restructures and
Loan Impairment.
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Potential Enhancements to the Private Student Loan Market and
Mitigation Efforts
A number of thoughtful studies have highlighted policy
recommendations to strengthen student lending programs, including the
Consumer Financial Protection Bureau's July 2012 and March 2013
reports. Some of these recommendations are aimed at improving the
transparency and clarity of student loan programs and loan terms to
help ensure that students and their families can make informed
decisions. The OCC supports proposals that would enhance borrowers'
ability to understand and compare various financial products and
options that may be available. Likewise, we support loan documents and
billing statements that allow a borrower to fully and readily
comprehend his or her financial obligation.
Other recommendations have focused on exploring permissible
mitigation efforts for student borrowers who are facing difficulties
and whether plans permitted under current Federal loan repayment
programs can be used for private student loans. As previously
discussed, the OCC believes its guidance provides national banks and
thrifts with appropriate flexibility in providing loan modifications to
troubled borrowers. This flexibility includes the ability to adapt
features of repayment programs used for federally guaranteed student
loans to private student loans, as described below.
Graduated Repayment Plans--Most Federal student loans allow a
lender to establish a payment schedule where the borrower's payment
obligation starts low and then increases over time. Initially, payments
can be interest only, and no required payment plan can be more than
three times any other payment. Loan terms are generally 10 years
(excluding in-school, grace, deferment, or forbearance periods) or 25
years for borrowers with an extended repayment term.
Graduated payment terms that are part of the payment structure at
origination are permissible and consistent with existing regulatory
guidance. In the case of student loans, programs that include such
payment terms recognize that borrowers are likely to have significantly
lower income with entry-level jobs at the beginning of the payment
period, and that their income may increase significantly over the next
few years. Under GAAP and regulatory reporting guidelines, a bank
offering a graduated payment plan as a workout concession to a
financially distressed borrower generally would have to report the loan
as a TDR and take an appropriate impairment charge to earnings.
Income-Based Repayment Plans--These are payment plans for Federal
student loans where monthly payments are based on a borrower's expected
total monthly gross income and family size. Such plans require the
borrower to show a hardship, and payments are generally limited to 15
percent of eligible income. Any remaining loan balance is forgiven
after 25 years.
For private student loans, income-based loan modifications are
consistent with regulatory expectations and typically form the basis
for prudent modification programs. Given that payment and principal
concessions are due to the borrower's financial hardship, these
modified loans likely would require TDR designation under GAAP, and
would require appropriate recognition, carrying values, and impairment
allowances. As a modification, we would expect that approved payment
terms would not reflect interest-only or negative amortization
provisions. In addition, any balances forgiven would likely require
full loan loss allowance coverage, or be charged-off.
Consolidation Loans--Federal programs allow borrowers to combine
multiple student loans into one consolidated loan, simplifying the
repayment obligation. The consolidated loan's repayment term is
determined by the total loan balance, and can extend from 10 years to
30 years. Borrowers pay a fixed interest rate equal to the weighted
average interest rate of the underlying loans.
Consolidating loan balances is also permitted under existing
regulatory policies. Since consolidated loans generally do not include
concessions to troubled borrowers, extending their use to private
student loans likely would not require TDR designation. As with any
consumer loan, a lender should have reasonable underwriting criteria
that considered a borrower's reasonable willingness and ability to
repay the full amount of the consolidated loan.
Loan Rehabilitation Programs--A Federal student loan that has
defaulted (i.e., more than 270 days delinquent) can be returned to
performing status if the borrower makes at least nine on-time payments
in a 10-month period. This rehabilitated loan must retain the same
interest rate, repayment terms, and other benefits that were applicable
when the loan was first disbursed, and collection costs and accrued
interest are capitalized and built into the principal balance of the
loan. After a Federal student loan has been rehabilitated, the loan's
default status is deleted from the borrower's national credit bureau
reports, and, pursuant to the loan's original terms, any benefits that
were available before the borrower defaulted (such as deferment,
forbearance, or consolidation) are reinstated.
Rehabilitation programs for Federal student loans are late-stage
actions that occur well after normal collection activities for private
student loans are exhausted. As previously noted, once a private
student loan becomes 120 days past due, the Uniform Classification
Policy indicates that the institution is expected to record the
exposure as a loan loss and charge-off any remaining loan balance. Work
out activities may continue post-charge-off, including payment plans
for financially troubled borrowers, but any amounts received from the
borrower are treated as recoveries. Charged-off loans are rarely re-
booked as performing assets. This discipline is an important part of
financial statement transparency, and ensures that lenders accurately
report their balance sheets and capital.
The OCC believes that full and accurate reporting to credit bureaus
that includes updated default status for loans that subsequently
perform as well as their prior history, is important for both lenders
and borrowers. Much of the depth and breadth of the $11 trillion
consumer credit market is tied directly to objective and accurate
bureau transaction data that supports credit decisions and other
account management practices.
Conclusion
We recognize that access to higher education remains an important
public policy objective, and that cost-effective funding for an
education can be a challenge for students and their families. Private
student lending is a relatively small but important part of the student
aid package, but still can contribute to the substantial debt burden
that some students have once they leave school.
The OCC encourages national banks and thrifts to work
constructively with troubled borrowers, and expects banks and thrifts
to make informed, objective decisions in workout situations. For
troubled loans, most often this means active loss mitigation practices
that include forbearance, workout, and loan modification programs. We
believe that our guidelines provide lenders with the flexibility
necessary to work with troubled private student loan borrowers,
including permitting the lenders to take advantage of a number of the
options currently used in connection with Federal student loans. In
particular, we recognize the challenges that student borrowers can have
finding employment during difficult economic conditions, and in
response, we have allowed grace periods to extend up to a full year to
help these borrowers as they transition into the work force.
These and other forbearance and modification programs are
consistent with safety and soundness principles and complement prudent
underwriting practices. Both help borrowers handle debt responsibly,
and avoid default during periods of hardship, and both are important
for vibrant and sustainable loan markets.
______
PREPARED STATEMENT OF TODD VERMILYEA
Senior Associate Director, Division of Banking Supervision and
Regulation
Board of Governors of the Federal Reserve System
June 25, 2013
Chairman Johnson, Ranking Member Crapo, and other Members of the
Committee, thank you for the opportunity to testify at today's hearing.
First, I will discuss recent student loan market trends and the
portfolio performance of both Government-guaranteed and private student
loans. I will then address the Federal Reserve's approach to
supervising financial institutions engaged in student lending and close
by briefly discussing the implications of rising student debt levels
and default rates on other forms of lending.
Background
The Federal Reserve has supervisory and regulatory authority for
bank holding companies, State-chartered banks that are members of the
Federal Reserve System (State member banks), savings and loan holding
companies, and certain other financial institutions and activities. We
work with other Federal and State supervisory authorities to ensure the
safety and soundness of the banking industry and foster the stability
of the financial system.
Student Loan Market
The student loan market has increased significantly over the past
several years, with outstanding student loan debt almost doubling since
2007, from about $550 billion to over $1 trillion today. Balances of
student loan debt are now greater than any other consumer loan product
with the exception of residential mortgages, and it is the only form of
household debt that continued to rise during the financial crisis.
Outstanding education loan debt is now greater than credit card debt,
home equity lines of credit, or auto debt on consumers' balance sheets.
Since 2004, both the number of student loan borrowers, and the
average balance per borrower, has steadily increased, according to data
compiled by the Federal Reserve Bank of New York. In 2004, the share of
25-year-olds with student debt was just over 25 percent; today, that
share has grown to more than 40 percent. At the end of 2012, the number
of student loan borrowers totaled almost 40 million and the average
balance per borrower was slightly less than $25,000. In 2004, the
average balance was just over $15,000. In 2012, roughly 40 percent of
all borrower had balances of less than $10,000; almost 30 percent had
balances between $10,000 and $25,000; and fewer than 4 percent had
balances greater than $100,000.
This sharp increase in student loan borrowing likely reflects a
number of factors. Demand for student loans has risen in line with the
increasing cost of higher education; increasing enrollment in post-
secondary education; a relative decline in household wealth brought
about by the financial crisis and the ensuing recession; and more
favorable terms on Government-guaranteed loans.
The rising cost of higher education and the decline in wealth
coincided with a difficult job market, which may have encouraged more
people to enroll in higher education, or stay in school to pursue
advanced degrees immediately after graduation. Notably, enrollment in
degree-granting institutions increased at an annual rate of about 5
percent between 2007 and 2010, compared with a historical increase of 3
percent since 1970. It is also important to note that underwriting
standards and terms of Federal student loans have been favorable
relative to other borrowing alternatives over the past few years. As a
result, households likely substituted student loans for other sources
of education financing, such as home equity loans, credit card debt, or
savings. All of these factors have contributed to the rapid rise in
student loan debt levels and seem likely to have been influenced by the
financial crisis.
The student loan market is bifurcated into Government-guaranteed
loans and private student loans that are not guaranteed.\1\ Government-
guaranteed loans represent approximately 85 percent of total student
debt outstanding, and private loans represent just 15 percent. While
Federal student loan originations have continued to increase each year,
private loan originations peaked in 2008 at roughly $25 billion and
have since dropped sharply to just over $8 billion. New Government-
guaranteed student loan originations topped $105 billion in 2012,
comprising 93 percent of all new loans.
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\1\ In July 2010, the Federal Government stopped guaranteeing
student loans made through private lenders.
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Terms and conditions of Government-guaranteed loans are generally
set by a Federal formula established by the Congress. Although a credit
check is not required for most types of Government-guaranteed loans,
borrowers may be turned down if they are delinquent on an existing
student loan. Private loan standards are set by the lending
institutions and generally require full underwriting, including a
credit check. Private loans also increasingly require a guarantor. Most
Government-guaranteed and private student loans provide the borrower
with a 6-month grace period after leaving school before payments begin.
Performance of Student Loan Portfolios
In line with the rapid growth in student loans outstanding, the
number of student loans--private and guaranteed--that are currently
delinquent has risen sharply as well, standing at 11.7 percent of all
outstanding student loans in 2012.\2\ However, some 44 percent of
student loan balances are not yet in their repayment periods, and if
these loans are excluded from the data pool, the effective delinquency
rate of loans in repayment roughly doubles to 21 percent. By
comparison, in 2004, only 6.3 percent of student loans were in
delinquency.
---------------------------------------------------------------------------
\2\ Delinquency status is defined as more than 90 days past due.
---------------------------------------------------------------------------
According to the Consumer Financial Protection Bureau (CFPB), of
the $1 trillion in total outstanding student loan debt, $150 billion
consists of private student loans. It is important to note that the
private student loan market includes loans made not only by banks, but
also loans made by credit unions, State agencies, and schools
themselves. The rate of delinquency among these loans is roughly 5
percent, according to the CFPB, less than half of the delinquency rate
for all outstanding loans.
There are likely a number of factors underlying the difference
between the performance of the Government-guaranteed and private
student loan portfolios. For instance, underwriting standards in the
private student loan market have tightened considerably since the
financial crisis. Almost 90 percent of these loans now require a
guarantor or cosigner, usually a parent or legal guardian.
Federal Reserve Supervision of Student Loan Market
The Federal Reserve has no direct role in setting the terms of, or
supervising, the student loan programs. The Department of Education is
responsible for administering the various Federal student loan
programs, which, as noted earlier, comprise about 85 percent of the
student loan market. The Federal Reserve does, however, have a window
into the student loan market through our supervisory role over some of
the banking organizations that participate in the market. We share this
role with the Office of the Comptroller of the Currency, the Federal
Deposit Insurance Corporation, and the National Credit Union
Administration.
Federal Reserve supervision of participants in the student loan
market is similar to our supervision of other retail credit markets and
products. Institutions subject to Federal Reserve supervision--
including those with significant student loan portfolios--are subject
to onsite examinations that evaluate the institution's risk-management
practices, including the institution's adherence to sound underwriting
standards, timely recognition of loan deterioration, and appropriate
loan loss provisioning, as well as (to a limited degree) compliance
with consumer protection standards.
In addition to our work at specific institutions, the Federal
Reserve also takes a horizontal view of the student loan market across
multiple firms during the Comprehensive Capital Analysis and Review
(CCAR) exercise, an important supervisory tool that the Federal Reserve
deploys, in part, to enhance financial stability by assessing all
exposures on bank balance sheets. CCAR was established to ensure that
each of the largest U.S. bank holding companies: (1) has rigorous,
forward-looking capital planning processes that effectively account for
the unique risks of the firm; and (2) maintains sufficient capital to
continue operations throughout times of economic and financial stress.
The CCAR exercise collects data on banks' student loan portfolios,
delineated by loan type (Federal or private), age, FICO Score,
delinquency status, and loan purpose (graduate or undergraduate).
The banks submitting student loan data for CCAR held just over $63
billion in both Government-guaranteed and private student loans at
year-end 2012, of which $23.6 billion represented outstanding private
student loans.\3\ At the end of 2012, CCAR banks reported that just
over 4 percent of private student loan balances were in delinquency,
but more than 21 percent of Government-guaranteed student loan balances
were delinquent. Nevertheless, the delinquency rate for Government-
guaranteed student loans has shown improvement over recent quarters,
dropping from a high of more than 23 percent. Likewise, the delinquency
rate for private loans at CCAR firms trended upward through mid-2009
but has since moved down, which is comparable to the performance of the
overall private student loan market.\4\
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\3\ Of the 19 banks participating in CCAR, seven submitted student
loan data. Sallie Mae, the largest holder of private student loan debt
(with $37 billion), is not included in the CCAR data set.
\4\ For all private loans, the delinquency rate increased from 2005
to 2009, and started to decrease during 2010, according to data from
Moody's.
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The Federal Reserve and the other Federal banking agencies that are
members of the Federal Financial Institutions Examination Council
(FFIEC) have jointly developed guidance outlining loan modification
procedures: the Uniform Retail Credit Classification and Account
Management Policy (SR 00-08). This guidance discusses how banks should
engage in extensions, deferrals, renewals, and rewrites of closed-end
retail loans, which include private student loans. According to that
guidance, any loan restructuring should be based on renewed willingness
and ability to repay, and be consistent with an institution's sound
internal policies.
In keeping with this guidance, the Federal Reserve encourages its
regulated institutions to work constructively with borrowers who have a
legitimate claim of hardship. The aim of such work should be the
development of sustainable repayment plans while also preserving the
safety and soundness of the lending institutions and maintaining
compliance with supervisory guidance and accounting regulations. When
conducted in a prudent manner, modifications of problem loans,
including student loans, are generally in the best interest of both the
institution and the borrower, and can lead to better loan performance,
increased recoveries, and reduced credit risk. Moreover, Federal
Reserve examiners will not criticize institutions that engage in
prudent loan modifications, but rather will view such modifications as
a positive action when they mitigate credit risk. As supervisors, our
goal is to make sure that lenders work with borrowers having temporary
difficulties in a way that does not contradict principles of sound bank
risk management, including reflecting the true credit quality and
delinquency status of the loan portfolios.
Implications for Other Forms of Lending
The benefits of higher education are widely recognized and have
been supported by public policy initiatives for some time through a
variety of State and Federal programs. The fact that annual median
earnings are significantly higher for those with higher levels of
education is well documented.
However, post-secondary education is becoming increasingly
expensive. With continued increases in student debt, and high levels of
unemployment, recent graduates are finding it more difficult to repay
their obligations, resulting in elevated delinquency and charge-off
rates.
Younger borrowers with high student loan balances have reduced
their other debt obligations, including credit card, auto, and mortgage
debt. This reduction likely reflects in part a decline in demand due to
the burden of servicing existing student loans as well as the
possibility that access to credit might be curtailed due to high
student debt. Borrowers who are delinquent on student debt may face
difficulty obtaining other forms of credit. Further, student loan
delinquency is also associated with higher delinquency rates on other
types of debt. More than 15 percent of delinquent student loan
borrowers also have delinquent auto loans, 35 percent have delinquent
credit card debt, and just over 25 percent are delinquent on mortgages
payments.
Conclusion
Higher education plays an important role in improving the skill
level of American workers, especially in the face of rising gaps in
income and employment across workers with varying education levels. Due
to increasing enrollment and the rising cost of higher education,
student loans play an important role in financing higher education. The
rapidly increasing burden of student debt underscores the importance of
the topic of today's hearing. This concludes my prepared remarks, and I
would be happy to answer any questions you may have.
______
PREPARED STATEMENT OF DOREEN R. EBERLEY
Director, Division of Risk Management Supervision
Federal Deposit Insurance Corporation
June 25, 2013
Chairman Johnson, Ranking Member Crapo and Members of the
Committee, thank you for the opportunity to testify on behalf of the
Federal Deposit Insurance Corporation (FDIC) regarding private student
loans (PSLs). Higher education has long provided a pathway to
prosperity, as individuals with college degrees historically have had
higher incomes and lower rates of unemployment than those without.
Students and their families have financed higher education through
loans, both Federal and private, for many years. While this model works
well when graduates are able to obtain employment and use their degrees
to move into higher paying jobs, the severity of the recent financial
crisis and a relatively slow recovery have resulted in persistently
high rates of unemployment and underemployment, which have negatively
impacted the newly graduated who are trying to enter or advance through
the workforce. Today, many consumers are struggling with student debt
loads in a still fragile economic environment.
In my testimony, I will discuss data on the student loan market,
including data on its size and performance. I also will discuss our
approach to the supervision of private student loan lenders, including
the regulations and guidance that apply to private student loans. In
addition, I will describe the ability of insured depository
institutions (IDIs) to work with consumers to manage their student loan
obligations within the current supervisory environment.
In particular, I will describe the FDIC's efforts to communicate to
the banks we supervise that, for borrowers experiencing difficulties,
prudent workout arrangements are in the best long-term interest of both
the bank and the borrower.
Data Regarding Student Loans
Data regarding the overall market for PSLs are difficult to discern
because there is no standard source for collecting the data. These data
are not broken out separately in the Consolidated Reports of Condition
and Income, otherwise known as Call Reports, which banks file
quarterly, as student lending is a fairly small portion of aggregate
consumer lending and relatively few IDIs make these loans. Rather, data
on PSLs, like unsecured installment loans, are contained within a
broader category called ``other loans to individuals.''
Nonetheless, based on recent studies, there appear to be about 39
million borrowers with a student loan, with an average balance of about
$25,000.\1\ As of year-end 2012, total student loans outstanding were
about $966 billion.\2\ Of this total student loan debt, the Consumer
Financial Protection Bureau (CFPB) has estimated the size of the PSL
market to be about $150 billion as of year-end 2011, which represents
about 15 percent of student loans outstanding, compared to 85 percent
for the Federal student loan (FSL) market.\3\
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\1\ Donghoon Lee, Household Debt and Credit: Student Debt, February
28, 2013, The Federal Reserve Bank of New York Consumer Credit Panel
and Equifax, http://www.newyorkfed.org/newsevents/mediaadvisory/2013/
Lee022813.pdf.
\2\ Ibid.
\3\ CFPB, Private Student Loans, Report to the Senate Committee on
Banking, Housing, and Urban Affairs, the Senate Committee on Health,
Education, Labor, and Pensions, the House of Representatives Committee
on Financial Services, and the House of Representatives Committee on
Education and the Workforce. August 29, 2012.
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Debt from FSLs and PSLs has risen significantly since 2007, and
student loans (FSLs and PSLs combined) are now the largest category of
consumer loans, not including first mortgages.\4\ With regard to
originations, growth has been centered in FSL originations, which have
climbed from about $70 billion in the 2006-2007 school year to over
$100 billion per year in the past three academic years.\5\ In contrast,
the PSL market has shrunk considerably over the same time period, with
originations peaking at about $23 billion in the 2007-2008 academic
year before falling to about $8 billion per year in the past three
academic years. In terms of new volumes, PSLs are currently only about
7 percent of overall originations. While the market for PSLs is
relatively small, PSLs provide a secondary source of funds for students
and families seeking to fill the gap between FSLs and other financial
resources and the total cost of students' higher education.
---------------------------------------------------------------------------
\4\ Donghoon Lee, 2013.
\5\ College Board Advocacy & Policy Center, Trends in Student Aid
2012.
---------------------------------------------------------------------------
IDIs supervised by the FDIC hold about $14 billion in outstanding
PSLs and originated about $4 billion in the 2011-2012 academic year.
Reported past due rates (30 days or more delinquent) are just under 3
percent of total student loan balances, and the upper end of the
charge-off range is at just over 1.5 percent per year. In addition,
IDIs that we supervise are currently requiring cosigners, usually
parents, on about 90 percent of the loans they underwrite.
The majority of loans are underwritten at a variable rate of
interest, with average interest rates currently in the 6 to 7 percent
range. Loan terms vary, usually between 5 and 15 years.
Supervision of PSL Lenders
Of the approximately 4,400 institutions supervised by the FDIC,
only a small number of FDIC-supervised institutions originate PSLs, but
these include two of the largest PSL originators. Unlike most lending,
student lending is complicated by the fact that students often have no
established credit history to indicate their creditworthiness, and that
repayment will initially be partial, or delayed, often for several
years, while the student completes his or her education. Also, PSLs
generally are not dischargeable in bankruptcy. While this provides
borrowers with a strong incentive to repay, IDIs and other lenders in
the PSL market absorb all losses on these loans for borrowers who do
not repay, which is why many originators require cosigners.
The FDIC supervises PSL lenders using the same framework of safety
and soundness and consumer protection rules, policies, and guidance as
for other loan categories. The interagency policy, Uniform Retail
Credit Classification and Account Management Policy (Retail Credit
Policy) applies to student loans as it does to other unsecured personal
loans.\6\ This policy, which has been in place since 1980, with some
subsequent revisions, provides IDIs with guidance on classifying retail
credits for regulatory purposes and on establishing policies for
working with borrowers experiencing problems.
---------------------------------------------------------------------------
\6\ See http://www.fdic.gov/regulations/laws/rules/5000-
1000.html#fdic5000uniformpf.
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For safety and soundness purposes, the FDIC examines IDIs to ensure
that they are following basic underwriting tenets when extending
credit. For PSLs, like all loans, the ability and willingness to repay
is necessarily the primary driver of safe and sound lending. Generally,
the ability to repay is demonstrated by payments of principal and
interest that reduce principal over a reasonable period of time.
During an examination of a PSL lender, FDIC examiners review the
appropriateness of the lender's underwriting criteria; loan
administration and servicing practices; compliance with applicable laws
and regulatory reporting and accounting requirements; loan
classification and allowance for loan and lease losses policies; audit
and internal review practices; and modification, workout and collection
policies and practices. Additionally, examiners review portfolio
structure and performance, and related monitoring and controls to
assess credit quality and management oversight. They also review
individual loan files, on a sampling basis, to ensure consistency with
supervisory guidelines, internal bank policies, and overall prudent
lending standards.
The FDIC also examines student loan lenders for compliance with
applicable Federal consumer protection laws, including the Equal Credit
Opportunity Act, the Truth in Lending Act and Regulation Z, the Fair
Credit Reporting Act, the Gramm-Leach-Bliley Act rules on privacy of
consumer financial information, the Electronic Signatures in Global and
National Commerce Act (E-Sign Act), the Service Members Civil Relief
Act, and the Community Reinvestment Act (CRA). In addition, Section 5
of the Federal Trade Commission Act, which addresses unfair or
deceptive acts or practices, is applicable to this type of lending. As
part of these compliance examinations, examiners review policies,
procedures, and practices; marketing materials and practices;
disclosures provided to borrowers; and any related consumer complaints.
Additionally, examiners review monitoring procedures implemented by
the bank to ensure compliance with consumer protection regulations.
Working with Student Loan Borrowers
The FDIC appreciates concerns about repayment and workout options
and encourages institutions to work constructively with borrowers who
are experiencing difficulty. Examiners will not criticize banks for
engaging in alternate repayment plans or modifications so long as such
plans or modifications are consistent with safe and sound practices.
With respect to workouts and modifications, the interagency Retail
Credit Policy specifically states ``extensions, deferrals, renewals,
and rewrites of closed-end loans can be used to help borrowers overcome
temporary financial difficulties.'' The Retail Credit Policy provides
significant flexibility for IDIs to offer prudent workout arrangements
tailored to their PSL portfolios. In particular, the policy states that
it is the IDI's responsibility to establish its own policies for
workouts suitable for their portfolio. Prudent workout arrangements
consistent with safe and sound lending practices are generally in the
long-term best interest of the financial institution and the
borrower.\7\
---------------------------------------------------------------------------
\7\ See for example the interagency Policy Statement on Prudent
Commercial Real Estate Loan Workouts, October 2009, http://
www.fdic.gov/news/news/financial/2009/fil09061a1.pdf and the
interagency Statement on Working with Mortgage Borrowers, April 2007,
http://www.fdic.gov/news/news/press/2007/pr07032a.html.
---------------------------------------------------------------------------
IDIs supervised by the FDIC offer borrowers experiencing financial
difficulties forbearance (cessation of payments) for periods ranging
from 3 to 9 months beyond the initial 6-month grace period after
leaving school. A number of workout plans are also available to
borrowers of FDIC-supervised IDIs, including rate reductions, extended
loan terms, and in settlement situations, principal forgiveness. At the
same time, it is important that modifications not leave the borrower in
a worse position in the long term. For example, a modification that
does not provide for payments to cover principal and interest or that
allows a loan to remain in extended periods of forbearance can result
in negative amortization, which leads to a growing loan balance that
can dig a consumer deeper into debt.
Concerns have been raised that troubled debt restructuring (TDR)
accounting rules limit IDIs' ability to modify PSLs. The treatment of
loans as TDRs is established by generally accepted accounting
principles (GAAP), and banks are required by law to adhere to GAAP.
Under GAAP, modifications of loans, regardless of loan type, should be
evaluated individually, considering all facts and circumstances, to
determine if they represent TDRs. A TDR occurs when a lender, due to a
borrower's financial difficulties, grants a concession to the borrower
that it would not otherwise consider. GAAP requires modified loans that
are TDRs to be evaluated for impairment and written down, if necessary,
with appropriate adjustments made to the allowance for loan and lease
losses.
Potential or actual treatment as a TDR should not prevent
institutions from proactively working with borrowers to restructure
loans with reasonable modified terms. As stated above, the FDIC
encourages banks to work with troubled borrowers and will not criticize
IDI management for engaging in prudent workout arrangements with
borrowers who have encountered financial problems, even if the
restructured loans result in a TDR designation.\8\
---------------------------------------------------------------------------
\8\ Supra, Footnote 7.
---------------------------------------------------------------------------
It also is important that borrowers who are facing repayment
difficulties receive clear and accurate information on opportunities
for loan modifications and workouts. There is often a great deal of
confusion about differences between FSLs and PSLs. Prior to 2010, FSLs
were made through private financial institutions under the Family
Federal Education Loan Program, and those loans have more repayment and
modifications options than PSLs. The FDIC encourages its institutions
to make clear to borrowers the modification and workout options that
exist, and the eligibility criteria for such programs.
One complicating factor for modifications of PSLs is that about 25
percent of the estimated $150 billion PSLs outstanding are in
securitization trusts.\9\ In those cases, payment restructuring and
modification options may be limited by the terms of the securitization
pooling and servicing agreement. In securitizations, the traditional
borrower and lender relationship is replaced by governing documents
administered by a trustee for the benefit of multiple parties,
including investors. As a result, the servicer and trustee are
responsible for ensuring that a securitized pool of loans is managed in
the best interest of investors, which substantially limits the ability
to change the terms of underlying pooled assets. For example,
noteholders may have conflicting incentives based on their seniority in
the securitization capital structure, and servicers may not have
sufficient legal ability to make modifications without the consent of
noteholders or trust administrators. When repayment difficulties arise,
the borrower will generally be dealing with the servicer, not the
original lender.
---------------------------------------------------------------------------
\9\ Securities Industry and Financial Markets Association (SIFMA),
U.S. ABS Issuance and Outstanding, http://www.sifma.org/research/
statistics.aspx. This report shows that PSL securitizations outstanding
total $37.3 billion.
---------------------------------------------------------------------------
Finally, PSL borrowers, especially those who are performing on
their loans as agreed, face significant challenges for refinancing
higher rate PSLs. Refinancing an unsecured PSL can be difficult given
the lack of participants in the refinance market, and the potentially
high costs of marketing and customer acquisition that may be keeping
additional participants from entering the refinance market. Moreover,
many PSLs have variable rates and, in the current low interest rate
environment, it may be difficult for consumers to negotiate a lower
fixed-rate without collateral.
Additional FDIC Actions
The FDIC continues to seek solutions to challenges in the student
lending area. The FDIC is finalizing a statement to the banks it
supervises to clarify both that we support efforts by banks to work
with student loan borrowers and that our current regulatory guidance
permits this activity. In addition, the statement will make clear that
FDIC-supervised institutions should be transparent in their dealings
with borrowers and make certain that borrowers are aware of the
availability of workout programs and associated eligibility criteria.
We expect to issue this statement in the near future.
We also have formed an internal working group to engage various
stakeholders, including PSL lenders and consumer groups, and we are
discussing our current policies and refinancing challenges with other
regulators, including the CFPB, to determine whether clarifications or
changes may be needed.
Conclusion
The FDIC appreciates the opportunity to testify on this important
issue. High levels of student debt can pose significant challenges for
families, particularly during what has been a prolonged period of high
unemployment. The FDIC remains committed to providing focused and
effective oversight of institutions engaged in the PSL market to ensure
that supervised institutions operate in a safe and sound manner and in
compliance with applicable Federal consumer protection laws.
RESPONSE TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON FROM ROHIT
CHOPRA
Q.1. School Certification--The CFPB has recommended mandatory
school certification as a way to reduce student debt load and
expand loan counseling. Does the Truth in Lending Act give the
CFPB the regulatory authority to require school certification
of private student loans?
A.1. The Dodd-Frank Wall Street Reform and Consumer Protection
Act (Dodd-Frank Act) transferred the authority to prescribe
regulations under the Truth in Lending Act from the Federal
Reserve Board of Governors to the Consumer Financial Protection
Bureau, including those provisions related to special
disclosures for private student loans, which were required by
the Higher Education Opportunity Act of 2008 (HEOA).
HEOA required the Department of Education to develop a
self-certification form, which private student lenders must
obtain before consummating the loan. The Federal Reserve Board
of Governors prescribed regulations that detailed requirements
for lenders related to the self-certification form.
The self-certification form was intended to spur meaningful
conversations between students and school financial aid
officials.
In our joint report with the Department of Education on
Private Student Loans, the Bureau recommended that Congress
require school certification. A number of concerns prompted
this recommendation, including how some lenders may be
accepting forms that are incomplete or inaccurate. Such
incomplete paperwork shows that borrowers may not understand
how various loan options have more favorable terms, or whether
their loans exceed educational expenses.
The agencies were troubled by the experience of consumers
with ``direct-to-consumer'' private student loans, i.e., loans
that had not been ``certified'' for financial need by the
school's financial aid office, were more likely to borrow more
than their tuition during the pre-recession boom years. Those
loans were also much more likely to end up in default.
Given the recent increase in securitization activity in the
private student loan market, the Bureau is monitoring the
market closely to determine whether the self-certification
process is working as Congress intended. We will continue to
consult with members of the public, schools, industry
stakeholders, and the Department of Education to determine the
appropriate steps to ensure the market is properly functioning.
Q.2. Rural and Economic Impact--Mr. Chopra, the success of
rural communities is important to me. Rural areas are facing a
serious shortage of qualified professionals in a number of
professions, including teaching, medicine, and law. Can you
describe the extent to which rising student loan debt could
exacerbate existing workforce challenges in rural communities?
In your testimony, you also described a ``domino'' effect of
student loans on the economy. Could you expand upon the impacts
you found on the ability of borrowers to purchase homes, start
businesses, form households, or any other impacts?
A.2. We have heard from consumers and industry professionals
that growing levels of student debt may have spillover effects
that present particular risks for rural communities. In
addition to the fact that for many professions, graduates in
rural communities earn less than their peers in more populated
metropolitan areas, rural communities tend to have more severe
shortages of teachers, certain healthcare providers, and other
professionals. The financial strain of high student debt has
the potential to exacerbate existing workforce shortages that
exist due to these other factors present in rural communities.
I recently had the chance to meet with representatives from
the North American Meat Association, the American Veterinary
Medical Association, the American Association of Bovine
Practitioners, the U.S. Cattlemen's Association, the Academy of
Rural Veterinarians, and the National Farmers Union to discuss
the potential impact of student debt on farmers, ranchers, and
rural communities. Many of these representatives expressed
significant concern.
In February 2013, the CFPB published a notice in the
Federal Register soliciting input on potential solutions to
offer more affordable repayment options for borrowers with
existing private student loans. According to a submission to
the Bureau's request for information from the American Medical
Association, high debt burdens can impact the career choice of
new doctors, leading some to abandon caring for the elderly or
children for more lucrative specialties.\1\ Aspiring primary
care doctors with heavy debt burdens may be unable to secure a
mortgage or a loan to start a new practice. This can have a
particularly acute impact on rural America, where rental
housing is limited and solo practitioners are a key part of the
health care system.
---------------------------------------------------------------------------
\1\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-0878.
---------------------------------------------------------------------------
Classroom teachers submitted letters to the Bureau
detailing the impact of private student loans, which usually
don't offer forgiveness programs and income-based repayment
options. One school district official wrote to the Bureau
noting that programs to make student debt more manageable could
lead to higher retention of quality teachers.\2\ In the past
decade, we've faced a growing shortage of highly qualified math
and science teachers.\3\ Rural and urban school districts face
particularly severe shortages. And teachers in rural districts
generally earn less than their peers--the starting salary for
rural teachers is lower than the starting salary for non-rural
teachers in 39 States.\4\
---------------------------------------------------------------------------
\2\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-0038.
\3\ http://www.nap.edu/catalog.php?record_id=11463.
\4\ http://www.eric.ed.gov/ERICWebPortal/search/
detailmini.jsp?_nfpb=true&_&
ERICExtSearch_SearchValue_0=EJ695458&ERICExtSearch_SearchType_0=0
=no&accno=EJ695458.
---------------------------------------------------------------------------
Student debt can also impact the availability of other
professions critical to the livelihoods of farmers and ranchers
in rural communities. According to an annual survey conducted
by the American Veterinary Medical Association, 89 percent of
veterinary students are graduating with debt, averaging
$151,672 per borrower.\5\ Veterinarians encumbered with high
debt burdens may be unable to make ends meet in a dairy
medicine or livestock management practice in remote areas.
---------------------------------------------------------------------------
\5\ See https://www.avma.org/news/journals/collections/pages/avma-
collections-senior-surveys.aspx.
---------------------------------------------------------------------------
In effect, young graduates with student debt have less
financial flexibility and, consequently, less ability to forgo
a better paying job for one in a rural area. The impact of
student debt on these communities seems worthy of closer study.
More broadly, we are concerned that student debt may have a
``domino effect'' on other sectors of the economy. The National
Association of Home Builders wrote to the CFPB about the
relatively low share of first-time home buyers in the market
compared with historical levels, and that student debt can
``impair the ability of recent college graduates to qualify for
a loan.'' According to NAHB, high student loan debt has an
impact on consumers' debt-to-income (DTI) ratio--an important
metric for decisions about creditworthiness in mortgage
origination. When monthly student loan payments take up a high
portion of a borrower's monthly income, applicants may be less
qualified candidates for a mortgage.
The National Association of Realtors noted that first-time
home buyers typically rely heavily on savings to fund down
payments. When young workers are putting big chunks of their
income toward student loan payments, they're less able to save
for their first down payment.
We have also heard from a number of young entrepreneurs and
innovators working in the technology sector. We asked about the
roadblocks they've experienced when trying to build new
businesses. For many, student debt has made it much harder to
take risks and for these young graduates to bet on themselves
and on their ideas. In addition, we've heard that it is
challenging to attract talented employees willing to take a
risk because they're worried about their debt.
Unfortunately, many recent graduates tell us they've put
off their goal of starting a business, and student debt may be
playing a role. Since the recession, the share of young
graduates' outstanding credit consumed by student loans has
jumped by 14 percent. Others have found that young student loan
borrowers now have lower credit scores than their peers with no
student debt. This may make it more difficult for borrowers to
qualify for small business loans.
Other research has demonstrated that three-quarters of the
overall shortfall in household formation since the start of the
recession can be attributed to reductions in household starts
among younger adults ages 18 to 34. In 2011, nearly 2 million
more Americans in this age group lived with their parents than
in 2007. Moody's Analytics estimates that each new household
formed leads to $145,000 of economic impact.
If student debt is holding back just a third of those two
million young Americans from living on their own, that adds up
to a $100 billion loss or delay in economic activity.
Q.3. Student Loan Servicers--Mr. Chopra, the CFPB recently
proposed a rule that would enable it to examine and supervise
large student loan servicers. Can you describe why the CFPB
proposed this rule and how the agency plans to supervise these
servicers?
A.3. In March of 2013, the Bureau issued a proposed rule
defining the larger participants in the student loan servicing
market. The proposed rule would establish the Bureau's
supervisory authority over certain nonbank covered persons
participating in the market for student loan servicing. The
comment period for the proposed rule closed on May 28, 2013 and
the Bureau is considering the comments received before reaching
any final decisions on the Proposed Rule.
Student loan servicers play a critical role in the student
loan market. Student loan servicers manage interactions with
borrowers on behalf of loan holders of outstanding student
loans. Servicers receive scheduled periodic payments from
borrowers pursuant to the terms of their loans and apply the
payments of principal and interest and other such payments as
may be required pursuant to the terms of the loans or of the
contracts governing the servicers' work. Typically, student
loan servicing also involves sending monthly payment
statements, maintaining records of payments and balances, and
answering borrowers' questions. When appropriate, servicers may
also make borrowers aware of alternative payment arrangements
such as consolidation loans or deferments.
Student loan servicers also play a role while students are
still in school. A borrower may receive multiple disbursements
of a loan over the course of one or more academic years.
Repayment of the loan may be deferred until some future point,
such as when the student finishes post-secondary education. A
student loan servicer will maintain records of the amount lent
to the borrower and of any interest that accrues; the servicer
may also send statements of such amounts to the borrower.
In addition, student loan servicers may collect payments
and send statements after loans enter default. They may also
report borrowers' account activity to consumer reporting
agencies.
In short, most borrowers, once they have obtained their
loans, conduct almost all transactions relating to their loans
through student loan servicers. The proposed rule would enable
the Bureau to supervise larger participants of an industry that
has a tremendous impact on the lives of post-secondary
education students and former students, as well as their
families.
Under 12 U.S.C. 5514, the Bureau has supervisory authority
over all nonbank covered persons offering or providing three
enumerated types of consumer financial products or services:
(1) origination, brokerage, or servicing of consumer loans
secured by real estate, and related mortgage loan modification
or foreclosure relief services; (2) private education loans;
and (3) payday loans. The Bureau also has supervisory authority
over ``larger participant[s] of a market for other consumer
financial products or services,'' as the Bureau defines by
rule. This proposed rule, if adopted, would be the third in a
series of rulemakings to define larger participants of markets
for other consumer financial products or services for purposes
of 12 U.S.C. 5514(a)(1)(B). The Bureau is proposing to
establish supervisory authority over certain nonbank covered
persons participating in the market for student loan servicing.
The Bureau is authorized to supervise nonbank covered
persons subject to 12 U.S.C. 5514 of the Dodd-Frank Act for
purposes of: (1) assessing compliance with Federal consumer
financial law; (2) obtaining information about such persons'
activities and compliance systems or procedures; and (3)
detecting and assessing risks to consumers and consumer
financial markets. The Bureau conducts examinations, of various
scopes, of supervised entities. In addition, the Bureau may, as
appropriate, request information from supervised entities
without conducting examinations.
The Bureau prioritizes supervisory activity at nonbank
covered persons on the basis of risk, taking into account,
among other factors, the size of each entity, the volume of its
transactions involving consumer financial products or services,
the size and risk presented by the product market in which it
is a participant, the extent of relevant State oversight, and
any field and market information that the Bureau has on the
entity. Such field and market information might include, for
example, information from complaints and any other information
the Bureau has about risks to consumers.
The Bureau plans to supervise these servicers consistent
with the general examination manual describing the Bureau's
supervisory approach and procedures. This manual is available
on the Bureau's Web site. As explained in the manual,
examinations will be structured to address various factors
related to a supervised entity's compliance with Federal
consumer financial law and other relevant considerations. On
December 17, 2012, the Bureau released procedures specific to
education lending and servicing for use in the Bureau's
examinations. If this proposed rule is adopted, the Bureau
would use those examination procedures in supervising nonbank
larger participants of the student loan servicing market.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR CRAPO FROM ROHIT
CHOPRA
Q.1.a. Many of the borrower relief options found in the CFPB's
May 2013 report appear beneficial to borrowers. However, one
credit reporting agency has a section on its Web site outlining
the impact of a loan modification on a borrower's credit report
and notes that a modification could negatively impact a credit
score.
Has the CFPB done any analysis to determine if there are
negative collateral impacts to a borrower who gets a loan
modification?
A.1.a. As a general matter, credit scores are based on
proprietary models developed by private industry. Based on our
discussions with servicers and consumer reporting agencies,
there are specific codes in the Metro II reporting format that
allow for indicators of alternative repayment plans.
The impact on a credit score of a student loan default
would certainly be a negative credit scoring event for an
individual consumer. Alternative repayment options that allow a
consumer to avoid delinquency and default would potentially
lead to a better credit score.
However, if a borrower is current on their obligations and
pursues an alternative repayment schedule, a proprietary credit
scoring model might determine that this is a sign of distress,
which may impact a score.
If financial institutions begin to offer more alternative
repayment options to borrowers in distress, it will be
important for servicers to clearly explain the factors that
should be considered when choosing one of these options.
Q.1.b. How does the CFPB balance the need for a consumer to
receive some immediate payment relief with the long term
effects on other parts of a borrower's financial profile?
A.1.b. In our consumer engagement efforts, we encourage
consumers to think of both the short-term and the long-term.
For younger consumers with student loan debt, it is
particularly important for borrowers to protect their credit
profile. Defaulting on a student loan can make it very
difficult to obtain credit in the future, or even pass
employment verification checks. We continue to educate
consumers on ways to avoid default, such as accumulating
emergency savings and pursuing alternative repayment options.
Q.2.a. The CFPB's sole statutory mandate is to protect
consumers. Lenders have noted regulatory confusion as the chief
obstacle preventing them from offering more borrower relief
options. This obstacle arises from a perceived conflict between
the Bureau's borrower relief policies and prudential banking
regulators' safety and soundness guidance.
Has the Bureau taken steps to ensure that borrower relief
options outlined in the May 2013 CFPB report on student loans
don't negatively impact the safety and soundness of the private
student loan market?
A.2.a. As discussed in the hearing, prudential regulators
clearly articulated that they would not criticize institutions
for restructuring debt in a safe and sound manner. The Bureau
has noted that alternative repayment options for private
student loan borrowers might increase the net present value of
troubled loans. This would be beneficial both to consumers,
financial institution, and investors.
Q.2.b. Did the Bureau work with the prudential banking
regulators to address potential regulatory obstacles before
publishing the May 2013 report?
A.2.b. The Bureau regularly consults prudential regulators on a
wide range of matters, including the development of the May
2013 report. As noted in testimony by the prudential regulators
at the June 25th hearing, financial institutions are not barred
from restructuring debt, as long as they accurately reflect the
value of these loans in their accounting statements.
Q.3.a. As a result of prudential banking regulators offering
varying levels of guidance for their supervised institutions
with regards to private student loans, the financial
institutions may in turn offer varying degrees of borrower
relief options.
How does the CFPB anticipate achieving consistent
supervision of private student loans made by financial
institutions that have different prudential banking regulators
and therefore different guidance?
A.3.a. The Bureau does not supervise financial institutions for
safety and soundness. The Bureau conducts examinations to
assess compliance with Federal consumer financial law. The
procedures used in these examinations are available to
financial institutions and the public at: http://
files.consumerfinance.gov/f/
201212_cfpb_educationloanexamprocedures.pdf.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR BROWN FROM ROHIT
CHOPRA
Q.1. As a voting member agency of the Financial Stability
Oversight Council, I am interested in your views on how you
assess whether an entity would meet the criteria to be
designated a systemically important financial institutions
(SIFI). Specifically, given its extremely large footprint in
servicing Direct, FFELP, and private student loans, what would
be the broader impact on consumers and markets if SLM Corp.
(Sallie Mae) were to fail?
A.1. According to its public filings, SLM Corp. (Sallie Mae)
services student loans for over 13 million borrowers of Direct,
FFELP, and private student loans. According to the surveys by
the Student Loan Servicing Alliance, Sallie Mae is the largest
servicer in the market, with a commanding lead over its
competitors.
Analysis of the impact of an unexpected failure of Sallie
Mae would require assessing a number of factors, including
whether there would be financial institutions with excess
servicing capacity to bid on Sallie Mae's servicing rights and
portfolios given a set of capital market conditions, the
ability for the Department of Education to reassign Direct Loan
volume to other contracted servicers, and the impact of a
potential disruption in payments to holders of FFELP asset-
backed securities, among others.
If Sallie Mae's failure led to disruptions in servicing,
there might also be an impact on the processing of payments and
reporting to credit bureaus for individual customer accounts,
if appropriate safeguards are not in place.
Q.2.a. In October 2012, the Consumer Financial Protection
Bureau issued a report about problems servicemembers face when
utilizing benefits guaranteed by Federal law, even on
Government-guaranteed student loans. Your agency supervises
institutions with FFELP portfolios.
Have you focused on these portfolios in your examinations?
A.2.a. Prior to 2010, many insured depository institutions
originated student loans guaranteed by the Federal Government.
For insured depository institutions with assets over $10
billion and their affiliates, the authority to supervise such
entities for compliance with Federal consumer financial law
transferred from prudential regulators to the CFPB on the Dodd-
Frank Act transfer date. The Department of Education oversees
compliance with Title IV of the Higher Education Act.
Our supervision program to date has covered a range of
student lending issues, as well as other lending issues
servicemembers are facing. The October 2012 report you
reference detailed difficulties many servicemembers face in
managing student loan debt, despite a number of Federal
protections and benefits for servicemembers to help manage
their student loan debt.
Under the CFPB's procedures for student lending
examinations, examiners assess a variety of issues. The full
procedures are available to the public at: http://
files.consumerfinance.gov/f/
201212_cfpb_educationloanexamprocedures.pdf.
During the course of the examination, examiners may find
evidence of violations of--or an absence of compliance policies
and procedures with respect to--laws such as the Servicemembers
Civil Relief Act. Additionally, examiners assess servicers'
policies and procedures for granting deferments consistent with
FFELP requirements. The CFPB follows up on any examination
findings as appropriate, depending on all of the facts.
Q.2.b. To what extent have you determined that servicemembers
are victims of unfair or deceptive practices as it regards to
student loan benefits?
A.2.b. An important function of the Bureau's Office of
Servicemember Affairs is to ``monitor complaints by
servicemembers and their families.'' Over the course of
reviewing these complaints, it became clear that servicemembers
were experiencing difficulties obtaining and retaining their
SCRA rights, as well as other benefits. The complaints
submitted by servicemembers and their families regarding their
experiences with financial institutions when navigating student
loan repayment options were quite distressing. These complaints
raise serious questions about the commitment of certain
financial institutions to comply with laws that protect
military families.
The CFPB articulated these concerns as part of the October
2012 report and will utilize the tools at its disposal to
ensure that consumer protections relating to consumer financial
products and services are vigorously enforced for
servicemembers, veterans, and their families. Former Secretary
of Defense Leon Panetta also shared his concern about
misleading information given to servicemembers at an
announcement discussing the findings of the report.
Some financial institution investors have expressed
surprise that senior management would be willing to bear
significant reputation risk for a relatively minor level of
additional profit on servicemember student loans.
Q.2.c. Are you confident that your supervised institutions are
in compliance with the SCRA?
A.2.c. The October report laid out serious concerns over
apparent compliance issues as they relate to student lending
and the SCRA. The CFPB continues to remain concerned about
active-duty servicemembers obtaining and retaining their rights
under the SCRA.
Q.2.d. To what extent have you shared these results with the
Department of Education and the Department of Justice?
A.2.d. The Dodd-Frank Act contemplates that the Office of
Servicemember Affairs will coordinate with other Federal and
State agencies ``regarding consumer protection measures
relating to consumer financial products and services offered
to, or used by, servicemembers and their families.'' The CFPB
has worked closely with both the Department of Education and
the Department of Justice as it relates to military student
loan issues and the significant consumer protection risks
documented within the October report.
Q.3.a. Much of the testimony focused heavily on forbearance as
a method of relief for private student loan borrowers. But the
volume and terms of private student loans issued in the years
leading up to the financial crisis indicate that many of these
loans may not be sustainable even after forbearance periods.
Your July 2012 report documented a 400 percent increase in the
volume of private student loan debt originated between 2001 and
2008--and 2008 originations surpassed $20 billion. The report
also shows that from 2005 to 2008 undergraduate and graduate
borrowers of private student loans took on debt that exceeded
their estimated tuition and fees, and in some years more than
30 percent of loans were made directly to students with no
certification of enrollment from their academic institution.
The heavy debt burden that was created in these few years is
not just unsustainable by dollar volume, but also in the loans'
terms. Loans were often variable rate loans with initial
interest rates ranging from 3 percent to more than 16 percent.
Given that these unfavorable loan terms were made to a
larger number of borrowers, presumably including more students
from limited financial means, do loans originated between 2001
and 2008 comply with your standards for safety and soundness?
A.3.a. Many private student loan borrowers wish to repay their
loans but are seeking alternative repayment plans when they are
unable to earn sufficient income to meet minimum required
payments. The joint CFPB-ED Report to Congress on Private
Student Loans found that, in 2008, 10 percent of private
student loan borrowers devoted more than 25 percent of their
income to meet student loan repayment obligations--a figure
that may have risen as labor market conditions worsened. Many
struggling borrowers end up in delinquency or default, see
their credit profile damaged, and may be excluded from full
economic participation once they attain adequate employment.
However, the CFPB does not supervise institutions,
including private student loan lenders, for safety and
soundness standards. This responsibility remains with the
prudential regulators, so the CFPB cannot speak to whether
loans with poor underwriting met these standards.
Q.3.b. How would refinancing the highest-cost loans to reflect
borrowers' current characteristics affect the soundness of a
regulated institution's balance sheet in the short and long
term?
A.3.b. The CFPB does not supervise institutions for safety and
soundness regulations, so it would be difficult for the CFPB to
determine this impact. As a general matter, when pricing is not
commensurate with risk profile, this may be a sign of
insufficient competition.
Q.4.a. It has often been noted that the lack of competition in
the private student lender market has limited loan refinancing
opportunities.
Given the lack of competition in this space, how can we
assure that low- and middle-income students have access to
affordable loans and loan modification options that reflect the
borrower's characteristics and ability and willingness to
repay?
A.4.a. Borrowers from low- and middle-income families might
face high prices on private student loans due to their
cosigners' credit profile. Even when these borrowers graduate
and find good jobs, many report to the Bureau that they are
unable to refinance to lower rates that reflect their reduced
credit risk. The current industry structure may not be
delivering efficient pricing, and this may warrant further
action from policymakers.
Q.4.b. Is there an existing public or private mechanism to
encourage more sustainable loan terms and refinancing
opportunities for student borrowers?
A.4.b. As discussed in the hearing, depository institutions are
able to offer affordable payment plans to borrowers, as long as
they accurately reflect the value of the loans. However, loan
restructuring activity is troublingly low.
Policymakers took a number of steps to jumpstart lending
and capital markets activity as the financial crisis began to
unravel. This might provide valuable lessons for how to ensure
a well-functioning student loan market.
Q.4.c. Without intervention from Congress or regulators, is
there reason to believe that private student lenders will
actively work with borrowers to issue more sustainable loans
and to modify the terms of loans issues prior to the financial
crisis to more accurately reflect the risk profile of the
borrower given the current lending environment and their
financial status?
A.4.c. Lenders who are nimble and seek to maximize shareholder
value would likely modify loan terms for distressed borrowers
in order to avoid losses from default. However, many financial
institutions face significant challenges with legacy
accounting, IT, and servicing systems that are complex,
inhibiting this activity.
Q.5. Pursuant to Section 1035 of the Dodd-Frank Act, you have
regularly executed the mandate to provide ``appropriate
recommendations'' to certain Congressional committees. Congress
has been examining the long-term future of the GSE participants
in the housing market. Given your expertise in the student loan
market and your statutory mandate, would you find it
appropriate to provide policymakers with your assessment of
Sallie Mae's transition from a GSE to its current corporate
form to inform our approach on housing GSE policy? If so, what
might be a feasible timeline?
A.5. As chartered, the mission of the Student Loan Marketing
Association (Sallie Mae) was to provide liquidity for
Government-guaranteed student loans and serve as a national
secondary market and warehousing facility. Next year will be
the tenth anniversary of the termination of Sallie Mae's
Government charter. As part of the privatization, the Federal
Government freed the company of many of its requirements as a
GSE and permitted the company to maintain the Sallie Mae brand
for a fee of $5 million.
While Sallie Mae is now a private company (organized as SLM
Corp), its business model is closely tied to Government
programs. For example, Sallie Mae is a major Government
contractor where it acts as a servicer and debt collector for
Federal Direct Loans. The corporation is a large holder of
FFELP loans, where it receives certain subsidies on interest
accruals from the Federal Government. According to its filings,
Sallie Mae has relied on Government-affiliated financing,
including an asset-backed commercial paper facility arranged by
the Department of Education and a line of credit with a Federal
Home Loan Bank through its insurance subsidiary. The
corporation also operates Sallie Mae Bank, whose deposits are
insured by the FDIC.
The Department of the Treasury's Office of Sallie Mae
Oversight served as the GSE's primary regulator. The Bureau and
the Department of Education now maintain significant compliance
oversight responsibilities over many of Sallie Mae's business
activities (and in some cases, the Department of Education has
contractual oversight). The Bureau is involved in frequent
dialogue with the Departments of Education and Treasury about
the activities of Sallie Mae, given its outsized role in the
student loan market.
In upcoming months, I will gather further information from
appropriate agencies, as well as former OSMO staff, to provide
information to your office and other interested parties about
the privatization of the GSE and its impact on the marketplace.
Q.6.a. A key finding of the Senate HELP Committee report, ``For
Profit Higher Education: The Failure to Safeguard the Federal
Investment and Ensure Student Success'' is that some for-profit
schools are engaged in tactics that appear designed to
manipulate rates of students defaulting on loans. This includes
schools paying staff based on the number of forbearances or
deferments secured, and in at least one instance paying private
investigators to get signed forbearance authorizations.
Has the CFPB seen similar tactics in the private student
loan market?
A.6.a. The Bureau is unable to comment on the status or
existence of any investigation of for-profit colleges as it
relates to tactics used to manipulate default rates.
As a general matter, for-profit colleges do not face
consequences under the Higher Education Act for defaults
experienced by students on their private student loans. The
Higher Education Act specifies that for-profit colleges may not
exceed certain cohort default rates on Federal student loans
without risking eligibility for accepting Title IV funds.
Q.6.b. Has the CFPB seen evidence that particular institutions
with high levels of student defaults (upwards of 15 percent)
are focused on enrolling servicemembers?
A.6.b. According to data from the Departments of Veterans
Affairs and Education, of the 75 schools with the most
recipients of GI Bill beneficiaries, more than half of those
institutions have a default rate over 15 percent.
Q.6.c. Has the CFPB seen evidence that institutions that enroll
a high number of servicemembers also have a large number of
students that are taking out private student loans?
A.6.c. The Bureau is unable to comment on the status or
existence of any investigation of for-profit colleges targeting
servicemembers and steering them to private student loans.
However, there is concern that the incentive structure
created by the ``90-10 rule'' encourages for-profit colleges to
aggressively market to servicemembers, due to the requirement
that for-profit colleges get at least 10 percent of their
revenue from sources other than Title IV Federal education
funds administered by the Department of Education. GI Bill and
Military Tuition Assistance benefits are not Title IV funds, so
they fall into the 10 percent category that these colleges need
to fill--and we have heard of some very aggressive tactics to
quickly enroll GI Bill recipients, who also took out private
student loans to pay for the amount of tuition and fees not
covered by military benefits.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR MANCHIN FROM ROHIT
CHOPRA
Q.1. In rural towns across the country, there is a chronic
shortage of primary care health professionals. Not just
doctors, but nurses and others. According to the American
Medical Association, student debt may be a barrier to
practicing in underserved communities. This problem extends
beyond health professionals. I hear from West Virginians across
my State that the best teachers are retiring and that poorer
districts are having a tough time bringing in young people to
take their places. So many rural families want their kids to go
to college, but they worry about the impacts of high levels of
student loan debt? In your opinion, how will rural areas
survive without critical professions like doctors, nurses, and
teachers? What are you doing to make sure that the burden of
student debt isn't disproportionately shouldered by rural
areas?
A.1. As you have observed in West Virginia, we have heard from
consumers and the agriculture industry that growing levels of
student debt may have spillover effects that present particular
risks for rural communities. If critical professions such as
doctors, nurses, and teachers are unable to locate in rural
areas, this could pose a serious threat to the standard of
living for Americans in rural communities.
I recently had the chance to meet with representatives from
the North American Meat Association, the American Veterinary
Medical Association, the American Association of Bovine
Practitioners, the U.S. Cattlemen's Association, the Academy of
Rural Veterinarians, and the National Farmers Union to discuss
the potential impact of student debt on farmers, ranchers, and
rural communities. Many of these representatives expressed
significant concern.
In addition to the fact that for many professions,
graduates in rural communities earn less than their peers in
more populated metropolitan areas, rural communities tend to
have more severe shortages of teachers, certain healthcare
providers, and other professionals. The financial strain of
high student debt has the potential to exacerbate existing
workforce shortages that exist due to these other factors
present in rural communities.
In February 2013, the CFPB published a notice in the
Federal Register soliciting input on potential solutions to
offer more affordable repayment options for borrowers with
existing private student loans. According to a submission to a
Bureau request for information from the American Medical
Association, high debt burdens can impact the career choice of
new doctors, leading some to abandon caring for the elderly or
children for more lucrative specialties.\1\ Aspiring primary
care doctors with heavy debt burdens may be unable to secure a
mortgage or a loan to start a new practice. This can have a
particularly acute impact on rural America, where rental
housing is limited and solo practitioners are a key part of the
health care system.
---------------------------------------------------------------------------
\1\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-0878.
---------------------------------------------------------------------------
Classroom teachers submitted letters to the Bureau
detailing the impact of private student loans, which usually
don't offer forgiveness programs and income-based repayment
options. One school district official wrote to the Bureau
noting that programs to make student debt more manageable could
lead to higher retention of quality teachers.\2\ In the past
decade, we've faced a growing shortage of highly qualified math
and science teachers.\3\ Rural and urban school districts face
particularly severe shortages. In effect, the communities with
the most urgent need for great teachers tend to be the school
districts with the fewest. And teachers in rural districts
generally earn less than their peers--the starting salary for
rural teachers is lower than the starting salary for nonrural
teachers in 39 States.\4\
---------------------------------------------------------------------------
\2\ See http://www.regulations.gov/#!documentDetail;D=CFPB-2013-
0004-0038.
\3\ http://www.nap.edu/catalog.php?record_id=11463.
\4\ http://www.eric.ed.gov/ERICWebPortal/search/
detailmini.jsp?_nfpb=true&_&
ERICExtSearch_SearchValue_0=EJ695458&ERICExtSearch_SearchType_0=0
=no&accno=EJ695458.
---------------------------------------------------------------------------
Student debt can also impact the availability of other
professions critical to the livelihoods of farmers and ranchers
in rural communities. According to an annual survey conducted
by the American Veterinary Medical Association (AVMA), 89
percent of veterinary students are graduating with debt,
averaging $151,672 per borrower.\5\ Veterinarians encumbered
with high debt burdens may be unable to make ends meet in dairy
medicine or livestock management practices in rural
communities.
---------------------------------------------------------------------------
\5\ See https://www.avma.org/news/journals/collections/pages/avma-
collections-senior-surveys.aspx.
---------------------------------------------------------------------------
In effect, young graduates with student debt have less
financial flexibility and, consequently, less ability to forgo
a better paying job for one in a rural area. The potential
impact of student debt on these communities is one that
policymakers should closely monitor.
Q.2. It does not make any sense that, under our current system,
students are forced to pay high interest rates on Federal
student loans when everyone else in the economy benefits from
low borrowing costs on everything else. And if we don't act by
July 1st, every Federal loan will have an interest rate of at
least 6.8 percent in 2013, while T-bill rates stay near
historic lows. Not only would moving to a market-based rate
allow students to benefit from cheaper borrowing when everyone
else can, I expect that private student loan lenders would, in
order to remain competitive, lower their rates as well. Under
the current system, private lenders know that we have created
artificial benchmarks for these rates, so private lenders can
always keep their rates unnecessarily high. How do you believe
that implementing a market-based rate for Federal loan programs
would affect the private loan market? Wouldn't allowing Federal
rates to fall during times of cheap borrowing--such as today--
force private borrowers to lower their interest rates to remain
competitive?
A.2. As a general matter, the student loan market has not
exhibited signs of robust competition--even when private market
participants dominated. In the Federal Family Educational Loan
Program, financial institutions could receive subsidies and
guarantees if loans met certain criteria. Congress set
statutory interest rate caps; in theory, the most efficient
private actors would attract customers by providing the lowest
possible price on a commodity product.
Unfortunately, this was generally not the case. While
lenders made limited use of incentives, such as waivers of some
origination fees, those who charged the statutory maximum were
not competed out of the market. Even when borrowers were
offered various advertised incentives, many borrowers would
never benefit from those incentives. Instead of offering
competitive prices to student loan borrowers, many financial
institutions drew scrutiny for business models that provided
benefits to schools and financial aid officials, who are able
to strongly influence student loan choices by students and
families.
The Department of Education and the Bureau authored a joint
report to Congress on private student loans, which showed that
most borrowers would be better off exhausting Federal student
loan options before choosing private loans. Given that private
student loans and Federal student loans are not economic
substitutes, it would be difficult to determine how Federal
student loan rates might impact private student loan pricing.
------
RESPONSE TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON FROM JOHN C.
LYONS
Troubled Debt Restructuring
Q.1.a.-d. Many lenders have noted that they cannot modify loans
because they do not want the modification to be considered a
troubled debt restructuring, or TDR, for accounting purposes.
Mr. Lyons' testimony stated that ``under GAAP a bank must
recognize a loan modification for a financially troubled
borrower that includes concessions as a TDR, with appropriate
loan loss provisions if impairment exists. The designation of a
loan as TDR does not prohibit or impede a bank's ability to
continue to work with the borrower.'' Ms. Eberley's testimony
noted that ``[p]otential or actual treatment as a TDR should
not prevent institutions from proactively working with
borrowers to restructure loans with reasonable modified terms .
. . [t]he FDIC encourages banks to work with troubled borrowers
and will not criticize IDI management for engaging in prudent
workout arrangements with borrowers who have encountered
financial problems, even if the restructured loans result in a
TDR designation.''
Q.1.a. Can you describe when a loan modification is a TDR and
what role your agency plays in interpreting the accounting
standard?
A.1.a. A troubled debt restructure is a restructuring in which
a bank, for economic or legal reasons related to a borrower's
financial difficulties, grants a concession to the borrower
that it would not otherwise consider. Modification of the loan
terms, such as a reduction of the stated interest rate or an
extension of the maturity date at a stated interest rate lower
than the current market rate for new debt with similar risk,
typically qualifies as a restructuring under financial and
regulatory reporting requirements.
The standards for applying TDR accounting are set by the
Financial Accounting Standards Board (FASB) and are part of
generally accepted accounting principles (GAAP). A bank's call
report is statutorily required to be no less stringent than
GAAP. As a result, the OCC ensures that modified or
restructured loans are properly identified, risk-rated,
accounted for, and reported to maintain the integrity of
financial reporting. This includes the identification of
troubled debt restructurings and a complete analysis of the
allowance for loan and lease losses related to loan
modification efforts. The OCC and other Federal banking
agencies also provide input to the FASB on GAAP issues,
including TDRs. For example, in an interagency comment letter
to the FASB on the credit loss proposal dated May 31, 2013, the
agencies encouraged the FASB to consider alternatives to the
TDR designation requirements such as targeted or expanded
disclosures.
Q.1.b. Can you describe how designation of loans as TDR factors
into an institutions' allowance for loan and lease losses
(ALLL), and what role the ALLL plays in calculation of a
financial institution's minimum regulatory capital?
A.1.b. All loans whose terms have been modified in a troubled
debt restructuring must be evaluated for impairment under
Accounting Standards Codification (ASC) Topic 310, Receivables.
In general, loans are impaired when, based on current
information and events, it is probable that an institution will
be unable to collect all amounts due (i.e., both principal and
interest) according to the contractual terms of the original
loan agreement. Impaired loans require appropriate financial
statement recognition either through charge-off or ALLL reserve
allocations.
When measuring TDR impairment on an individual loan basis,
a bank must choose one of the following methods:
LThe present value of expected future cash-flows
discounted at the loan's effective interest rate (i.e.,
the contractual interest rate adjusted for any net
deferred loan fees or costs, premium, or discount
existing at the origination or acquisition of the
loan);
LThe loan's observable market price; or
LThe fair value of the collateral, if the loan is
collateral dependent.
For most private student loans, the present value of
expected future cash-flows is used to evaluate impairment. For
practical reasons, pools of smaller-balance homogeneous TDRs
could be reviewed on a pooled basis. If the impaired value is
less than the current book value, the deficiency is typically
recognized by adjusting the ALLL. When available information
confirms that a specific restructured loan (or portion) is
uncollectible, the uncollectible amount should be charged off
against the allowance for loan and lease losses at the time of
restructuring.
For regulatory capital purposes, treatment of the allowance
for loan and lease losses is different under the generally
applicable rules and the advanced approaches rules. For the
generally applicable rules, the allowance is included in tier 2
capital, up to a maximum of 1.25 percent of riskweighted
assets. A bank may deduct from its risk-weighted assets the
portion of its reserves for loan and lease losses that exceed
the 1.25 percent maximum. For the advanced approaches rules,
banks are required to compare eligible credit reserves to
expected credit losses. If a shortfall exists, the bank must
deduct the shortfall amount from capital (50 percent from tier
1 capital and 50 percent from tier 2). In contrast, if eligible
credit reserves exceed the bank's total expected credit losses,
the bank may include the excess amount in tier 2 capital to the
extent that the excess amount does not exceed 0.6 percent of
the bank's credit-related risk-weighted assets.
Q.1.c. How would the Basel III rules change the treatment of
ALLL in the capital calculation, if at all?
A.1.c. The Basel III rules are similar to Basel II with respect
to the treatment of the ALLL. There are two small changes. The
first is that the base of calculating the amount of ALLL that
would be included in tier 2 capital under the standardized
approach, which will become the generally applicable rule in
2015, no longer includes market risk-weighted assets for banks
subject to the market risk capital rule. The second change
applies to the advanced approaches rules and specifies that any
shortfall of reserves (when compared to expected losses) will
be deducted entirely from common equity tier l. Previously, the
shortfall was deducted 50 percent from tier 1 and 50 percent
from total capital.
Q.1.d. Please describe any other impact designating a loan as
TDR has on an institution's balance sheet.
A.1.d. National banks and Federal thrifts should also evaluate
consumer loan TDRs to determine whether accrual of interest
remains appropriate. In accordance with call report
instructions, upon restructure, a current, well-documented
credit evaluation of the borrower's financial condition and
prospects for repayment must be performed to assess the
likelihood that all principal and interest payments required
under the modified terms will be collected in full. Nonaccrual
reporting status for individual consumer loans is not
specifically required, but the institution must take steps to
ensure that net income is not materially overstated.
Guidance
Q.2.a.-c. Mr. Lyons stated in his testimony that the OCC issued
supplemental guidance to its examiners in 2010 interpreting the
Uniform Retail Classification and Account Management Policy
(Retail Policy) in the context of private student lending.
However, that guidance is not available to private student
lenders, borrowers, or any other market participants.
Q.2.a. Does the OCC plan to make this guidance public or
otherwise provide information to the institutions that it
regulates on supervisory expectations for managing forbearance,
workout, and modification programs?
A.2.a. The guidance was distributed to all examiners, and has
been discussed internally with each bank during the normal
examination cycle that included a review of private student
lending activity.
In July 2013, the OCC issued a reminder to national banks
and Federal thrifts of the importance of working constructively
with troubled student borrowers to avoid unnecessary defaults.
It reminded lenders that prudent workout arrangements are
consistent with safe and sound lending practices and are
generally in the long-term best interest of both the financial
institution and the borrower. To promote consistency, this was
a joint agency announcement by the OCC, Federal Reserve, and
the Federal Deposit Insurance Corporation (FDIC).
Q.2.b. Mr. Vermilyea stated in his testimony that the Retail
Policy is ``timeless.'' The Retail Policy was revised in 2000,
which superseded a 1999 revision, which in turn revised a
policy from 1980. The private student loan market quadrupled
from 2001 to 2008 and just as rapidly declined through 2012.
Given the marked changes in the student loan market since
publication of the Retail Policy in 2000, what criteria do the
agencies, either individually or through the Federal Financial
Institutions Examination Council, use to determine when it is
appropriate to revisit retail credit policy?
A.2.b. The agencies review the Uniform Retail Classification
and Account Management Policy (Uniform Classification Policy)
for updating or clarification when it becomes apparent that
lending practices are changing and application is inconsistent
or unclear. The main criteria would be if product terms change
significantly enough that the delinquency-based foundation
would no longer serve as a reasonable credit quality proxy.
This would be most likely if regular, required monthly payments
were no longer sufficient to signal a borrower has continued
willingness and ability to repay the debt as structured.
This becomes apparent to the agencies through examination
work, policy-application questions from bankers or examiners,
and general monitoring of lending practices and trends. Most
consumer products continue to fit reasonably well under the
Uniform Classification Policy parameters.
Q.2.c. When would it be appropriate to provide guidance to
private student lenders regarding supervisory minimum
expectations?
A.2.c. It becomes most important to provide guidance to lenders
when product terms change significantly, application of
existing policies is inconsistent, or the nature of specific
products makes application of existing guidance unclear. For
private student loans, the nature of the transition from school
to full-time employment is unique to the product and warranted
special consideration. Given the economic conditions in 2010,
the OCC determined that establishing parameters for initial
grace periods and the prudent use of forbearance programs would
help lenders apply the Uniform Classification Policy more
consistently.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR CRAPO FROM JOHN C.
LYONS
Q.1. In 2010, the OCC published additional guidance for
financial institutions so they may properly record private
student loan modifications on their books. The OCC currently
allows financial institutions the ability to offer borrowers a
6-month grace period after graduation and a 6-month forbearance
period. This guidance effectively grants the institution the
ability to offer a 1-year window before a borrower has to make
full payment.
What factors did the OCC consider in publishing additional
guidance on private student loans?
A.1. The primary factor the OCC considered concerned the
difficulty borrowers were having in the transition from school
to the job market once their education was complete. The job
market in 2010 was extremely difficult for students, and many
had problems finding full-time employment in their specific
field of study. Most student loan structures provide a 6-month
grace period to help borrowers find suitable employment, but
many borrowers found this an insufficient amount of time and
were having difficulty beginning scheduled payments.
In response, some lenders began granting excessive
forbearance to distressed borrowers both in the transition to
repayment and during the repayment term. The most common was
the suspension of all payments for protracted periods without
sufficient analysis or documentation of the borrower's hardship
or willingness and reasonably expected ability to repay. This
was inconsistent with the fundamental principles of the Uniform
Classification Policy that allows extensions, deferrals,
renewals, and rewrites to help borrowers overcome temporary
financial difficulties. Under the Uniform Classification
Policy, prudent forbearance programs are allowed so long as the
actions do not cloud the true performance and delinquency
status of the portfolio, are based on renewed willingness and
ability to repay the loan, and are structured and controlled in
accordance with sound internal policies and procedures. In this
case, the OCC determined that additional contextual guidance
would improve consistency. The main purpose of the additional
guidance was to describe practices that would generally be
acceptable as part of a controlled and documented program,
including grace and extended grace periods, loan modifications,
and in-school deferments.
Q.2. What factors contributed to the OCC's decision to cap the
grace period and forbearance period at 6 months each?
A.2. The initial 6-month grace period is a common industry
practice for most student loans, public and private. This
initial period has traditionally been sufficient to allow
borrowers time to find employment, and adjust to the costs of
establishing households and other expenses of independent
living. Extended grace periods were a direct response to the
difficulties students had finding fulltime employment given the
economic conditions at the time.
The extended grace period was capped at an additional 6
months (12 months in total) to balance a reasonable job search
timeframe with the need for institutions to maintain the
integrity of their financial statements. The nature of the
school-to-work change makes a transition period appropriate,
but accurate reporting is also an important risk management
practice that protects the integrity of the financial
statements, and prompts direct and active loss mitigation
actions when necessary. Both factors were considered in the
allowable grace and forbearance timeframes.
Q.3. It is possible that a 2-year graduated repayment option
actually results in better performance of the loan than a 1-
year window of no repayment. Why is a 2-year graduated
repayment option not allowed under current OCC guidance?
A.3. It is possible that a 2-year graduated repayment plan
could result in better performance than a 1-year window of no
repayment. Regular payments are an important characteristic of
well-structured, successful consumer loan products, and the
sooner a borrower with capacity begins making payments, the
more likely they will manage their overall financial situation
in a prudent and disciplined manner. Limited grace periods can
help borrowers with the initial transition from school to full-
time employment, but in general, the longer forbearance lasts,
the more expensive the loan becomes and the more likely it is
that borrowers may allocate available funds to other
priorities. That is why many successful private student loan
programs offer borrowers the option of making some payments
each month even while in school. It lowers long-term costs (by
reducing or eliminating deferred interest) and helps the
borrower manage their budget and get used to making regular
payments on the debt. Sometimes zero payment grace and deferral
periods are necessary for borrowers without the capacity to
repay, but we would not be surprised if accounts with immediate
regular payments, even if initially lower than full, amortizing
payments, outperformed loans with extended grace and
forbearance periods.
The OCC's guidance does not prohibit appropriately
structured graduated repayment plans as a type of loan
modification. More specifically, our guidance does not
specifically address graduated repayment options of any time
period because if a borrower is not able to make the full
payment the bank has the option to consider a modification or
workout plan that best fits the individual consumer's
situation. This modification or workout plan could result in a
period of full deferral or, depending on the consumer's ability
to pay, a period of lower payments until the borrower is able
to resume full regular payments.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR BROWN FROM JOHN C.
LYONS
Q.1.a.-b. In the years leading up to the financial crisis, the
Student Loan Asset Backed Securities (SLABS) market experienced
unprecedented growth. SLABS issuance grew to more than $16
billion annually to feed investor demand for these securities.
To increase volume, higher dollar value loans were made to a
greater range of borrowers before being securitized. Multiple
witnesses noted that the loans still held in securitized trusts
may have fewer modification and refinance opportunities than
those retained on a bank's balance sheet, further limiting
options for borrowers and raising the risk of default.
Q.1.a. Where applicable, what percentage of student loans
originated by institutions regulated by your agency and still
in repayment is held in securitized trusts? What percentage is
held on banks' balance sheets?
A.1.a. The largest OCC-regulated institutions with student
lending portfolios have outstanding balances aggregating
approximately $55 billion. Of that, approximately $4.9 billion
or 9 percent is held in securitized trusts, with the remaining
91 percent on balance sheet.
Q.1.b. Is there a difference in the performance of loans that
have been securitized and those that are held directly on a
bank's balance sheet?
A.1.b. Performance metrics for the securitized balances, in
some cases, are better than those for loans that are not
securitized. The primary reason for this is that in some of our
institutions that have exited private student lending,
securitized assets have seasoned, with all of the loans well
into their repayment period. These loans are generally beyond
the time in their life cycle when most delinquencies and losses
are likely to occur.
Q.2.a.-c. In his testimony, Mr. Chopra stated that mortgage and
student loan borrowers may have more difficulties working out a
modification or forbearance when those loans have been
securitized, but fewer barriers exist for student loan
borrowers than existed in the mortgage market.
Q.2.a. What additional barriers to forbearance and
modifications exist for private student loan borrowers whose
loans were securitized?
A.2.a. The main limitation is generally aggregate forbearance
and modification levels for the securitized pool as a whole.
Frequent modification and forbearance actions can reduce
portfolio yield and extend loan maturity enough to disrupt the
timing and level of the securities' cash-flows that investors
are expecting. Rating agencies monitor and stress forbearance
and modification actions to track whether volumes are higher
than expected or could potentially impair cash-flows available
for investors. Cash flow interruptions from unexpected
forbearance or modification levels could result in a ratings
downgrade. As volumes near thresholds, servicers may have
contract or financial incentives to reduce the volume of
modification and forbearance activity.
Q.2.b. How are contract conditions for SLABS different from
conditions for mortgage-backed securities?
A.2.b. Contracts vary, but the general parameters for most
asset-backed securities are similar. For example, most SLABS
and mortgage-backed securities (MBS) require servicers to
manage, service, administer and make collections on trust
assets with reasonable care, using the degree of skill and
attention that the servicer exercises with similar loans that
it services on its own behalf. In other words, the contracts
generally expect servicers to treat securitized accounts the
same way they treat their own.
Investors, trustees, and rating agencies prefer common
servicing approaches because cash-flow estimates for the
securitized pools are largely based on an issuer's/servicer's
pattern of performance. Past performance is an important factor
in setting pricing and credit enhancement levels, two factors
that significantly affect price. Long, consistent history
allows better analysis and cash-flow projections as long as
borrower pools remain reasonably stable. Even so, both contract
types also typically limit aggregate forbearance or
modification activity to levels unlikely to alter projected
cash-flows materially without explicit written trustee consent.
Trustees want consistent performance, but also wish to retain
some control over actions that could change cash-flows enough
to affect a securities rating.
In some cases, the existence of collateral and the lack of
bankruptcy protection in a mortgage transaction may prompt MBS
to give servicers more flexibility than student loan
securities. Proactively managing collateral and secondary
sources of repayment can materially affect trust cash-flows, so
MBS pooling and servicing contracts may allow more frequent or
timely forbearance or modification actions. For example, some
contracts allow MBS servicers to modify loans when default is
``imminent'' rather than the more common post-default
threshold. Since private student loans seldom have collateral
but do have long-term protection from bankruptcy discharge,
different loss mitigation approaches are common.
Q.2.c. What would be required to offer borrowers with
securitized loans the same options that can be afforded to
borrowers whose loans were not securitized?
A.2.c. Most contractual forbearance and modification
limitations for securitized assets are designed to ensure
adequate and timely cash-flows to repay investors. The most
compelling argument for allowing greater activity would be to
convince investors (and rating agencies) that the forbearance
and modification actions used objectively improve the timing
and amount of cash-flows received, and do not simply defer
losses. Investors are particularly wary of speculative
modification actions that only delay losses since security
structures sometimes release credit protection over time, and
delayed (rather than reduced) losses may then occur when credit
protection is no longer available.
Q.3. As a voting member agency of the Financial Stability
Oversight Council, I am interested in your views on how you
assess whether an entity would meet the criteria to be
designated a systemically important financial institutions
(SIFI). Specifically, given its extremely large footprint in
servicing Direct, FFELP, and private student loans, what would
be the broader impact on consumers and markets if SLM Corp.
(Sallie Mae) were to fail?
A.3. The Financial Stability Oversight Council (FSOC) has
established a three-stage process and interpretative guidance
that FSOC members use to assess and determine whether a nonbank
financial company should be designated as systemically
important and subject to enhanced prudential standards and
supervision by the Board of Governors of the Federal Reserve
System pursuant to section 113 of the Dodd-Frank Act. The
FSOC's assessment process considers the 10 statutory
considerations set forth by Congress for making such
determinations. FSOC's interpretative guidance evaluates these
factors in the context of how the material distress at a given
nonbank financial company could be transmitted to other
financial firms and markets and thereby pose a threat to U.S.
financial stability through three transmission channels:
(1) Lthe exposures of creditors, counterparties, investors,
and other market participants to the nonbank financial
company;
(2) Lthe liquidation of assets by the nonbank financial
company, which could trigger a fall in asset prices and
thereby could disrupt trading or funding in key markets
or cause significant losses or funding problems for
other firms with similar holdings; and
(3) Lthe inability or unwillingness of the nonbank financial
company to provide a critical function or service
relied upon by market participants and for which there
are no ready substitutes.
Thus, consistent with the FSOC's interpretative guidance,
factors that one would consider when assessing the potential
impact of a failure by any nonbank financial company, include
substitutability (e.g., the extent to which there would be
other sources for products or services offered by the nonbank
financial company); interconnectedness between the nonbank
financial company and other financial institutions; and the
complexity and resolvability of the nonbank financial company's
operations.
Q.4.a. In October 2012, the Consumer Financial Protection
Bureau issued a report about problems servicemembers face when
utilizing benefits guaranteed by Federal law, even on
Government-guaranteed student loans. Your agency supervises
institutions with FFELP portfolios.
Have you focused on these portfolios in your examinations?
A.4.a. Most large banks do not offer private student lending.
However, when offered, the Servicemembers Civil Relief Act
(SCRA) is an integral part of OCC's compliance supervision.
Supervisory activities include a review of internal audit
processes and findings as well as bank policies, procedures and
practices. OCC reviews customer complaints and performs
transactional testing. Conclusions, including violations of
law, Matters Requiring Attention, and other significant
recommendations, are documented and communicated to the bank in
a Supervisory Letter or Report of Examination.
Q.4.b. To what extent have you determined that servicemembers
are victims of unfair or deceptive practices as it regards to
student loan benefits?
A.4.b. Examinations conducted in large banks have not
identified servicemembers that have been harmed by unfair or
deceptive practices related to student loan benefits.
Q.4.c. Are you confident that your supervised institutions are
in compliance with the SCRA?
A.4.c. OCC's current supervisory guidance requires annual SCRA
examinations. While OCC continues to see improved compliance
with SCRA requirements, we will continue to hold banks
accountable for compliance with the Act.
Q.4.d. To what extent have you shared these results with the
Department of Education and the Department of Justice?
A.4.d. The OCC works closely with the Department of Justice
(DOJ) on SCRA matters, including issues that arise in the
course of the OCC's examinations of national banks and Federal
thrifts and other supervisory activities. As an example, last
year the OCC and DOJ engaged in coordinated formal enforcement
actions in connection with violations of SCRA by Capital One,
N.A., and Capital One Bank (USA), N.A. Less formally, OCC staff
also regularly consults with DOJ staff on SCRA questions that
arise in connection with the OCC's supervision of national
banks and Federal thrifts. For example, the OCC is currently
consulting with DOJ regarding the extent to which certain SCRA
protections apply to an LLC that is majority owned by a
servicemember and his spouse. The OCC believes that these
consultations promote more consistent interpretation of SCRA
across Government agencies.
The OCC also works with the Department of Education (DOE)
regarding student loan issues that have come to the OCC's
attention during the course of our supervisory activities. Our
opportunities to work with DOE are less frequent than our
collaborations with DOJ, in part because the Federal Government
now makes Federal student loans directly to students, and
national banks and Federal thrifts are not involved with new
Federal student loans. Currently, the OCC is consulting with
DOE concerning the appropriate way in which servicers of
student loans may reconcile an apparent inconsistency between
the minimum payment set forth in the Common Manual for
servicing Federal student loans and the maximum interest rate
provisions of SCRA.
With regard to issues that may arise involving specific
student loan transactions or files, the Right to Financial
Privacy Act (RFPA), 12 U.S.C. 3401-3422, places statutory
limits on the OCC's authority to transfer to other Government
agencies the financial records of customers of the financial
institutions that the OCC supervises. The OCC must certify that
there is reason to believe that the financial records are
relevant to a legitimate law enforcement inquiry within the
jurisdiction of the Government agency to which it transfers the
financial records. 12 U.S.C. 3412(a). Under the RFPA, it is
difficult for the OCC to provide detailed information to the
DOE concerning violations of the SCRA, as the DOE has no
apparent authority to enforce SCRA against national banks and
Federal thrifts.
The RFPA does not limit the transfer of customer financial
records to DOJ if the OCC can certify that there is reason to
believe that the records may be relevant to a violation of
Federal criminal law, and that the OCC obtained the records in
the exercise of its supervisory or regulatory functions. 12
U.S.C. 3412(f)(l)(A) and (B). Thus, because SCRA attaches
criminal penalties to the violation of certain provisions of
SCRA, the OCC can more easily transfer records to DOJ for
possible violations of SCRA.
Q.5.a.-c. The CFPB's May 2013 report, Student Loan
Affordability: Analysis of Public Input on Impact and
Solutions, raised concerns about the effect of unsustainable
levels of student debt. Heavy student loan burdens not only
deplete available resources but can also limit the career
opportunities of young graduates who must earn salaries that
can repay tens or hundreds of thousands of dollars in debt.
And, if borrowers fall behind the resulting damage to their
credit can further limit access to financing for a home, car,
or even daily purchases. Homebuilders and mortgage originators
have already noted a decrease in the volume of home purchases
by young people, and practitioners in careers that may offer
less compensation, including public service and family
medicine, have noted that young people are now gravitating
toward more lucrative careers to pay back large volumes of
debt.
Q.5.a. Has your agency observed differences in home loans, auto
loans, and other extensions of credit to young borrowers?
A.5.a. Institutions we regulate do not monitor application or
performance statistics based on a borrower's age. While credit
card issuers must adhere to specific Regulation Z underwriting
requirements for applicants under 21 years of age, credit card
portfolios are not typically segmented specifically by age.
Some institutions offer ``student'' credit cards. Age is not a
criterion that would determine whether an applicant would be
included in the student portfolio and all borrowers classified
as students are not necessarily under 21. However, it is likely
that the vast majority of student cardholders would be
considered ``young'' borrowers. In institutions where
performance of this segment is monitored, performance metrics
are not consistent. In some OCC-regulated institutions, younger
credit cardholders show better performance metrics than the
general population, and, in others, they do not perform as
well.
Q.5.b. Given the risks associated with student loans, which are
typically underwritten without an extensive borrower credit
history, and the relatively more secure, collateralized loans
made for homes, cars, and other consumer products, how do you
project that the rising burden of student debt will impact the
balance sheets of the institutions that you regulate in the
long term?
A.5.b. Student lending is a minor segment of most national bank
and Federal thrift balance sheets, so the volume of student
loan balances is not expected to be a significant concern for
the foreseeable future.
Student loan debt service requirements however, may be an
issue as debt levels rise. Monthly payments for existing
student loans are part of the repayment capacity analyses for
all new consumer loans, and rising levels are a claim on
monthly cash-flows that may restrict the amount of other debt
available to borrowers. Financing an education requires
borrowers to manage debt levels and sometimes delay other
spending until income levels can handle larger amounts of debt.
This may affect growth levels for other products, and lenders
will need to remain disciplined and consider total debt burden
for all existing debt at each new credit request.
Q.5.c. In your experience, do the private student lenders you
regulate extend, or offer to extend, other forms of credit to
borrowers of private student loans? How do incentives for
customer service and sound financial practices change for
private student lenders that do not offer a full suite of
financial products?
A.5.c. Most OCC-regulated private student lenders offer a full
range of consumer products, including auto loans, credit cards,
and mortgages. Many bank customers have student loans and other
types of consumer credit. None of the OCC-regulated private
student lenders are monoline companies that specialize only in
student loans.
Q.6. Your testimony cited OCC guidance issued in 2010 as the
standard that regulators use when determining the soundness of
bank's decision to work with a troubled borrower. The guidance
states that once repayment has begun ``private student loans
should not be treated differently from other consumer loans
except in cases where the borrower returns to school.'' It
further states the loan modifications should be considered for
``long-term hardships'' and may ``temporarily or permanently''
reduce interest rates to lower payments but should not include
terms that ``delay recognition of the problem credit.''
How often does each of the private student lenders that you
supervise engage in loan modifications for borrowers who are in
long-term hardship situations? How often does each of the
lenders grant additional forbearance beyond the 6-month
introductory period?
A.6. The large OCC-regulated institutions have not generally
offered modification programs for long-term hardship situations
unless made available as a feature in guaranteed loan
portfolios such as The Education Resources Institute, Inc.
(TERI). Several institutions will make a modification available
to military servicemembers in active duty status. These
modifications are decisioned on a case-by-case basis and occur
infrequently.
Most large OCC-regulated institutions do grant an
additional 6-month forbearance period for borrowers
experiencing financial hardship, with appropriate supporting
documentation of their hardship.
Q.7. In your testimony, you described that institutions should
constructively work with private student loan borrowers to
conduct modifications in a safe and sound manner. Given that
loan modifications might increase the net present value of
certain troubled loans, how does your agency plan to increase
the pace of loan modification activity among its supervised
institutions?
A.7. The OCC expects lenders to work constructively with
troubled borrowers, and to offer prudent loan modification
programs when objective analysis indicates the ability to
improve cash-flows and performance. As with all consumer
products, OCC supervision of student lending loan modification
activity generally focuses on the adequacy of information and
the quality of decisionmaking. We expect both to be well
controlled, structured, and robust, including the development
and use of any net present value models used in modification
decisions. Where credible net present value evaluations
indicate modification and other workout or forbearance actions
are prudent, the OCC will continue to encourage institutions to
actively engage in the programs.
Q.8. Please provide any interpretive guidance (e.g., for use by
examiners, supervised institutions) on the Uniform Retail
Classification and Account Management Policy that is specific
to private student loans. Describe how your interpretation
differs from the guidance used by other prudential regulators.
A.8. In August 2010, the OCC issued CNBE Policy Guidance 2010-
02, ``Policy Interpretation: OCC Bulletin 2000-20--Application
to Private Student Lending'' to examiners to help them
interpret the Retail Uniform Classification Policy specifically
for private student lending. The guidance explicitly permits
national banks and Federal thrifts to engage in the following
actions to assist borrowers:
LIn-school deferments--allows lenders to postpone a
borrower's principal and interest payments as long as
the person is enrolled in school at least as a half-
time student.
LGrace periods--allows lenders to defer a borrower's
payments for 6 months immediately following their
departure from school, without conditions or hardship
documentation.
LExtended grace periods--allows lenders to defer a
borrower's payment for an additional 6 months
immediately following the initial grace period for
those borrowers who are experiencing a financial
hardship. This benefit is available to student loan
borrowers who are unemployed or under-employed.
LShort-term forbearance--allows lenders to offer
two-to-three month loan extensions to a borrower to
address short-term hardships.
LLoan modifications--allows lenders to provide
interest rate and payment reductions to borrowers who
are experiencing long-term hardships.
Although the OCC was the only prudential regulator to issue
specific interpretive guidance for private student lending, in
July 2013, the OCC, Federal Deposit Insurance Corporation and
the Board of the Governors of the Federal Reserve System issued
a joint statement that encourages financial institutions to
work constructively with private student borrowers experiencing
financial difficulties. The statement reaffirms that the
Uniform Classification Policy permits prudent student workout
and modifications of retail loans, including private student
loans.
Q.9. What is your supervisory approach when conducting
examinations of Federal and private student loan servicing
activities? What are the risk factors that you look for? Do you
have publicly available manuals and guidance that cover student
loan servicing? Have you utilized complaints submitted to the
CFPB and the Department of Education to scope your exams?
A.9. Many of our large institutions no longer offer private
student loans to new borrowers, and are simply servicing
existing portfolios. Risks in these portfolios and the focus of
OCC supervisory activities are in servicing, collection and
recovery activities. Supervision will include reviews of
activities performed by the bank's control functions such as
internal audit, quality control and quality assurance,
particularly when servicing is performed by a third party.
Examiners may also include transaction testing to ensure
institutions are appropriately offering grace periods,
deferments and modifications. In institutions still active in
private student loan originations, examiners will also review
front-end activities, such as underwriting policies and
strategies.
The OCC has no examination manual dedicated specifically to
student lending. However, the agency's overall retail credit
examination procedures and existing Federal Financial
Institutions Examination Council (FFIEC) guidance for retail
classification and account management are applicable to student
lending. OCC emphasized this in CNBE Policy Guidance 2010-02
and examiners utilize this guidance for private student lending
supervisory activities.
Examiners have used complaints filed with the OCC to help
guide the scope of examination activities. To date, the
Consumer Financial Protection Bureau (CFPB) database or
complaints filed with the DOE have not been widely used but all
sources of consumer complaints are gaining wider usage during
both consumer compliance and safety and soundness supervisory
activities.
Q.10. Compared to Direct Loans, it is generally more cumbersome
for Federal student loan borrowers to enroll in income-based
repayment programs. Many institutions you supervise have
significant FFELP holdings. How would you generally assess the
ability of your supervised entities to make borrowers aware of
and successfully enroll them in income-based repayment options?
A.10. We believe that the institutions we supervise have the
ability to make borrowers aware of and successfully enroll in
income-based repayment programs. Enrollment criteria and
payment terms were established by the Federal Government, and
servicers must comply with these terms in approval or payment
decisions. Most national bank and thrift servicers provide
contact information for troubled borrowers on their Web site
and in monthly billing statements. Income-based repayment terms
are also widely available on the internet, including on the
DOE's Web site.
Q.11.a.-c. In your testimony, you stated that lack of
competition in the private student lender market has limited
loan refinancing opportunities. But you also stated that
pricing of private student loans is based on risk-based pricing
and competition within the market.
Q.11.a. Given the lack of competition in this space, how can we
assure that low- and middle-income students have access to both
affordable loans and loan modification options that reflect the
borrower's characteristics and ability and willingness to
repay?
A.11.a. Calibrating loan amounts and payment structures to a
student borrower's potential future income flows is inherently
difficult and the main challenge for both Federal and private
loan programs. Most Federal loans are tied more closely to the
cost of education and living expenses rather than quantifiable
potential future earnings that would limit loan amounts to
affordable levels. Federal programs consider this an acceptable
risk as they seem more willing to balance potential shortfalls
with the general benefits of a broad, highly trained workforce.
Private student lenders tend to have a narrower perspective
and are far more concerned with quantifiable sources of
repayment at origination. Loan underwriting typically considers
affordability and credit performance at inception, and loan
amounts and payment terms are set accordingly. Most private
student lenders require co-borrowers to meet affordability
standards and mitigate the lack of a loan guarantee.
Modification decisions also tend to be based on available
resources from all borrowers, not only the student's income.
The most direct, practical way to assure greater access to
affordable loans and primary obligor-based modifications would
be to shift more lending for low- and moderate-income students
to Federal programs. This would allow greater access to income-
based repayment and principal forgiveness programs for low-to-
moderate-income borrowers. Simply mandating primary-borrower
income-based repayment programs and loan modifications by
private student lenders may have the unintended consequence of
restricting credit by driving participants out of the market.
Q.11.b. Is there an existing public or private mechanism to
encourage more sustainable loan terms and refinancing
opportunities for student borrowers?
A.11.b. Most Federal student loan programs offer payment and
consolidation options designed to help borrowers manage
repayment and debt levels. These include graduated repayment
plans, income-contingent repayment plans, extended repayment
plans, income-based repayment plans, loan consolidation
programs, and loan rehabilitation programs for delinquent
borrowers. Most are tied directly to a primary borrower's
income and ability to repay and are designed to be sustainable
and affordable. Several programs also allow principal
forgiveness or administrative forbearance under certain
conditions, largely tied to longer-term performance and a
primary borrower's income or occupation.
These payment, consolidation, and rehabilitation programs
tend to be more expensive than traditional amortizing loan
structures used by private student lenders, and encouraging
greater use would likely require subsidies or incentives to
either adopt similar programs or shift existing loans to
Federal programs.
Q.11.c. Without intervention from Congress or regulators, is
there reason to believe that private student lenders will
actively work with borrowers to issue more sustainable loans
and to modify the terms of loans issues prior to the financial
crisis to more accurately reflect the risk profile of the
borrower given the current lending environment and their
financial status?
A.11.c. Private student lenders have inherent financial
incentives to work actively with troubled borrowers to maximize
cash-flows and minimize losses for existing loans. Even with
bankruptcy protection, collections and servicing costs for
delinquent student borrowers are expensive, time consuming, and
limit profitability. Most private student lenders attempt to
control collections expenses by requiring financially
responsible coborrowers to mitigate the risk. As a result,
initial loan terms and subsequent loan modifications are
typically based on available income and resources from all
borrowers on the note, not only the primary student.
When modifications and workout programs are used, national
banks and Federal thrifts are expected to link decisions
directly to the nature of the hardship and the willingness and
ability of the borrower(s) to comply with sustainable
modification terms. Current lending and economic environments
are also a factor, and repayment and modification terms do
adjust to consider these factors. For example, high
unemployment levels associated with the last recession prompted
lenders to offer extended grace periods beyond the initial 6-
month period for students having difficulty finding employment.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR MANCHIN FROM JOHN C.
LYONS
Q.1. In rural towns across the country, there is a chronic
shortage of primary care health professionals. Not just
doctors, but nurses and others. According to the American
Medical Association, student debt may be a barrier to
practicing in underserved communities.
This problem extends beyond health professionals. I hear
from West Virginians across my State that the best teachers are
retiring and that poorer districts are having a tough time
bringing in young people to take their places.
So many rural families want their kids to go to college,
but they worry about the impacts of high levels of student loan
debt.
In your opinion, how will rural areas survive without
critical professions like doctors, nurses, and teachers? What
are you doing to make sure that the burden of student debt
isn't disproportionately shouldered by rural areas?
A.1. While we do not regulate higher education costs, we
recognize the issue and can understand and appreciate the
challenges facing rural communities. Situations like this are
one of the main reasons Federal student loan programs offer
income-based and income-contingent repayment programs that
sometimes include principal forgiveness for student loan
borrowers who work in underserved areas.
For private student loans, one issue we find extremely
important is the need for lenders to tailor workout,
forbearance, and modification programs directly to the nature
of a borrower's situation. Most often, this includes
consideration of co-borrowers, but even so, we expect workout
programs and modifications to be objective decisions that
lenders offer when a credible analysis indicates that such
actions will improve cash-flows. When offered, modification
terms should be sustainable, capacity-based, and tied directly
to a borrower's current and prospective ability to repay. This
will not solve the debt burden issue by itself, but should help
ensure that actual income levels are an important consideration
whenever modification or workout programs are used.
Q.2.a. It does not make any sense that, under our current
system, students are forced to pay high interest rates on
Federal student loans when everyone else in the economy
benefits from low borrowing costs on everything else. And if we
don't act by July 15--every Federal loan will have an interest
rate of at least 6.8 percent in 2013, while T-bill rates stay
near historic lows.
Not only would moving to a market-based rate allow students
to benefit from cheaper borrowing when everyone else can, I
expect that private student loan lenders would, in order to
remain competitive, lower their rates as well. Under the
current system, private lenders know that we have created
artificial benchmarks for these rates, so private lenders can
always keep their rates unnecessarily high.
How do you believe that implementing a market-based rate
for Federal loan programs would affect the private loan market?
A.2.a. We would not expect significant change to the private
loan market from implementation of a market-based rate for
Federal loans. Private student lenders base pricing on
operational costs, funding costs, and the risk in the
transaction. Most often today, that includes the structure of
the note, repayment capacity of the student, and the financial
strength of any available co-borrowers. Other debt, including
Federal student loans, is a consideration, but unless the rate
change also affects the amount of Federal student loans
available, we do not expect a market-based rate for Federal
loans would have a substantial influence on lending decisions
in the private student loan market.
Q.2.b. Wouldn't allowing Federal rates to fall during times of
cheap borrowing--such as today--force private borrowers to
lower their interest rates to remain competitive?
A.2.b. Given available subsidies and flexible repayment options
under Federal programs, most private student loans today are
supplements to Federal programs rather than price-sensitive
alternatives. As such, we expect that private student lenders
would continue to base loan pricing on the characteristics of
the transaction rather than the rate of Federal student
programs. The risk in a private student loan today is generally
a function of the strength of co-borrowers, a consideration not
significantly impacted by Federal rates. We expect Federal
program limits and the cost of education to continue to be the
main driver of private student loan volumes.
------
RESPONSE TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON FROM TODD
VERMILYEA
Troubled Debt Restructuring
Q.1. Many lenders have noted that they cannot modify loans
because they do not want the modification to be considered a
troubled debt restructuring, or TDR, for accounting purposes.
Can you describe when a loan modification is a TDR and what
role your agency plays in interpreting the accounting standard?
Mr. Lyons' testimony stated that ``under GAAP a bank must
recognize a loan modification for a financially troubled
borrower that includes concessions as a TDR, with appropriate
loan loss provisions if impairment exists. The designation of a
loan as TDR does not prohibit or impede a bank's ability to
continue to work with the borrower.'' Ms. Eberley's testimony
noted that ``[p]otential or actual treatment as a TDR should
not prevent institutions from proactively working with
borrowers to restructure loans with reasonable modified terms .
. . [t]he FDIC encourages banks to work with troubled borrowers
and will not criticize IDI management for engaging in prudent
workout arrangements with borrowers who have encountered
financial problems, even if the restructured loans result in a
TDR designation.'' Can you describe how designation of loans as
TDR factors into an institutions' allowance for loan and lease
losses (ALLL), and what role the ALLL plays in calculation of a
financial institution's minimum regulatory capital? How would
the Basel III rules change the treatment of ALLL in the capital
calculation, if at all? Please also describe any other impact
designating a loan as TDR has on an institution's balance
sheet.
A.1. Under U.S. generally accepted accounting principles (GAAP)
and FFIEC Reports of Condition and Income (call reports), a
restructuring of a debt constitutes a troubled debt
restructuring (TDR) if the creditor for economic or legal
reasons related to the debtor's financial difficulties grants a
concession to the debtor that it would not otherwise consider.
The determination of whether a restructured loan is a TDR
requires judgment and consideration of all of the facts and
circumstances surrounding the modification. Accordingly,
examiners reviewing an institution's accounting for
modification must use judgment when assessing whether the
criteria for a TDR have been met.
Under U.S. GAAP, any loan modified in a TDR is an impaired
loan. Financial Accounting Standards Board Accounting Standards
Codification 310, Receivables, states that impaired loans
should be measured for impairment using ( 1) the present value
of expected future cash-flows discounted at the loan's
effective interest rate, (2) the loan's observable market
price, or (3) the fair value of the collateral if the loan is
collateral dependent. An institution may choose the appropriate
ASC 130 measurement method on a loan-by-loan basis for an
individually impaired loan to be measured using the fair value
of collateral method. Generally, an allowance for loan losses
is established for the amount of the impairment.
There are several regulatory capital ratios. Regulatory
capital ratios are generally calculated by dividing capital
(calculated in a defined way) by assets (calculated in a
defined way). GAAP capital is the basis for the numerator. When
an allowance is established, earnings, and therefore GAAP
capital, is reduced. For one of the capital ratios (Total
Capital), the ALLL is added back to capital up to 1.25 percent
of the bank's gross risk-weighted assets. For each of the
ratios, risk-weighted assets are reduced by the amount of ALLL
in excess of 1.25 percent of the bank's gross risk-weighted
assets.
Finally, regarding the impact of Basel III, there should be
no impact since Basel III did not include specific changes to
the treatment of ALLL. Designation of a loan as TDR has no
other impact on an institution's balance sheet.
Guidance
Q.2. Mr. Lyons stated in his testimony that the OCC issued
supplemental guidance to its examiners in 2010 interpreting the
Uniform Retail Classification and Account Management Policy
(Retail Policy) in the context of private student lending.
However, that guidance is not available to private student
lenders, borrowers, or any other market participants. Does the
OCC plan to make this guidance public or otherwise provide
information to the institutions that it regulates on
supervisory expectations for managing forbearance, workout, and
modification programs? Mr. Vermilyea stated in his testimony
that the Retail Policy is ``timeless.'' The Retail Policy was
revised in 2000, which superseded a 1999 revision, which in
turn revised a policy from 1980. The private student loan
market quadrupled from 2001 to 2008 and just as rapidly
declined through 2012. Given the marked changes in the student
loan market since publication of the Retail Policy in 2000,
what criteria do the agencies, either individually or through
the Federal Financial Institutions Examination Council, use to
determine when it is appropriate to revisit retail credit
policy? When would it be appropriate to provide guidance to
private student lenders regarding supervisory minimum
expectations?
A.2. The Retail Policy is quite broad and it covers not just
student loans, but most other types of closed-end and open-end
retail credit extensions. As such, it applies generally to
retail portfolios and embodies sound risk management principles
that are timeless and still very much applicable. While the
student loan market has indeed grown in size in the mid-2000s,
the underlying risk management principles applicable to it have
remained the same.
To remind both examiners and banks of the important risk
management principles in the Retail Policy, and of the
appropriateness of prudent loan modifications, on July 25, the
three banking regulatory agencies issued a joint statement,
which encourages regulated institutions to work with student
loan borrowers based on the prudent principles of the Retail
Policy.\1\
---------------------------------------------------------------------------
\1\ http://www.Federalreserve.gov/newsevents/press/bcreg/
20130725a.htm.
---------------------------------------------------------------------------
The Federal Reserve has no set timetable or policy to
determine when it is appropriate to revisit policies. Every
policy is a separate case and whether or not it needs to be
updated or refreshed is evaluated on its own merits.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR CRAPO FROM TODD
VERMILYEA
Q.1. The OCC published updated retail credit classification
guidance on private student loans in 2010. The FDIC testified
at the hearing that it would release updated guidance in the
near future.
Does the Federal Reserve have any plans to publish updated
retail credit classification guidance specific to private
student loans?
A.1. The Retail Credit Classification Policy embodies sound
risk management principles that are timeless and remain very
much applicable to today's market conditions; no plan exists
currently to update it. However, to remind both examiners and
banks of those important risk management principles and of the
appropriateness of prudent loan modifications, on July 25, the
three banking regulatory agencies issued a joint statement,
which encourages regulated institutions to work with student
loan borrowers based on the prudent principles of the Retail
Policy.\1\
---------------------------------------------------------------------------
\1\ http://www. Federalreserve.gov/newsevents/press/bcreg/
20130725a.htm.
Q.2. Does the Federal Reserve view private student loans as a
---------------------------------------------------------------------------
unique type of retail consumer credit?
A.2. The student loan market is unique in that it is comprised
of long-term unsecured debt where, the source of expected
repayment is contingent on the future productivity of the
borrower. The Federal Reserve is cognizant of the important
social implications of private student loans. Student loan
borrowers who are unemployed or underemployed may not have
sufficient financial capacity to service their private student
loan debts shortly after separation from school or during
periods of economic difficulty.
As with other consumer lending activities, the Federal
Reserve encourages financial institutions to consider prudent
workout arrangements that increase the potential for
financially stressed borrowers to repay private student loans
whenever workout arrangements are economically feasible and
appropriate.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR BROWN FROM TODD
VERMILYEA
Q.1.a.-b. In the years leading up to the financial crisis, the
Student Loan Asset Backed Securities (SLABS) market experienced
unprecedented growth. SLABS issuance grew to more than $16
billion annually to feed investor demand for these securities.
To increase volume, higher dollar value loans were made to a
greater range of borrowers before being securitized. Multiple
witnesses noted that the loans still held in securitized trusts
may have fewer modification and refinance opportunities than
those retained on a bank's balance sheet, further limiting
options for borrowers and raising the risk of default.
Q.1.a. Where applicable, what percentage of student loans
originated by institutions regulated by your agency and still
in repayment is held in securitized trusts? What percentage is
held on banks' balance sheets?
A.1.a. The Federal Reserve is the primary supervisory authority
of one institution that originates student loans: SunTrust
Bank, a State member bank SunTrust issued one student loan
asset-backed security in 2006, which was for $765 million worth
of Federal Family Education Loans (FFELP), or Government-
guaranteed, loans as opposed to private student loans, which
was the focus of the hearing. Using the current securitized
balance of $360 million, and total student loan balance of
$5.942 billion, the percentage of SunTrust's loans held in
securitized trusts is 6.06 percent, and the remainder, 93.94
percent, is held on the balance sheet.
Q.1.b. Is there a difference in the performance of loans that
have been securitized and those that are held directly on a
bank's balance sheet?
A.1.b. According to data from the Consumer Financial Protection
Bureau (CFPB) and ratings agency DBRS, industry cumulative
default rates for private student loan vintages reveal that the
performance of loans that have been securitized is poorer than
the overall student loan market.
----------------------------------------------------------------------------------------------------------------
Securitized Private Student
Vintage Overall Student Loan Market Loan Market
----------------------------------------------------------------------------------------------------------------
2005................................................ 10.5% 17.9%
2006................................................ 9.0% 15.5%
2007................................................ 7.0% 17.9%
----------------------------------------------------------------------------------------------------------------
In his testimony, Mr. Chopra stated that mortgage and student
loan borrowers may have more difficulties working out a
modification or forbearance when those loans have been
securitized, but fewer barriers exist for student loan
borrowers than existed in the mortgage market.
Q.1.c. What additional barriers to forbearance and
modifications exist for private student loan borrowers whose
loans were securitized?
A.1.c. When it comes to working with a troubled borrower, it
does not matter whether the loan has been securitized or not.
Private student loans, as a credit risk for the bank, may face
different forbearance or modification options than Government-
guaranteed student loans. On July 25, the three banking
regulatory agencies issued a joint statement encouraging
regulated institutions to work with student loan borrowers
based on the prudent principles of the Retail Policy.\1\
---------------------------------------------------------------------------
\1\ See http://www.Federalreserve.gov/newsevents/press/bcreg/
20130725a.htm.
Q.1.d. How are contract conditions for SLABS different from
---------------------------------------------------------------------------
conditions for mortgage-backed securities?
A.1.d. The differences between student loan asset-backed
securities and mortgage-backed securities has more to do with
the origination and nature of the loan.
At mortgage origination, the securitizing institution
typically requires extensive financial data before making the
loan. This information is required if the institution chooses
to sell the loan to a Government-sponsored entity (GSE) such as
Fannie Mae or Freddie Mac. For mortgages, the banks self-police
to verify that they have followed the associated agency's
guidelines. Issues with the self-policing allowed the GSEs to
retroactively find fault in the loan documentation and force
the originating bank to repurchase the mortgage.
For Government-guaranteed student loans, typically a
private institution issues the loan on behalf of a State agency
that has the backing of the Federal Government. For these
loans, the State agency that guarantees the loan reviews the
application before making the guarantee and before the bank
disperses the funds to the school. The independence of the
FFELP guarantor from the holder in due course lender is a
critical distinction when compared to the mortgage origination
process. As FFELP loans are certified and guaranteed during the
origination process, the guarantor cannot later find fault and
dishonor its own guarantee. As such, the FFELP student loan
market will avoid the repurchase risk that the mortgage market
experienced.
Q.1.e. What would be required to offer borrowers with
securitized loans the same options that can be afforded to
borrowers whose loans were not securitized?
A.1.e. When it comes to forbearing or modifying a private
student loan, it does not matter whether the loan has been
securitized or not, and therefore nothing would be required to
offer borrowers with securitized loans the same options that
can be afforded to borrowers whose loans were not securitized.
Regardless of whether a student loan has been securitized or
not, if it is an FFELP loan, modification and forbearance
guidelines as provided by the Department of Education must be
followed.
Q.2. As a voting member agency of the Financial Stability
Oversight Council, I am interested in your views on how you
assess whether an entity would meet the criteria to be
designated a systemically important financial institutions
(SIFI). Specifically, given its extremely large footprint in
servicing Direct, FFELP, and private student loans, what would
be the broader impact on consumers and markets if SLM Corp.
(Sallie Mae) were to fail?
A.2. The designation of systemically important financial
institutions (SIFI) is a matter that only the Financial
Stability Oversight Council (FSOC) can determine. To date, FSOC
has designated two nonbank financial companies as SIFIs, AIG,
Inc. and GE Capital Corporation, in addition to eight financial
market utility firms. The Federal Reserve does not have
regulatory authority over the SLM Corp. and has not conducted
an assessment of the firm.
Q.3.a.-d. In October 2012, the Consumer Financial Protection
Bureau issued a report about problems servicemembers face when
utilizing benefits guaranteed by Federal law, even on
Government-guaranteed student loans. Your agency supervises
institutions with FFELP portfolios.
Q.3.a. Have you focused on these portfolios in your
examinations?
A.3.a. Please see response to question 3, part d.
Q.3.b. To what extent have you determined that servicemembers
are victims of unfair or deceptive practices as it regards to
student loan benefits?
A.3.b. Please see response to question 3, part d.
Q.3.c. Are you confident that your supervised institutions are
in compliance with the SCRA?
A.3.c. Please see response to question 3, part d.
Q.3.d. To what extent have you shared these results with the
Department of Education and the Department of Justice?
A.3.d. The Federal Reserve supports the CFPB's efforts to
highlight options that may be available to servicemembers
pursuant to student loan programs. Although we do not supervise
the administration of student loan programs, as a bank
supervisor, we do encourage supervised banks to work with
student borrowers. On July 25, the Federal Reserve Board joined
other Federal bank regulatory agencies in issuing a statement
encouraging financial institutions to work constructively with
private student loan borrowers experiencing financial
difficulties. Prudent workout arrangements are consistent with
safe and sound lending practices and are generally in the long-
term best interest of both the financial institution and the
consumer.
The Federal Reserve also supports the objectives of the
Servicemembers Civil Relief Act (SCRA). Through our supervisory
role, we evaluate whether the financial institutions we
supervise are complying with the SCRA and the unfair and
deceptive acts and practices provisions of the Federal Trade
Commission Act (FTC Act). Examinations are conducted on a
regular schedule by specially trained consumer compliance
examiners. As a standard practice, SCRA compliance is evaluated
as part of these scheduled consumer compliance examinations
using detailed SCRA examination procedures.
As part of their review of an institution's SCRA policies,
procedures, and practices, examiners evaluate any consumer
complaints received by the Federal Reserve through the consumer
complaint program, or by the institution itself, regarding SCRA
to better scope their examinations, and identify risks and
potential problem areas. Any instances of noncompliance with
the consumer protection laws and regulations, including SCRA
and the FTC Act--regardless of whether the product is a
mortgage or student loan--are reported to the management of the
financial institution and corrective action is required. At
this time, we have not identified any violations of the FTC
Act's unfair and deceptive provisions or any violations of the
SCRA in connection with servicemember student loans.
Finally, we engage in periodic discussions with other
agencies and engage in industry outreach. In the fall of 2013,
we sponsored a free Outlook Live Webinar on Servicemember
Financial Protection that included SCRA. Several agencies,
including the CFPB and the Department of Justice, participated;
the Webinar attracted over 4,000 registrants.
Q.4.a.-c. The CFPB's May 2013 report, Student Loan
Affordability: Analysis of Public Input on Impact and
Solutions, raised concerns about the effect of unsustainable
levels of student debt. Heavy student loan burdens not only
deplete available resources but can also limit the career
opportunities of young graduates who must earn salaries that
can repay tens or hundreds of thousands of dollars in debt.
And, if borrowers fall behind the resulting damage to their
credit can further limit access to financing for a home, car,
or even daily purchases. Homebuilders and mortgage originators
have already noted a decrease in the volume of home purchases
by young people, and practitioners in careers that may offer
less compensation, including public service and family
medicine, have noted that young people are now gravitating
toward more lucrative careers to pay back large volumes of
debt.
Q.4.a. Has your agency observed differences in home loans, auto
loans, and other extensions of credit to young borrowers?
A.4.a. Please see response to question 4, part c.
Q.4.b. Given the risks associated with student loans, which are
typically underwritten without an extensive borrower credit
history, and the relatively more secure, collateralized loans
made for homes, cars, and other consumer products, how do you
project that the rising burden of student debt will impact the
balance sheets of the institutions that you regulate in the
long term?
A.4.b. Please see response to question 4, part c.
Q.4.c. In your experience, do the private student lenders you
regulate extend, or offer to extend, other forms of credit to
borrowers of private student loans? How do incentives for
customer service and sound financial practices change for
private student lenders that do not offer a full suite of
financial products?
A.4.c. Following the financial crisis, most institutions have
tightened underwriting standards for all loans. To date, the
Federal Reserve has not observed a defined pattern where
student-loan indebtedness has limited demand for other consumer
loan products. However, we are monitoring student loan debt
levels because we have concerns. First, a larger student loan
balance increases debt payment burdens and reduces disposable
income, which in turn reduces a consumer's demand for other
consumer debt. Second, high student loan payments and potential
delinquencies on such loans may make it harder for borrowers to
obtain additional consumer loans.
However, it is important to note that the incomes of young
households with education debt tend to be higher than the
incomes of those without education debt due to the positive
returns to college education. Consequently, to the extent that
higher income can be associated with greater demand for other
consumer loan products, there is likely little impact on the
extension of other forms of consumer credit.
According to the CFPB, of the $1 trillion in total
outstanding student debt, $150 billion consists of private
student loans, and includes loans made not only by banks but by
credit unions, State agencies, and schools themselves. While
Federal student loan originations have continued to increase
each year, private loan originations peaked in 2008 at roughly
$25 billion and have since dropped sharply to just over $8
billion. To date, the delinquency among private student loans
is roughly 5 percent, according to the CFPB, less than half of
the delinquency rate for all outstanding student loans. There
are likely a number of factors underlying the difference
between the performance of the Government-guaranteed and
private student loan portfolios. For instance, underwriting
standards in the private student loan market have tightened
considerably since the financial crisis. Almost 90 percent of
these loans now require a guarantor or cosigner.
In the case of SunTrust, the only private student loan
lender where the Federal Reserve acts as the primary regulatory
authority, that institution offers a full range of consumer
products in addition to private student loans.
Q.5. Your testimony cited OCC guidance issued in 2010 as the
standard that regulators use when determining the soundness of
bank's decision to work with a troubled borrower. The guidance
states that once repayment has begun ``private student loans
should not be treated differently from other consumer loans
except in cases where the borrower returns to school.'' It
further states the loan modifications should be considered for
``long-term hardships'' and may ``temporarily or permanently''
reduce interest rates to lower payments but should not include
terms that ``delay recognition of the problem credit.''
How often does each of the private student lenders that you
supervise engage in loan modifications for borrowers who are in
long-term hardship situations? How often does each of the
lenders grant additional forbearance beyond the 6-month
introductory period?
A.5. The Federal Reserve does not have comprehensive data on
the frequency in which regulated institutions engage in loan
modifications. However, the Federal Reserve encourages its
regulated institutions to work constructively with borrowers
who have a legitimate hardship. The aim of such work should be
the development of sustainable repayment plans while also
preserving the safety and soundness of the lending institution
and maintaining compliance with supervisory guidance and
accounting regulations.
Q.6. In your testimony, you described that institutions should
constructively work with private student loan borrowers to
conduct modifications in a safe and sound manner. Given that
loan modifications might increase the net present value of
certain troubled loans, how does your agency plan to increase
the pace of loan modification activity among its supervised
institutions?
A.6. On July 25, the Federal Reserve Board joined other Federal
bank regulatory agencies in issuing a statement encouraging
financial institutions to work constructively with private
student loan borrowers experiencing financial difficulties.
Prudent workout arrangements are consistent with safe and sound
lending practices and are generally in the long-term best
interest of both the financial institution and the consumer.
Moreover, Federal Reserve examiners will not criticize
institutions that engage in prudent loan modifications, but
rather will view such modifications as a positive action when
they mitigate credit risk.
Q.7. Please provide any interpretive guidance (e.g., for use my
examiners, supervised institutions) on the Uniform Retail
Classification and Account Management Policy that is specific
to private student loans. Describe how your interpretation
differs from the guidance used by other prudential regulators.
A.7. No interpretative guidance is applicable to the Uniform
Retail Classification and Account Management Policy, as this
policy is fairly detailed, clear, and self-explanatory.
Nevertheless, to remind both examiners and banks of the
important risk management principles contained in the policy
and of the appropriateness of prudent loan modifications, on
July 25, the three banking regulatory agencies issued a joint
statement, which encourages borrowers to work with student loan
borrowers based on the prudent principles of the Retail Policy.
Q.8. What is your supervisory approach when conducting
examinations of Federal and private student loan servicing
activities? What are the risk factors that you look for? Do you
have publicly available manuals and guidance that cover student
loan servicing? Have you utilized complaints submitted to the
CFPB and the Department of Education to scope your exams?
A.8. The Federal Reserve's supervision of institutions engaged
in the student loan market is similar to our supervision of
other retail credit markets and products. For the largest
institutions that the Federal Reserve regulates with
significant student loan portfolios, we have onsite examination
staff that evaluate the institution's risk-management
practices, including adherence to sound underwriting standards,
timely recognition of loan deterioration, and appropriate loan
provisioning.
The regulations that the Federal Reserve utilizes to
examine institutions are published on our Web site. The
Department of Education has a common servicing standards manual
for all student loan servicers.
As part of any examination of an institution, Federal
Reserve examiners would look at any consumer complaints
received by the Federal Reserve through our consumer complaint
program, or by the institution itself, to better scope the
examination and identify potential risks.
Q.9. Compared to Direct Loans, it is generally more cumbersome
for Federal student loan borrowers to enroll in income-based
repayment programs. Many institutions you supervise have
significant FFELP holdings. How would you generally assess the
ability of your supervised entities to make borrowers aware of
and successfully enroll them in income-based repayment options?
A.9. As referenced above, in July 2013, the Federal Reserve
joined other Federal bank regulatory agencies in issuing a
statement encouraging financial institutions to work
constructively with private student loan borrowers experiencing
financial difficulties. In part, this guidance directs
supervised institutions ``that have student loan modification
programs, or other options for those struggling with repayment,
should provide borrowers with practical information that
explains the basic options available, general eligibility
criteria, and the process for requesting a modification.''
Federal Reserve examiners will monitor effective
implementation of this guidance at the one State member bank
that offers FFLEP loans.
Q.10.a.-b. Your testimony focused heavily on forbearance as a
method of relief for private student loan borrowers. But the
volume and terms of private student loans issued in the years
leading up to the financial crisis indicate that many of these
loans may not be sustainable even after forbearance periods.
The Consumer Financial Protection Bureau's July 2012 report
documented a 400 percent increase in the volume of private
student loan debt originated between 2001 and 2008, and 2008
originations surpassed $20 billion. The report also shows that,
from 2005 to 2008, undergraduate and graduate borrowers of
private student loans took on debt that exceeded their
estimated tuition and fees, and in some years more than 30
percent of loans were made directly to students with no
certification of enrollment from their academic institution.
The heavy debt burden that was created in these few years is
not just unsustainable by dollar volume, but also in loan
terms. Loans were often variable rate loans with initial
interest rates ranging from 3 percent to more than 16 percent.
Q.10.a. Given these extremely unfavorable loan terms that were
made to a larger number of borrowers, presumably including more
students from limited financial means, do loans originated
between 2001 and 2008 comply with your standards for safety and
soundness?
A.10.a. Please see response for question 10, part b.
Q.10.b. How would refinancing the highest-cost loans to reflect
borrowers' current characteristics affect the soundness of a
regulated institution's balance sheet in the short and long
term?
A.10.b. The Federal Reserve takes a horizontal view of the
student loan market across multiple firms during the
Comprehensive Capital Analysis and Review (CCAR) exercise, an
important supervisory tool that the Federal Reserve deploys, in
part, to enhance financial stability by assessing all exposures
on bank balance sheets. CCAR was established to ensure that
each of the largest U.S. bank holding companies: (1) has
rigorous, forward-looking capital planning processes that
effectively account for the unique risks of the firm; and (2)
maintains sufficient capital to continue operations throughout
times of economic and financial stress. The CCAR exercise
collects data on banks' student loan portfolios, delineated by
loan type (Federal or private), age, FICO Score, delinquency
status, and loan purpose (graduate or undergraduate).
The banks submitting student loan data for CCAR held just
over $63 billion in both Government-guaranteed and private
student loans at year-end 2012, of which $23.6 billion
represented outstanding private student loans. At the end of
2012, CCAR banks reported that just over 4 percent of private
student loan balances were in delinquency, but more than 21
percent of Government-guaranteed student loan balances were
delinquent. Nevertheless, the delinquency rate for Government-
guaranteed student loans has shown improvement over recent
quarters, dropping from a high of more than 23 percent.
Likewise, the delinquency rate for private loans at CCAR firms
trended upward through mid-2009 but has since moved down, which
is comparable to the performance of the overall private student
loan market.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR MANCHIN FROM TODD
VERMILYEA
Q.1. In rural towns across the country, there is a chronic
shortage of primary care health professionals. Not just
doctors, but nurses and others. According to the American
Medical Association, student debt may be a barrier to
practicing in underserved communities.
This problem extends beyond health professionals. I hear
from West Virginians across my State that the best teachers are
retiring and that poorer districts are having a tough time
bringing in young people to take their places.
So many rural families want their kids to go to college,
but they worry about the impacts of high levels of student loan
debt?
In your opinion, how will rural areas survive without
critical professions like doctors, nurses, and teachers? What
are you doing to make sure that the burden of student debt
isn't disproportionately shouldered by rural areas?
A.1. Education is one of the impost important drivers of social
mobility. On average, attending college appears to be
beneficial from a financial standpoint if a degree is obtained
and employment is found. Numerous studies, including several
undertaken recently, have found that the average wage premiums
earned by college graduates remain substantial, and, in this
particular sense, attending college appears to be a very good
investment. In addition, unemployment rates for college
graduates are lower than for high school graduates. A recent
research paper prepared by the Federal Reserve Bank of Kansas
City noted that the ``preponderance of research suggests'' that
the value of a college education outweighs the costs. https://
www.kansascityfed.org/publicat/reswkpap/pdf/rwp%2012-05.pdf.
That is again why, on July 25, the Federal Reserve Board
joined other Federal bank regulatory agencies in issuing a
statement encouraging financial institutions to work
constructively with private student loan borrowers experiencing
financial difficulties. Prudent workout arrangements are
consistent with safe and sound lending practices and are
generally in the long-term best interest of both the financial
institution and the consumer.
Q.2. It does not make any sense that, under our current system,
students are forced to pay high interest rates on Federal
student loans when everyone else in the economy benefits from
low borrowing costs on everything else. And if we don't act by
July 1st, every Federal loan will have an interest rate of at
least 6.8 percent in 2013, while T-bill rates stay near
historic lows.
Not only would moving to a market-based rate allow students
to benefit from cheaper borrowing when everyone else can, I
expect that private student loan lenders would, in order to
remain competitive, lower their rates as well. Under the
current system, private lenders know that we have created
artificial benchmarks for these rates, so private lenders can
always keep their rates unnecessarily high.
How do you believe that implementing a market-based rate
for Federal loan programs would affect the private loan market?
Wouldn't allowing Federal rates to fall during times of cheap
borrowing--such as today--force private borrowers to lower
their interest rates to remain competitive?
A.2. The Federal Reserve does not have statutory supervisory
power or a policymaking mandate over Federal student loan
programs. The Department of Education is responsible for
administering the various Federal student loan programs. The
Federal Reserve would ensure that the institutions we regulate
remain in compliance with all statutory requirements associated
with student loan programs.
------
RESPONSE TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON FROM DOREEN
R. EBERLEY
Troubled Debt Restructuring
Q.1. Many lenders have noted that they cannot modify loans
because they do not want the modification to be considered a
troubled debt restructuring, or TDR, for accounting purposes.
Can you describe when a loan modification is a TDR and what
role your agency plays in interpreting the accounting standard?
Mr. Lyons' testimony stated that ``under GAAP a bank must
recognize a loan modification for a financially troubled
borrower that includes concessions as a TDR, with appropriate
loan loss provisions if impairment exists. The designation of a
loan as TDR does not prohibit or impede a bank's ability to
continue to work with the borrower.'' Ms. Eberley's testimony
noted that ``[p]otential or actual treatment as a TDR should
not prevent institutions from proactively working with
borrowers to restructure loans with reasonable modified terms .
. . [t]he FDIC encourages banks to work with troubled borrowers
and will not criticize IDI management for engaging in prudent
workout arrangements with borrowers who have encountered
financial problems, even if the restructured loans result in a
TDR designation.'' Can you describe how designation of loans as
TDR factors into an institutions' allowance for loan and lease
losses (ALLL), and what role the ALLL plays in calculation of a
financial institution's minimum regulatory capital? How would
the Basel III rules change the treatment of ALLL in the capital
calculation, if at all? Please also describe any other impact
designating a loan as TDR has on an institution's balance
sheet.
A.1. U.S. generally accepted accounting principles (GAAP) state
that a restructuring or modification of a debt constitutes a
troubled debt restructuring (TDR) if the creditor, for economic
or legal reasons related to the debtor's financial
difficulties, grants a concession to the debtor that the
creditor would not otherwise consider were it not for the
debtor's financial difficulties.\1\ When the terms of a loan
are modified, an institution must apply judgment and consider
all relevant facts and circumstances when determining (1)
whether the debtor is experiencing financial difficulties and
(2) whether the institution has granted a concession. The
relevant accounting principles also include guidance on making
these determinations.\2\
---------------------------------------------------------------------------
\1\ See Accounting Standards Codification Subtopic 310-40,
Receivables--Troubled Debt Restructurings by Creditors.
\2\ Ibid.
---------------------------------------------------------------------------
With regard to the FDIC's role in interpreting accounting
standards, pursuant to Section 37 of the Federal Deposit
Insurance Act, the accounting principles applicable to the
regulatory reports insured banks and savings associations file
with the Federal banking agencies--the Consolidated Reports of
Condition and Income (Call Report)--must be ``uniform and
consistent with'' GAAP. The Call Report instructions issued by
the Federal Financial Institutions Examination Council (FFIEC),
of which the FDIC is a member, summarize GAAP for TDRs. These
instructions and other supervisory and reporting materials
issued by the FDIC, including through the FFIEC, also provide
additional interpretational and application guidance on
accounting and reporting for TDRs that is intended to be
consistent with GAAP. Examples include the interagency Policy
Statement on Prudent Commercial Real Estate Loan Workouts and
the FDIC's Supervisory Insights article Accounting for Troubled
Debt Restructurings. These and other additional guidance have
been developed in response to questions from bankers and
examiners and are intended to promote consistency in the
accounting and reporting of TDRs.
Under GAAP, a loan restructured as a TDR is an impaired
loan. All impaired loans, including TDRs, must be measured for
impairment in accordance with accounting principles.\3\ The
principles sets forth measurement methods for estimating the
portion of an institution's overall ALLL attributable to
impaired loans, including those that are TDRs and those that
are not. Many loans whose terms are modified in TDRs will
already have been identified as impaired loans before they are
restructured. In these situations, because the allowances for
these individually impaired loans would be measured under
accounting principles both before and after they have been
modified, their allowances likely would not materially change
as a result of the restructurings. The remainder of an
institution's overall ALLL would be determined in accordance
with additional accounting principles as appropriate.\4\ For
regulatory reporting purposes, an institution also would be
expected to follow the relevant Call Report instructions and
supervisory guidance when determining the appropriate level for
its overall ALLL. In addition, according to accounting
principles,\5\ a credit loss on a loan, including a TDR, which
maybe for all or part of the loan, should be deducted from the
ALLL and the related loan balance should be charged off in the
period when the loan is deemed uncollectible.
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\3\ ASC Subtopic 310-10, Receivables--Overall.
\4\ ASC Subtopic 450-20, Contingencies--Loss Contingencies, and ASC
Subtopic 310-30, Receivables--Loans and Debt Securities Acquired with
Deteriorated Credit Quality.
\5\ ASC Subtopic 310-10.
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For regulatory capital purposes, an institution's ALLL
generally is included in tier 2 capital up to a maximum of 1.25
percent of gross risk-weighted assets. Gross risk-weighted
assets are reduced by the amount of any excess over the 1.25
percent limit when determining total risk-weighted assets.
However, for an advanced approaches institution under the Basel
II capital rules (in general, an institution with $250 billion
or more in consolidated total assets or $10 billion or more in
consolidated total on balance sheet foreign exposure as well as
a subsidiary of such an institution) after its parallel run
period, the treatment of the ALLL for purposes of measuring
regulatory capital depends on its level in relation to expected
credit losses, as defined in the rule. If the ALLL and other
``eligible credit reserves'' are less than an institution's
total expected credit losses, in general, 50 percent of the
shortfall is deducted from tier 1 capital and 50 percent of the
shortfall is deducted from tier 2 capital. If the ALLL and
other ``eligible credit reserves'' are greater than an
institution's total expected credit losses, the institution may
include the excess amount in tier 2 capital up to a maximum of
0.6 percent of risk-weighted assets.
The Basel III rules do not change the percentage limit on
the amount of an institution's ALLL that can be included in
tier 2 capital. However, the measurement of risk-weighted
assets was revised under Basel III. As a result, the
application of the 1.25 percent of total risk-weighted assets
limit on the amount of an institution's ALLL eligible for
inclusion in tier 2 capital would cause the institution's
eligible ALLL under Basel III to be different than under the
current regulatory capital risk-weighting rules. For an
advanced approaches institution that has completed the parallel
run process and has been approved to apply these approaches,
the Basel III rules require the entire amount by which the ALLL
and other ``eligible credit reserves'' are less than an
institution's total expected credit losses to be deducted from
common equity tier 1 capital.
Guidance
Q.2. Mr. Lyons stated in his testimony that the OCC issued
supplemental guidance to its examiners in 2010 interpreting the
Uniform Retail Classification and Account Management Policy
(Retail Policy) in the context of private student lending.
However, that guidance is not available to private student
lenders, borrowers, or any other market participants. Does the
OCC plan to make this guidance public or otherwise provide
information to the institutions that it regulates on
supervisory expectations for managing forbearance, workout, and
modification programs? Mr. Vermilyea stated in his testimony
that the Retail Policy is ``timeless.'' The Retail Policy was
revised in 2000, which superseded a 1999 revision, which in
turn revised a policy from 1980. The private student loan
market quadrupled from 2001 to 2008 and just as rapidly
declined through 2012. Given the marked changes in the student
loan market since publication of the Retail Policy in 2000,
what criteria do the agencies, either individually or through
the Federal Financial Institutions Examination Council, use to
determine when it is appropriate to revisit retail credit
policy? When would it be appropriate to provide guidance to
private student lenders regarding supervisory minimum
expectations?
A.2. The FDIC supervises private student loan (PSL) lenders
using the same framework of safety and soundness and consumer
protection rules, policies, and guidance as for other consumer
loans. The interagency Uniform Retail Credit Classification and
Account Management Policy (Retail Credit Policy) applies to
student loans as it does to other unsecured personal loans. The
Retail Credit Policy provides principles-based guidance to
insured depository institutions on classifying retail credits
for regulatory purposes and establishing policies for working
with borrowers experiencing financial problems.
Some confusion has recently been expressed in the industry
regarding regulatory policies for providing flexibility for
institutions to modify or restructure PSLs. In response, the
FDIC, jointly with the FRB and OCC, issued a statement on July
25, 2013, to their respective supervised institutions to
clarify and reiterate that the interagency Retail Credit Policy
applies to PSLs, allows broad flexibilities to institutions
specifically related to working with PSL borrowers experiencing
financial difficulties, and permits workouts, deferrals, and
renewals to help borrowers overcome temporary financial
difficulties. The statement emphasizes that our supervised
institutions should be transparent and make sure that borrowers
are aware of the availability of workout programs.
------
RESPONSE TO WRITTEN QUESTION OF SENATOR CRAPO FROM DOREEN R.
EBERLEY
Q.1. The FDIC testified that it would provide guidance on
private student loans in the near future.
LWhat factors contributed to the FDIC's decision to
publish new guidance specific to private student loans?
LDid the FDIC consult any other prudential banking
regulator or the CFPB in developing the expected
guidance?
A.1. The FDIC considered information, including recent Consumer
Financial Protection Bureau (CFPB) reports regarding student
loans, and consulted with other Federal banking agencies about
the Retail Credit Policy. The FDIC, jointly with other Federal
bank regulators (FRB and OCC), recently issued a statement
applicable to the banks each agency supervises to reiterate and
specifically clarify that the current regulatory guidance
provides institutions with broad flexibilities to help student
loan borrowers overcome temporary financial difficulties,
including through prudent extensions, deferrals, and rewrites.
We also informed the CFPB that we would be issuing such a
statement.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR BROWN FROM DOREEN R.
EBERLEY
Q.1.a.-b. In the years leading up to the financial crisis, the
Student Loan Asset Backed Securities (SLABS) market experienced
unprecedented growth. SLABS issuance grew to more than $16
billion annually to feed investor demand for these securities.
To increase volume, higher dollar value loans were made to a
greater range of borrowers before being securitized. Multiple
witnesses noted that the loans still held in securitized trusts
may have fewer modification and other refinance opportunities
than those retained on a bank's balance sheet, further limiting
options for borrowers and raising the risk of default.
Q.1.a. Where applicable, what percentage of student loans
originated by institutions regulated by your agency and still
in repayment is held in securitized trusts? What percentage is
held on banks' balance sheets?
A.1.a. About 25 percent of the estimated $150 billion in
private student loans (PSLs) outstanding are in securitization
trusts; most of the remainder are on banks' balance sheets,
although some State-sponsored agencies and other organizations
securitize or hold small amounts of PSLs.
Q.1.b. Is there a difference in the performance of loans that
have been securitized and those that are held directly on a
bank's balance sheet?
A.1.b. As noted in Ms. Eberley's testimony, specific data on
PSLs are not reported separately on the Call Reports, which
banks file quarterly. Student loans are a fairly small portion
of aggregate consumer lending and relatively few banks make
these types of loans. Data on PSLs, like other unsecured
installment loans, are reported under the broader loan category
``other loans to individuals.'' The PSL lenders supervised by
the FDIC reported past due rates (30 or more days delinquent)
just under 3 percent of total student loan balances and annual
charge-offs just over 1.5 percent at the upper end of the
range.
In June of this year, Moody's Investors Service reported
that the average default rate for securitized private loans
(equivalent to the regulatory charge-off rate) fell from 5.0
percent during first quarter 2012 to 4.0 percent during first
quarter 2013. Despite this improvement, the default rate is
still about 50 percent higher than it was prior to the
recession. Moody's also reported that the 90-day and over
delinquency rate dropped slightly from 2.5 percent in first
quarter 2012 to 2.4 percent during first quarter 2013.
Q.1.c. In his testimony, Mr. Chopra stated that mortgage and
student loan borrowers may have more difficulties working out a
modification or forbearance when those loans have been
securitized, but fewer barriers exist for student loan
borrowers than existed in the mortgage market.
LWhat additional barriers to forbearance and
modifications exist for private student loan borrowers
whose loans were securitized?
LHow are contract conditions for SLABS different
from conditions for mortgage-backed securities?
A.1.c. As discussed in Ms. Eberley's testimony, for securitized
loan pools, payment restructuring and modification options
maybe limited by the terms of the securitization governing
documents. As a result, when repayment difficulties arise, the
borrower will be dealing with the servicer, not the original
lender. Although student loan borrowers whose loans were
securitized may face barriers to forbearance and modification,
the barriers could be less onerous and less explicit than those
that existed with the private-label mortgage-backed securities
originated in the period leading up to the financial crisis.
The type of loan and nature of the servicing arrangement
appear to more directly impact modification and forbearance
options for distressed student loan borrowers. Federal student
loan (FSL) servicing standards are uniform and modifications
are statutorily based and, therefore, available regardless of
whether they are securitized. The standards for PSL servicing
vary by servicer, as do options for modification. FSLs
typically offer more forbearance and modification options than
PSLs.
Generally, the governing securitization documents for PSLs
do not explicitly limit modifications to loans underlying
securitizations, but the structure of the securitization may
influence how servicers apply forbearance and modification. For
example, the interest payments that are received from the
underlying loans that are over and above the interest payments
to bondholders are considered ``excess spread,'' which is a
form of overcollateralization for the securitization that
provides protections to bondholders. Servicers maybe less
willing to provide modifications if doing so would extract more
cash-flow from the underlying loans to maintain excess spread.
Another common structural feature that the PSL asset-backed
securities and private-label mortgage-backed securities share
is a senior/subordinate structure, where cash-flows are
diverted to senior bondholders when certain performance
triggers are breached, such as cumulative default rates. The
senior/subordinate structure can influence modification and
forbearance activities, as discussed in the testimony.
In contrast, the contractual obligations for private-label
mortgage-backed securities issued during the financial crisis
created more explicit barriers to modification. For example,
certain governing securitization documents contained
restrictions on the amount of underlying mortgage loans that
could be modified (frequently limited to 5 percent of the
outstanding pool). Other governing documents, namely the
Pooling and Servicing Agreements, often required the servicer
to take actions that would be in the best interest of the
investors and required servicers to determine whether a
modification would benefit the securitization on a present-
value basis. Additionally, mortgage-backed securities had
certain restrictions under the real estate investment trust
(REIT) structure. These are just some of the barriers to
modification faced by mortgage borrowers whose loans were
securitized in private label mortgage-backed securities.
Q.1.d. What would be required to offer borrowers with
securitized loans the same options that can be afforded to
borrowers whose loans were not securitized?
A.1.d. The FDIC continues to seek solutions to challenges in
the student lending area. The FDIC, jointly with the FRB and
OCC, recently issued a statement to the institutions we
supervise to clarify that we support efforts by banks to work
with student loan borrowers and our current regulatory guidance
permits this activity. In addition, the statement makes clear
FDIC-supervised institutions should be transparent in their
dealings with borrowers and make certain that borrowers are
aware of the availability of workout programs and associated
eligibility criteria. Additionally, the FDIC has formed a
working group to engage various stakeholders, including private
student loan lenders and consumer groups to determine whether
other enhancements are needed.
Q.2. As a voting member agency of the Financial Stability
Oversight Council, I am interested in your views on how you
assess whether an entity would meet the criteria to be
designated a systemically important financial institutions
(SIFI). Specifically, given its extremely large footprint in
servicing Direct, FFELP, and private student loans, what would
be the broader impact on consumers and markets if SLM Corp.
(Sallie Mae) were to fail?
A.2. Section 113 of the Dodd-Frank Wall Street Reform and
Consumer Protection Act (Dodd-Frank Act) authorizes the
Financial Stability Oversight Council (FSOC) to determine that
a nonbank financial company shall be supervised by the FRB and
shall be subject to prudential standards, in accordance with
Title I of the Dodd-Frank Act, if the FSOC determines that
material financial distress at the nonbank financial company,
or the nature, scope, size, scale, concentration,
interconnectedness, or mix of the activities of the nonbank
financial company, could pose a threat to the financial
stability of the United States. The final rule and the
interpretive guidance describe the manner in which the FSOC
intends to apply the statutory standards and considerations,
and the processes and procedures that the FSOC intends to
follow, in making determinations under section 113 of the Dodd-
Frank Act. While the FDIC does not comment on open and
operating institutions, the impact of any major consumer loan
servicer would depend on market conditions at the time and the
company's ability to sell or transfer its balance sheet
components and servicing platforms.
Q.3.a. In October 2012, the Consumer Financial Protection
Bureau issued a report about problems servicemembers face when
utilizing benefits guaranteed by Federal law, even on
Government-guaranteed student loans. Your agency supervises
institutions with FFELP portfolios.
Have you focused on these portfolios in your examinations?
A.3.a. The FDIC's compliance examination process is risk-
focused, including its review of student loans and related
practices. As part of that review, examiners assess compliance
with Federal laws designed to protect servicemembers. Examples
of Federal laws that provide special protections to
servicemembers are the Servicemembers Civil Relief Act (SCRA)
and the Military Lending Act (MLA). These laws could involve
student loans as well as other types of loans. SCRA and MLA
compliance is an important examination priority for the FDIC
given the potential for consumer harm. SCRA is included in the
scope of all compliance examinations conducted by the FDIC.
Through the risk-based examination process, examiners
communicate this emphasis to our supervised banks during the
review of the bank's compliance management system and
transaction testing.
Additionally, the FDIC's examination process also includes
a review of consumer protection laws and regulations under its
authority to the extent those rules are applicable to PSL and
Family Federal Education Loan Program (FFELP) portfolios.
However, the Truth-in-Lending Act exempts loans made, insured,
or guaranteed under title IV of the Higher Education Act of
1965, which includes FFELP portfolios. In general, the
regulatory review of an institution's policies and practices
with regard to student lending encompasses the bank's
origination and servicing aspects for PSLs and focuses on
servicing with regard to the federally guaranteed student
loans.
Q.3.b. To what extent have you determined that servicemembers
are victims of unfair or deceptive practices as it regards to
student loan benefits?
A.3.b. The FDIC takes enforcement actions to address violations
of the SCRA, MLA, section 5 of the Federal Trade Commission Act
(Section 5) regarding unfair and deceptive acts and practices,
and other applicable laws and regulations, including those that
involve an institution's policies and practices affecting
student loans. Since January 2012, the FDIC has addressed SCRA
violations (generally) in 55 examinations and FDIC-supervised
institutions have reimbursed, pursuant to enforcement actions,
a total of approximately $154,000 to 358 servicemembers for
violations of SCRA.
Q.3.c. Are you confident that your supervised institutions are
in compliance with the SCRA?
A.3.c. Based on our compliance examination procedures and
processes, which include SCRA compliance reviews, we believe
that most of the institutions we supervise comply with the
SCRA. Where we find violations, we take appropriate corrective
action.
The primary responsibility for compliance with the SCRA
rests with an institution's board and management. The FDIC's
compliance examination process assesses how well a financial
institution manages compliance with Federal consumer protection
laws and regulations starting with a top-down, comprehensive
evaluation of the compliance management system (CMS) used by
the financial institution to identify, monitor, and manage its
compliance responsibilities and risks, including those
associated with the SCRA. The goal of a risk-focused, process-
oriented examination is to direct resources toward areas with
higher degrees of risk.
The FDIC specifically examines its institutions for
compliance with the SCRA, using transaction sampling and other
techniques. Through our policies, guidance, and examination
procedures, the FDIC communicates to our supervised
institutions the importance of SCRA compliance. The FDIC may
initiate informal or formal corrective action when an insured
depository institution is found to be in an unsatisfactory
condition, based on unfair or deceptive acts or practices.
Violations of consumer protection laws and regulations and/or a
bank's failure to maintain a satisfactory CMS may also result
in these types of corrective action.
Q.3.d. To what extent have you shared these results with the
Department of Education and the Department of Justice?
A.3.d. Subject to the limitations of the Right to Financial
Privacy Act (RFPA) and FDIC regulations regarding the sharing
of confidential supervisory information, 12 C.F.R. Part 309
(Part 309), the FDIC shares examination information with other
Federal financial institution regulators and with the
Department of Justice (DOJ). DOJ has exclusive enforcement
authority over criminal violations and has concurrent authority
over violations of Federal fair lending laws and the SCRA. If
the FDIC uncovers evidence that parties over which DOJ has
exclusive or concurrent authority may have violated these laws,
the FDIC shares with the DOJ relevant information related to
these potential violations to the extent permitted by the RFPA,
Part 309, and interagency memoranda of understanding. Because
the Department of Education (DOE) does not have enforcement
jurisdiction over financial institutions, such examination
information is not typically shared with DOE.
For compliance examinations, the review of loan servicing
by an institution focuses on ensuring that the agreement is
consistent with governing laws and is implemented as agreed to
avoid any SCRA or Section 5 violations.
Q.4.a. The CFPB's May 2013 report, Student Loan Affordability:
Analysis of Public Input on Impact and Solutions, raised
concerns about the effect of unsustainable levels of student
debt. Heavy student loan burdens not only deplete available
resources but can also limit the career opportunities of young
graduates who must earn salaries that can repay tens or
hundreds of thousands of dollars in debt. And, if borrowers
fall behind the resulting damage to their credit can further
limit access to financing for a home, car, or even daily
purchases. Homebuilders and mortgage originators have already
noted a decrease in the volume of home purchases by young
people, and practitioners in careers that may offer less
compensation, including public service and family medicine,
have noted that young people are now gravitating toward more
lucrative careers to pay back large volumes of debt.
Has your agency observed differences in home loans, auto
loans, and other extensions of credit to young borrowers?
A.4.a. Insured depository institutions report information on
their financial condition and operations in their quarterly
Call Report filings. All data, including information on loans,
are reported in aggregate and do not contain any demographic or
other identifying characteristics.
Q.4.b. Given the risks associated with student loans, which are
typically underwritten without an extensive borrower credit
history, and the relatively more secure, collateralized loans
made for homes, cars, and other consumer products, how do you
project that the rising burden of student debt will impact the
balance sheets of the institutions that you regulate in the
long term?
A.4.b. Institutions supervised by the FDIC hold about $14
billion in PSLs, representing less than 10 percent of the
estimated $150 billion in PSLs outstanding. This amount
represents a very small portion of the $14.4 trillion in total
industry assets and $7.7 trillion in total loans outstanding.
PSL originations are currently about $8 billion per year.
The FDIC supervises PSL lenders using the same framework of
safety and soundness, and consumer protection rules, policies,
and guidance, as for other loan categories. We expect insured
institutions to prudently underwrite PSLs and comply with
outstanding rules and guidance. PSLs typically are required by
originators to have a cosigner. In 2011, over 90 percent of
these loans were cosigned. According to TransUnion, the 90-day
and over delinquency rate for PSLs was 5.33 percent as of March
2012.
Q.4.c. In your experience, do the private student lenders you
regulate extend, or offer to extend, other forms of credit to
borrowers of private student loans? How do incentives for
customer service and sound financial practices change for
Private student lenders that do not offer a full suite of
financial products?
A.4.c. One of the larger lenders that the FDIC supervises
offers a variety of credit products, including credit cards,
personal loans, and home loans. Specific data quantifying the
number of accounts and balances of private student loans
holding multiple products by this institution are not publicly
available.
Another large lender which originates PSLs does not offer
other forms of credit to PSL borrowers.
As a general matter, financial institutions' approaches to
customer service and financial practices are motivated by a
desire to grow and maintain a strong and well-regarded
business. Moreover, as mentioned under our response to question
8, we examine the institutions we supervise for safety and
soundness and for compliance with all applicable laws, rules,
and guidance.
Q.5. Your testimony cited OCC guidance issued in 2010 as the
standard that regulators use when determining the soundness of
bank's decision to work with a troubled borrower. The guidance
states that once repayment has begun ``private student loans
should not be treated differently from other consumer loans
except in cases where the borrower returns to school.'' It
further states the loan modifications should be considered for
``long-term hardships'' and may ``temporarily or permanently''
reduce interest rates to lower payments but should not include
terms that ``delay recognition of the problem credit.''
How often does each of the private student lenders that you
supervise engage in loan modifications for borrowers who are in
long-term hardship situations? How often does each of the
lenders grant additional forbearance beyond the 6-month
introductory period?
A.5. The FDIC's testimony cited the interagency Retail Credit
Policy, which provides significant flexibility for institutions
to offer prudent workout arrangements tailored to their PSL
portfolios and borrower circumstances. In particular, the
Retail Credit Policy states that it is the institution's
responsibility to establish its own policies for workouts
suitable for their portfolio. There is nothing barring FDIC-
supervised institutions from engaging in workouts, and many
institutions offer various types of workout options. Repayment
options are disclosed in application or solicitation materials
as well as in the promissory note. Each institution has its own
policies that establish how the bank will work with borrowers
who are facing financial challenges.
The institutions we supervise do not usually publicly
disclose the full scope of modification and restructuring
options available. Nonetheless, the two largest FDIC-supervised
institutions that offer PSLs described their features and
borrower benefits in their respective letters to the CFPB, both
dated April 8, 2013, responding to the Request for Information
Regarding an Initiative to Promote Student Loan Affordability
(Docket No. CFPB-2013-0004).
Q.6. In your testimony, you described that institutions should
constructively work with private student loan borrowers to
conduct modifications in a safe and sound manner. Given that
loan modifications might increase the net present value of
certain troubled loans, how does your agency plan to increase
the pace of loan modification activity among its supervised
institutions?
A.6. The FDIC encourages the institutions we supervise to work
with borrowers who are unable to meet the contractual payments
on their loans. We have communicated to banks during onsite
examinations, through written guidance, and at outreach events
that prudent workout arrangements are generally in the best
long-term interest of both the bank and the borrower, and that
examiners will not criticize banks for engaging in prudent
workout arrangements, even if it results in adverse asset
classifications or TDR accounting treatment.
We believe the Retail Credit Policy provides institutions
with the flexibility needed to help borrowers overcome
temporary financial difficulties through extensions, deferrals,
renewals, and re-writes of closed-end loans, which include
student loans. To emphasize this point, the FDIC, along with
the FRB and OCC, recently issued a statement to the banks we
supervise to clarify that we support efforts by banks to work
with student loan borrowers and that our current regulatory
guidance permits this activity.
Q.7. Please provide any interpretive guidance (e.g., for use by
examiners, supervised institutions) on the Uniform Retail
Classification and Account Management Policy that is specific
to private student loans. Describe how your interpretation
differs from the guidance used by other prudential regulators.
A.7. The Federal financial institution regulatory agencies
strive to consistently apply the Retail Credit Policy. On July
25, 2013, the FDIC, jointly with the FRB and the OCC, issued a
statement encouraging banks to work prudently with student loan
borrowers who are experiencing financial difficulties.
Q.8. What is your supervisory approach when conducting
examinations of Federal and private student loan servicing
activities? What are the risk factors that you look for? Do you
have publicly available manuals and guidance that cover student
loan servicing? Have you utilized complaints submitted to the
CFPB and the Department of Education to scope your exams?
A.8. The FDIC supervises PSL lenders using the same framework
of safety and soundness and consumer protection rules,
policies, and guidance as for other loan categories. In
addition to the examination scope and procedures described in
Ms. Eberley's testimony, the FDIC reviews loan servicing
activities, in particular, for safety and soundness and
consumer compliance issues. Safety and soundness concerns
include those related to the bank's valuation of its servicing
rights (assets) and adherence to governing loan servicing
documents. In general, financial institutions engaged in
servicing activities, including student loan servicing, should
have policies and procedures, operational support, and
appropriate audit and other quality controls to ensure
performance under servicing agreements.
The FDIC's compliance examination process assesses how well
each financial institution manages compliance with Federal
consumer protection laws and regulations. In general, our
examinations for compliance with the Fair Debt Collection
Practices Act, Equal Credit Opportunity Act, and Section 5 of
the Federal Trade Commission (FTC) Act, include review of
distressed loans, including student loans, to ensure equal
treatment, adherence to debt collection requirements, and that
no unfair or deceptive acts or practices are involved in
attempting to collect debts from distressed borrowers.
The FDIC's regulatory assessment of the supervised
institution's compliance with the various consumer protection
laws and regulations typically includes review of consumer
complaints, pending litigation, the oversight and use of third-
party servicers, due diligence on the schools the institutions
work with to provide student loans (e.g., reputation,
accreditations, for-profit/not-for-profit), marketing
practices, and the institution's policies and procedures. These
procedures apply to student loans as well as other consumer
loans.
Consumer complaints play a key role in the detection of
consumer protection risks, including those involving student
loan issues. Examiners review various sources of complaint
information, such as the CFPB, FDIC, FTC, institutional, and
various media sources. The FDIC's Consumer Affairs Branch
continues to monitor and identify potential areas of concern
through the complaint investigation process. In analyzing and
collecting information about how these products may impact
consumers, we are able to see the impact these new products may
have on consumers.
Q.9. Compared to Direct Loans, it is generally more cumbersome
for Federal student loan borrowers to enroll in income-based
repayment programs. Many institutions you supervise have
significant FFELP holdings. How would you generally assess the
ability of your supervised entities to make borrowers aware of
and successfully enroll them in income-based repayment options?
A.9. Not all FDIC-supervised banks have FFELP holdings,
choosing instead to sell their existing FFELP portfolios. One
of the major FDIC-supervised student lenders relies on
affiliates to service its FFELP loan portfolio. This
institution communicates to its customers, making them aware of
repayment options through an interactive Web site that offers
information regarding student loan applications, loan repayment
advice, and forbearance options, among other things.
Q.10.a. Your testimony focused heavily on forbearance as a
method of relief for private student loan borrowers. But the
volume and terms of private student loans issued in the years
leading up to the financial crisis indicate that many of these
loans may not be sustainable even after forbearance periods.
The Consumer Financial Protection Bureau's July 2012 report
documented a 400 percent increase in the volume of private
student loan debt originated between 2001 and 2008, and 2008
originations surpassed $20 billion. The report also shows that,
from 2005 to 2008, undergraduate and graduate borrowers of
private student loans took on debt that exceeded their
estimated tuition and fees, and in some years more than 30
percent of loans were made directly to students with no
certification of enrollment from their academic institution.
The heavy debt burden that was created in these few years is
not just unsustainable by dollar volume, but also in loan
terms. Loans were often variable rate loans with initial
interest rates ranging from 3 percent to more than 16 percent.
Given these extremely unfavorable loan terms that were made
to a larger number of borrowers, presumably including more
students from limited financial means, do loans originated
between 2001 and 2008 comply with your standards for safety and
soundness?
A.10.a. Many borrowers who have student loan debt have FSLs and
PSLs, as the rising cost of education often required additional
borrowing to supplement college savings, scholarships, and
grants used to pay for higher education. However, some
mechanisms, such as extending loans only for accredited
educational programs and directly transmitting the funds to the
school, that were in place to prevent overlending to an
individual were circumvented during the years leading up to the
recent financial crisis. As mentioned in our response to
question 8, the FDIC examines banks for safety and soundness
and consumer compliance concerns, and would be critical if
objectionable conditions or practices are found.
Q.10.b. How would refinancing the highest-cost loans to reflect
borrowers' current characteristics affect the soundness of a
regulated institution's balance sheet in the short and long
term?
A.10.b. FDIC supervised institutions routinely offer new or
renewed loans and, for variable rate loans, periodically adjust
the loan rate, based on current market rates. In general,
financial institutions actively manage the asset and liability
mix of their balance sheet. Based on market-based pricing and
other balance sheet management strategies used by financial
institutions, as well as the small overall volume of PSLs held
by banks, we do not expect refinancing of PSL loans to have a
material impact on the balance sheet condition of the banks
that we supervise.
Q.11. Recently, SLM Corp. announced that it would make
significant changes to its corporate structure. As the
prudential regulator of Sallie Mae Bank, what is your view on
these changes?
A.11. The FDIC does not comment publicly on open banks it
supervises. Published reports indicate that SLM Corporation
plans to divide its existing businesses into two, separate,
publicly traded entities that would each initially be owned by
its existing shareholders. It is expected the separation, if
completed, would be effected via a tax-free distribution of the
holding company's common stock to Sallie Mae's shareholders.
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RESPONSE TO WRITTEN QUESTIONS OF SENATOR MANCHIN FROM DOREEN R.
EBERLEY
Q.1. In rural towns across the country, there is a chronic
shortage of primary care health professionals. Not just
doctors, but nurses and others. According to the American
Medical Association, student debt may be a barrier to
practicing in underserved communities.
This problem extends beyond health professionals. I hear
from West Virginians across my State that the best teachers are
retiring and that poorer districts are having a tough time
bringing in young people to take their places. So many rural
families want their kids to go to college, but they worry about
the impacts of high levels of student loan debt?
In your opinion, how will rural areas survive without
critical professions like doctors, nurses, and teachers? What
are you doing to make sure that the burden of student debt
isn't disproportionately shouldered by rural areas?
A.1. PSLs issued by financial institutions help individuals,
who might not otherwise have the resources, to obtain a college
education and the subsequent benefits associated with a college
degree, both financial and nonfinancial. At the time a student
loan is made, it is without regard to where future employment
opportunities may be located.
As the primary regulator of small community banks, the FDIC
understands the unique financial challenges in rural areas.
Rural areas in particular struggle to attract and retain young
professionals. The FDIC, jointly with the FRB and OCC, recently
issued a statement encouraging banks to work constructively
with student loan borrowers experiencing financial
difficulties, and clarifying that our current regulatory
guidance permits this activity.
Q.2. It does not make any sense that, under our current system,
students are forced to pay high interest rates on Federal
student loans when everyone else in the economy benefits from
low borrowing costs on everything else. And if we don't act by
July lst, every Federal loan will have an interest rate of at
least 6.8 percent in 2013, while T-bill rates stay near
historic lows.
Not only would moving to a market-based rate allow students
to benefit from cheaper borrowing when everyone else can, I
expect that PSL lenders would, in order to remain competitive,
lower their rates as well. Under the current system, private
lenders know that we have created artificial benchmarks for
these rates, so private lenders can always keep their rates
unnecessarily high.
How do you believe that implementing a market-based rate
for Federal loan programs would affect the private loan market?
Wouldn't allowing Federal rates to fall during times of cheap
borrowing--such as today--force private borrowers to lower
their interest rates to remain competitive?
A.2. In general, students exhaust other financial options, such
as grants and FSLs, before applying for PSLs, which are issued
by financial institutions. Rates for the two types of student
loans--FSLs and PSLs--are determined through different
processes. PSLs have a market-driven rate, which reflects the
supply and demand for funds, whereas FSLs have rates currently
set by statute. The rates charged on loans are set by
individual institutions to cover funding and overhead expenses
and reflect a risk premium on the loans granted based on the
risk profile of the student borrower and cosigner, if any. PSLs
are unsecured (no collateral protection) and expose the
institution to risk of loss for the entire outstanding loan
balance in default. Loan rates for PSLs are set to reflect this
risk and are already at market rates. Therefore, it is unlikely
that a change in a market-based rate for Federal loans to
substantially affect PSLs.
Additional Material Supplied for the Record
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