Student Loans: Default Rates Need To Be Computed More Appropriately
(Letter Report, 07/28/1999, GAO/HEHS-99-135).

Two major federal student loan programs--the Federal Family Education
Loan Program and the William D. Ford Federal Direct Loan Program--help
students meet their expenses for postsecondary education. These programs
have made nearly 8.4 loans, providing students with more than $30
billion. When borrowers default on their student loans, however, it is
the government that ultimately pays. An accurate measure of student loan
defaults at colleges, universities, and vocational schools is an
important way to monitor the financial risk facing the Department of
Education. The Department now excludes schools from the program if their
default rate reaches 25 percent or more for three consecutive years.
This report examines the way in which the Department calculates these
default rates. GAO focuses on borrowers who have temporary approval
through their lenders or loan services through "deferment" or
"forbearance" not to make payments on their loans. In the Department's
calculation of a school's default rate, these borrowers are not counted
as defaulters, but they do count as part of the total number of
borrowers. This report answers the following three questions: During the
last several years, has there been any increase in the number of
borrowers who entered repayment but later received deferments or
forebearances? What would have been the effect of the most recent
default rates if borrowers whose loans were in deferment or forbearance
had been excluded from the default rate calculation? Under this
alternative method of calculating the default rate, would any additional
schools have exceeded the 25-percent default rate threshold?

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  HEHS-99-135
     TITLE:  Student Loans: Default Rates Need To Be Computed More
	     Appropriately
      DATE:  07/28/1999
   SUBJECT:  Student loans
	     Loan defaults
	     Government guaranteed loans
	     Colleges and universities
	     Loan repayments
	     Proprietary schools
	     Delinquent loans
IDENTIFIER:  William D. Ford Federal Direct Loan Program
	     Federal Family Education Loan Program
	     Dept. of Education National Student Loan Data System

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    United States General Accounting Office GAO                Report
    to Congressional Requesters July 1999          STUDENT LOANS
    Default Rates Need to Be Computed More Appropriately GAO/HEHS-99-
    135 GAO    United States General Accounting Office Washington,
    D.C. 20548 Health, Education, and Human Services Division B-282065
    July 28, 1999 The Honorable William F. Goodling Chairman,
    Committee on Education and the Workforce House of Representatives
    The Honorable John L. Mica Chairman, Subcommittee on Criminal
    Justice, Drug Policy, and Human Resources Committee on Government
    Reform House of Representatives Two major federal student loan
    programs, the Federal Family Education Loan Program (FFELP) and
    the William D. Ford Federal Direct Loan Program (FDLP), provide
    funding that is vital to helping students meet their postsecondary
    education costs. FFELP, formerly known as the guaranteed student
    loan program, provides loans through private lenders such as
    banks. These loans are insured against default by state or
    nonprofit guaranty agencies, which are later reimbursed by the
    Department of Education. FDLP, often referred to as the direct
    loan program, provides loans from the federal government through
    students' schools. The first FDLP loans were made in the fourth
    quarter of fiscal year 1994. The Department uses student
    borrowers' experiences with loans from FFELP and FDLP for
    determining a school's default rate. In fiscal year 1998, these
    programs provided student borrowers with nearly 8.4 million loans
    totaling more than $30 billion. However, when borrowers fail to
    meet their financial obligations by not repaying their federal
    student loans, it is the government that ultimately must pay for
    this failure. For example, the Department of Education paid $2.1
    billion in default claims from these programs in fiscal year 1998.
    An accurate measure of student loan defaults at colleges,
    universities, and vocational schools is an important means for
    monitoring the extent of financial risk to the Department from its
    student loan programs. To protect the government from the costs
    associated with extremely high rates of default, the Department
    now excludes schools from program participation if their default
    rate is 25 percent or more for 3 consecutive years.1 1A school's
    default rate is the rate at which the school's FFELP and FDLP
    student borrowers have defaulted on their loans. Page 1
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065 You
    asked us to examine one aspect of the way in which the Department
    of Education calculates this default rate. The issue involves
    borrowers who have temporary approval through their lenders or
    loan services through "deferment" or "forbearance" not to make
    payments on their loans.2 In the Department's calculation of a
    school's default rate, these borrowers are not counted as
    defaulters, but they do count as a part of the total number of
    borrowers. As shown below, the number of borrowers in default is
    divided by a number larger than the total number of borrowers who
    are actually repaying their loans (see fig. 1). As a result, the
    default rate is understated. Figure 1: Current Method for
    Calculating Schools' Default Rates         Number of borrowers who
    began repaying during the first fiscal year of a 2-year cohort
    period and defaulted by the a end of the second fiscal year
    (borrowers granted deferment or forbearance status are not
    included). divided by Number of borrowers who began repaying
    during the first fiscal year of a 2-year cohort period (borrowers
    granted deferment or forbearance status are included). aThe
    Department gathers data required for calculating default rates by
    cohort. Covering a 2-year period, a cohort constitutes a group of
    student borrowers who began repaying their loans during a given
    fiscal year and also identifies those in the group who defaulted
    before the end of the next fiscal year. Although it covers a 2-
    year period, a cohort is identified by its first fiscal year. For
    example, borrowers in the 1996 cohort began repaying during the
    1996 fiscal year. As agreed with your offices, we focused our work
    on answering three specific questions with regard to these
    calculations: 2Deferment is postponement of payments for such
    reasons as continued study, inability to find work, or economic
    hardship. Forbearance is permission to temporarily suspend
    payments, make smaller payments, or extend the time for making
    payments because of poor health or other acceptable reasons. Page
    2                                  GAO/HEHS-99-135 Computing
    Default Rates Appropriately B-282065 * Over the past several
    years, has there been an increase in the number of borrowers who
    entered repayment but subsequently received deferments or
    forbearances? * What would have been the effect on the most recent
    default rates if borrowers whose loans were in deferment or
    forbearance had been excluded from the default rate calculation? *
    Under this alternative method of calculating the default rate,
    would any additional schools have exceeded the 25-percent default
    rate threshold? Appendix I describes our scope and methodology. We
    conducted our review between August 1998 and May 1999 in
    accordance with generally accepted government auditing standards.
    Results in Brief      Between 1993 and 1996, the percentage of
    borrowers with loans in deferment or forbearance more than
    doubled, from 5.2 percent of borrowers who had begun repaying to
    11.3 percent. This doubling was consistent across the various
    types of schools, including 4-year and less-than-4-year public and
    private schools as well as proprietary schools. According to
    Department of Education officials, the increase was attributable,
    in part, to provisions of the 1992 amendments to the Higher
    Education Act of 1965 that eased the requirements for obtaining
    deferments and forbearances as a way of helping minimize loan
    defaults. Excluding borrowers with loans in deferment or
    forbearance entirely from the calculation of the cohort default
    rate would have had the effect of increasing the overall default
    rate from 9.6 percent to 10.9 percent for 1996, the most recent
    cohort year for which data are available. The proportional
    increases would have been roughly similar for the various types of
    schools. For example, the rate at 4-year schools would have risen
    from 6.8 to 7.7 percent, while the rate at proprietary schools
    would have risen from 18.3 to 20.1 percent. For the 1996 cohort,
    excluding borrowers with loans in deferment or forbearance from
    the calculation would have increased the number of schools with
    rates exceeding the 25-percent threshold (for excluding schools
    from the loan programs) by 181 schools, from 352 to 533-an
    increase of 51 percent. Under the law, these schools would have
    become ineligible to participate in student loan programs if their
    cohort default rate had exceeded the threshold for 3 consecutive
    years. Since 1991, the Department has denied participation in the
    programs to more than 1,000 schools because their default rates
    were too high. Most of the additional Page 3
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065
    schools that would have exceeded the threshold under the
    alternative calculation method were proprietary schools, but 12
    were 4-year colleges and universities and 57 were public or
    private schools with degree programs of less than 4 years. Because
    the number of borrowers with loans in deferment or forbearance has
    been growing, and because the exclusion of these borrowers from
    the calculation could have a substantial effect on schools'
    default rates, the Congress may want to consider requiring an
    alternative method for computing default rates. Background
    Default reduction measures were part of the default reduction
    initiative that the Department introduced in June 1989 in response
    to the rising default rates in federal student loan programs at
    that time. According to Department of Education officials, these
    measures apply to all schools participating in federal student
    loan programs. Default reduction measures, incorporated into
    statutes, regulations, and guidance, require schools to provide
    students with loan counseling; take steps to promote repayment
    among delinquent borrowers; and, for schools whose default rates
    exceed certain thresholds, implement a default management plan.
    Such actions, if properly implemented, reduce loan defaults and
    the associated federal costs to pay lenders' default claims, as
    anticipated. The Department's efforts to reduce historically high
    default rates for federal student loan programs have paid
    dividends. Schools' overall default rate hit its high of 22.4
    percent in fiscal year 1990 but declined to 9.6 percent for the
    1996 cohort. One tool the Department has used to bring greater
    financial accountability to the programs is the default rate
    threshold, which was authorized in a 1990 amendment to title IV of
    the Higher Education Act of 1965.3 The threshold was instituted as
    a safeguard to protect the government from the costs associated
    with schools whose students consistently had exceptionally high
    default rates. In 1991, under this legislation, the Department
    began to bar schools from participating in federal student loan
    programs if their cohort default rates exceeded the statutory
    threshold of 25 percent for 3 consecutive years.4 As provided by
    section 435(m) of the Higher Education Act of 1965, as amended,
    the Department establishes a default rate for each school by
    creating a cohort consisting of all the school's students who are
    expected to begin repaying their loans in a given year. The
    Department then determines how many of these students default on
    their loans in that year 3The amendment was part of the Student
    Loan Default Prevention Initiative Act of 1990 (P.L. 101-508).
    4This threshold decreased from 35 percent to 25 percent in 1991.
    Page 4                               GAO/HEHS-99-135 Computing
    Default Rates Appropriately B-282065 or by the end of the
    following year. For a school with 30 or more borrowers5 beginning
    to repay their loans, the default rate is the percentage that
    results from dividing (1) the number of students who begin to
    repay in a given fiscal year and default in that year or before
    the end of the next fiscal year (the numerator) by (2) the number
    of students who are supposed to begin repaying in that given
    fiscal year (the denominator). For example, if 100 students from a
    school were scheduled to begin repaying their loans in fiscal year
    1996 and 25 defaulted on their loans by the end of fiscal year
    1997, the school's 1996 default rate would be 25 percent. The
    criterion for determining when a borrower has defaulted for the
    purpose of being placed in the numerator of the cohort default
    calculation varies by loan program. For FFELP, a borrower is
    considered to be in default only if the guaranty agency has paid a
    default claim to the lender on the borrower's loan. The date the
    guaranty agency reimburses the lender for the defaulted loan (the
    "claim paid" date, which is generally after the borrower has been
    delinquent for over 270 days on a loan payable in monthly
    installments) is the basis for determining when a borrower is
    placed in the numerator of the default calculation.6 For FDLP,
    borrowers are considered to be in default on the 271st day of
    delinquency and are to be placed in the numerator of the default
    calculation at that time. Each year, the Department assesses a
    school's eligibility to continue participating in FFELP and FDLP
    on the basis of the school's default rates for the most recent 3
    consecutive years for which data are available. In fiscal year
    1999, for example, eligibility is based on default rates for
    fiscal years 1994, 1995, and 1996. A school remains eligible if
    its rate is below the 25-percent threshold in at least 1 of these
    years. Most schools become ineligible if their default rate equals
    or exceeds the default threshold in all 3 fiscal years.7 Some of
    the student borrowers placed in a cohort neither default nor make
    payments on their loans during the full cohort period. These
    borrowers include the following: 5If a school has fewer than 30
    borrowers entering repayment, the Department calculates a 3-year
    average default rate (see app. I). 6Before the enactment of the
    Higher Education Amendments of 1998 (sec. 429 of P.L. 105-244,
    effective Oct. 1, 1998), sec. 435(l) of the Higher Education Act
    of 1965, as amended, defined default as including failures to
    repay that had existed for only (1) 180 (rather than 270) days, in
    the case of a loan that was repayable in monthly installments, or
    (2) 240 days, in the case of a loan that was repayable in less
    frequent installments. 7The Higher Education Act exempted
    historically black colleges and universities, tribally controlled
    institutions, and Navajo community colleges from the threshold
    requirement through June 1999. Page 5
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065 *
    Some borrowers are allowed to defer payment for an additional
    period because, for example, they are pursuing an approved course
    of study, trying but unable to find full-time work, or otherwise
    experiencing economic hardship. People having trouble finding work
    or experiencing other economic hardship may defer payment for up
    to 3 years, if they borrowed for the first time on or after July
    1, 1993. * Other borrowers may receive forbearance, which
    generally involves temporarily ceasing payment.8 Borrowers may
    receive forbearance if, for example, because of poor health or
    other acceptable reasons, they cannot make scheduled payments. In
    certain circumstances, forbearance may be administratively granted
    by the Secretary of Education without requiring documentation from
    the borrower. For example, administrative forbearance may cover a
    period of national military mobilization or other local or
    national emergency. In other circumstances, forbearances are
    mandatory. For example, a lender must grant forbearance when a
    borrower is serving in a medical or dental internship or residency
    program and has exhausted his or her eligibility for deferment, or
    when a borrower's monthly loan payments are equal to or greater
    than 20 percent of total monthly income. Generally, a borrower may
    be granted forbearance for up to 1 year at a time. If the number
    of borrowers who have been provided deferments or forbearances
    becomes substantial, default rates can be affected in two ways.
    First, because these borrowers are not removed from the cohort,
    the default rate is lowered. This happens because they are counted
    as part of the total number of borrowers in the cohort who began
    repayment, even though they are not making payments on their
    loans. Second, because these borrowers are never placed in a
    subsequent cohort, they are never included in calculations of a
    school's default rate, even if they default on their loans after
    the deferment or forbearance period is over. Department officials
    said they do not attempt to remove students whose loans are in
    deferment or forbearance from a cohort because it is Department
    policy to view such borrowers as a part of the repayment
    population. This policy is consistent with section 435(m) of the
    Higher Education Act, which defines the term "cohort default
    rate." 8Forbearance can also involve extending the payment period
    or making smaller payments. However, according to officials from
    five large loan servicing organizations, nearly all forbearance
    cases currently being processed involve temporarily stopping
    payment. Page 6                                 GAO/HEHS-99-135
    Computing Default Rates Appropriately B-282065 Student Loans in
    Between cohort years 1993 and 1996, the percentage of borrowers
    who Deferment and                           were granted a
    deferment or forbearance for their loans more than doubled, rising
    from 5.2 percent to 11.3 percent-or from about 96,000 Forbearance
    Have                        borrowers to about 227,000. As figure
    2 shows, the increase in borrowers Increased for All
    granted deferments or forbearances was relatively consistent
    across various school types. Types of Schools Figure 2: Borrowers
    in Deferment or Forbearance as a Percentage of Total    14.0
    Percentage Borrowers in Repayment, by School
    13.0 Type, 1993 and 1996 Cohorts             12.0           11.4
    11.3 10.0
    9.1 8.0 6.0    5.7                    5.7
    5.2 4.0                                                 3.7 2.0 0
    4-Year Public          Less Than             Proprietary      All
    and Private            4-Year Public and Private Type of School
    1993 1996 Department officials attributed this rise in deferments
    and forbearances, in part, to various changes in the law
    instituted by the 1992 amendments that eased the requirements for
    obtaining deferments and forbearances. These changes included the
    simplification of deferment by reducing the number of deferment
    categories from 13 to 3, the provision for mandatory and
    administrative forbearances, and a broadened definition of
    economic hardship for deferments. For example, under the provision
    for mandatory forbearances, guaranty agencies are no longer given
    discretion in deciding Page 7
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065
    whether to grant forbearances for certain conditions; they are
    required to grant forbearances, for example, to students who
    demonstrate a willingness to pay but are currently unable to do
    so, and to students who have exhausted medical and dental
    internship deferments. Because proprietary schools have
    historically had more difficulty remaining under the default rate
    threshold, we examined whether their students might have become
    the borrowers most likely to seek loan deferments and forbearances
    as an alternative to default. However, in both cohort years 1993
    and 1996, the percentage of students with deferments or
    forbearances was significantly less for proprietary schools than
    for other types of schools. Although both deferments and
    forbearances increased between cohort years 1993 and 1996, the
    number of forbearances grew more. Overall, the number of borrowers
    who obtained deferments nearly doubled, from about 80,000 to
    148,000, but the number who obtained forbearances quintupled, from
    about 16,000 to 80,000. These increases were generally similar
    across all types of schools. We also attempted to determine what
    differences, if any, could be discerned between borrowers in FDLP
    and FFELP. Comparisons were limited, because FDLP is relatively
    new. No borrowers with FDLP loans were included in the 1993
    cohort, but FDLP borrowers constituted about 3.9 percent of total
    borrowers in repayment for the 1996 cohort. For that year, FDLP
    borrowers in repayment were nearly three times more likely than
    FFELP borrowers in repayment to have had a deferment or
    forbearance. Although these early data indicate a potentially
    significant difference between the two loan programs, it is
    premature to conclude that a large difference will persist in
    future cohorts. Department officials said they believed this
    difference between FDLP and FFELP is due, in part, to the
    Department's Direct Loan Servicing Center's active use of
    deferments and forbearances as tools to facilitate the resolution
    of delinquencies to help minimize loan defaults. Additionally, the
    servicing center commonly uses administrative forbearances when
    correcting erroneous information generated by schools, the
    Department, or itself to ensure that borrowers are not unfairly
    penalized. Page 8                         GAO/HEHS-99-135
    Computing Default Rates Appropriately B-282065 Default Rates Rose
    Calculating default rates using an alternative methodology that
    excluded When Borrowers With borrowers with loans in deferment or
    forbearance resulted in higher default rates. Using the current
    methodology for calculating cohort default Deferments and
    rates, the overall rate for all schools in the 1996 cohort was 9.6
    percent. Forbearances Were                       When recalculated
    using the alternative method, the rate increased by 1.2 percentage
    points to 10.9 percent.9 The increases were proportionately
    Excluded                                similar across the
    different types of schools (see fig. 3). Figure 3: Student Loan
    Default Rates Calculated Using Current and            25.0
    Percentage Alternative Methodologies, by School Type, 1996 Cohort
    20.1 20.0
    18.3 15.4 15.0                               13.4 10.9 10.0
    9.6 7.7 6.8 5.0 0 4-Year Public           Less Than
    Proprietary      All and Private             4-Year Public and
    Private Type of School Current Method Alternative Method Note: The
    current method includes borrowers with deferments or forbearances
    in its denominator; the alternative method does not. The change in
    the default rate shows the effect of the alternative calculation
    methodology, which excludes borrowers with loans in 9The
    percentage point increase is 1.2, rather than the difference
    between the rounded percentages 10.9 and 9.6. Page 9
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065
    deferment or forbearance from the denominator (all borrowers who
    entered repayment) of the calculation. Because virtually no
    borrowers with loans in deferment or forbearance have to make loan
    payments, these borrowers do not, by definition, go into default
    and thus are excluded from the numerator (borrowers in default)
    under both the current and the alternative methods for calculating
    the default rate. The current methodology, however, retains all
    borrowers with loans in deferment or forbearance in the
    denominator, even though these borrowers are no longer making
    payments on their loans. As the percentage of borrowers with loans
    in deferment or forbearance increases, the difference that occurs
    in the rates computed under the two methodologies also increases.
    Under the               Excluding borrowers with loans in
    deferment or forbearance from the Recalculated Default    default
    rate calculation also had the effect of increasing the number of
    schools with default rates above the 25-percent threshold. Under
    the Rate, More Schools      current methodology, 352 schools (out
    of 4,320) had default rates equal to Exceeded the            or
    greater than 25 percent for 1996. When we excluded borrowers with
    loans in deferment or forbearance from the calculation entirely,
    the 25-Percent Threshold    number of schools exceeding the 25-
    percent threshold rose by 181 (51 percent) to a total of 533
    schools. As figure 4 shows, proprietary schools represented the
    greatest part of this increase: 112 of the additional 181 schools
    were proprietary schools. However, the percentage increase for
    proprietary schools was slightly less than the percentage increase
    for the other types of schools. The additional proprietary schools
    represented a 41-percent increase, compared with a 43-percent
    increase for 4-year schools and a 110-percent increase for less-
    than-4-year schools. Page 10                     GAO/HEHS-99-135
    Computing Default Rates Appropriately B-282065 Figure 4: Number of
    Schools Whose Default Rates Equaled or Exceeded 25      600
    Number of Schools Percent When Calculated Using Current and
    Alternative
    533 Methodologies, by School Type, 1996       500 Cohort 400
    384 352 300                                                  272
    200 109 100 52 28    40 0 4-Year Public          Less Than
    Proprietary      All and Private            4-Year Public and
    Private Type of School Current Method Alternative Method Note: The
    current method includes borrowers with deferments or forbearances
    in its denominator; the alternative method does not. Department
    officials told us they did not favor changing the current method
    for calculating schools' default rates because the national
    default rate has fallen each year since 1991, and, at the same
    time, more than 1,000 schools have been removed from the programs
    because their default rates were too high. Department officials
    also said changing the method would create the following problems:
* The Department would have to modify its computer program at
    significant cost. * Schools wanting to check the Department's
    calculations would create increased workloads because the schools
    would request additional information from the Department, lenders,
    and loan servicers. Page 11
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065 *
    The number of schools that would challenge or appeal the default
    rate calculation would increase overwhelmingly. The Department
    estimated that the number of challenges and appeals would rise
    from the current level of 850 schools a year to at least 2,550 a
    year. The added cost of handling these challenges and appeals,
    Department officials estimated, would be more than $1 million. We
    do not believe that the Department's objections to changing the
    method of calculating the cohort default rate are compelling. The
    reasons cited are mainly administrative in nature and appear to be
    overstated. For example, those schools that would likely have a
    compelling reason to challenge or appeal on this basis are the
    ones that would move above the default rate threshold specifically
    because students in deferment or forbearance were excluded from
    the calculation. It is important to note that schools do not lose
    their eligibility to participate in FFELP and FDLP on the basis of
    1 year's cohort default rate. A school becomes ineligible if its
    default rate remains at or above 25 percent for each of the 3 most
    recent years. Our calculations for the 1996 cohort showed that 181
    schools would fall into this category in 1 year, and it is unknown
    how many schools might exceed the default rate threshold for 3
    consecutive years. Whatever the actual number, it would be far
    less than the additional 1,700 challenges or appeals the
    Department estimates would occur as a result of changing the
    method of calculating the default rate. In addition, these 181
    schools had over 12,000 borrowers who had defaulted on their
    student loans. Assuming an average loan size of $3,500, the cost
    to the government to pay lenders' claims for these defaulted loans
    could exceed $40 million. Even if only a modest number of these
    schools were disqualified from participating in federal student
    loan programs because their default rates exceeded the threshold
    for 3 consecutive years, the potential savings to the Department
    in reduced default claims could well exceed the costs of
    administering the change in the default rate calculation.
    Conclusions      By definition, a borrower with a loan in
    deferment or forbearance is generally not required to make loan
    payments and, therefore, has no exposure to default during the
    time the deferment or forbearance is in place. Currently, these
    borrowers are included in the denominator when computing schools'
    cohort default rates as if they were still making payments.
    Excluding such borrowers from the denominator of the default rate
    is appropriate because, using the current calculation methodology,
    should these borrowers default later, the defaults will not be
    factored into subsequent cohort calculations. Reliance on the
    current calculation Page 12                      GAO/HEHS-99-135
    Computing Default Rates Appropriately B-282065 method could allow
    schools to remain under the 25-percent threshold and to maintain
    their student loan program eligibility even if they would be
    ineligible if the default rate were calculated using the
    alternative methodology. Further, if the trend of an increasing
    number of borrowers' obtaining deferments and forbearances
    continues beyond the 1996 cohort, the impact of shielding high-
    default schools from exceeding the threshold will be greater in
    the future. This, in turn, could result in these shielded schools'
    continued participation in federal student loan programs and
    increased costs to the federal government as it continued to pay
    lenders' claims for loans that defaulted. Although the Department
    believes that administering a change in the default rate
    calculation method would result in substantially increased costs,
    we believe the Department's estimates of increased costs are too
    high. Additionally, there could be net savings if, as we believe
    is likely, reduced default claims exceeded the anticipated
    increases in administration expenses. Consequently, we believe
    that borrowers with loans in deferment or forbearance should not
    be viewed as borrowers in repayment when the Department calculates
    schools' cohort default rates but should instead be removed from
    the cohort before calculating default rates. Also, these borrowers
    should be added to a subsequent default cohort in the year in
    which their deferments or forbearances end and they have begun
    repaying their loans. Matters for             The Congress may
    wish to consider amending section 435(m) of the Consideration by
    the    Higher Education Act of 1965, as amended, to entirely
    exclude from the annual calculation of school default rates
    borrowers who are not in Congress                repayment by the
    end of a default cohort period because they have loans in
    deferment or forbearance. Additionally, the Congress may wish to
    require the Secretary to develop and implement procedures to
    ensure that borrowers excluded from a cohort's default rate
    calculation because of an authorized deferment or forbearance are
    included in a future cohort after they have resumed making
    payments on their loans. Agency Comments         The Department of
    Education provided comments on a draft of this report. The
    Department agreed that default prevention measures should be
    revisited and stated that our report provided a helpful discussion
    of ways to measure student loan defaults. It also said that its
    Office of Inspector General is currently exploring an alternative
    method for calculating the cohort default rate, and that the
    Department plans to review both our Page 13
    GAO/HEHS-99-135 Computing Default Rates Appropriately B-282065
    suggestions and those of the Inspector General to determine if the
    use of the cohort default rate as a default management tool can be
    improved. In this regard, the Department offered reasons for
    maintaining the current calculation in the interim, issues to
    consider if a change in calculation method is implemented, and
    possible new strategies to reduce default costs. The Department's
    comments appear in appendix II. Copies of this report will be
    provided to the Honorable James M. Jeffords, Chairman, Senate
    Committee on Health, Education, Labor, and Pensions; the Honorable
    Richard W. Riley, Secretary of Education; and other interested
    parties. We will also make copies available upon request. This
    report was prepared under the direction of Cynthia M. Fagnoni,
    Director, Education, Workforce, and Income Security Issues, who
    may be reached at (202) 512-7215 if you or your staff have any
    questions. Other staff who made key contributions to this report
    include Joseph J. Eglin, Jr.; Daniel C. Jacobsen; and Edward H.
    Tuchman. Richard L. Hembra Assistant Comptroller General Page 14
    GAO/HEHS-99-135 Computing Default Rates Appropriately Page 15
    GAO/HEHS-99-135 Computing Default Rates Appropriately Contents
    Letter
    1 Appendix I
    18 Scope and Methodology Appendix II
    21 Comments From the Department of Education Figures
    Figure 1: Current Method for Calculating Schools' Default Rates
    2 Figure 2: Borrowers in Deferment or Forbearance as a
    7 Percentage of Total Borrowers in Repayment, by School Type, 1993
    and 1996 Cohorts Figure 3: Student Loan Default Rates Calculated
    Using Current                  9 and Alternative Methodologies, by
    School Type, 1996 Cohort Figure 4: Number of Schools Whose Default
    Rates Equaled or                    11 Exceeded 25 Percent When
    Calculated Using Current and Alternative Methodologies, by School
    Type, 1996 Cohort Abbreviations FDLP         William D. Ford
    Federal Direct Loan Program FFELP        Federal Family Education
    Loan Program NSLDS        National Student Loan Data System Page
    16                     GAO/HEHS-99-135 Computing Default Rates
    Appropriately Page 17      GAO/HEHS-99-135 Computing Default Rates
    Appropriately Appendix I Scope and Methodology We obtained most of
    the data used to address our report objectives from the Department
    of Education's National Student Loan Data System (NSLDS) through
    the Default Management Division. Specifically, we obtained Loan
    Record Detail Report information (formerly referred to as backup
    data) for all schools with 30 or more borrowers in repayment for
    both the 1996 and 1993 default rate cohorts. We used the 1996
    cohort because it contains the most recently published default
    data available on the extent to which borrowers in repayment were
    using student loan deferments and forbearances. The 1993 cohort
    was selected because it permits a 3-year time difference for
    comparison with the 1996 cohort and was readily available for our
    use. The formula the Department uses for calculating a school's
    cohort default rate depends on the number of student borrowers
    from that school entering repayment in a given fiscal year. For a
    school with 30 or more borrowers entering repayment, the cohort
    default rate is the percentage that results from dividing the
    number of students who entered repayment in a given fiscal year
    and defaulted before the end of the next fiscal year (the
    numerator) by the number of students who entered repayment in that
    given fiscal year (the denominator). If a school has fewer than 30
    borrowers entering repayment, the Department calculates an average
    cohort default rate. This average rate is the percentage that
    results from dividing the number of students who entered repayment
    in the 3 most recent fiscal years and defaulted before the end of
    the fiscal year immediately following the fiscal year in which the
    loan entered repayment (the numerator) by the number of students
    who entered repayment in the 3 most recent fiscal years (the
    denominator). Because of the complexities involved in re-creating
    the Department's average cohort default rate calculations for
    schools with fewer than 30 borrowers in repayment, we limited our
    analyses to schools with 30 or more borrowers entering repayment
    in both the 1993 and 1996 cohorts. We estimated that over 99
    percent of the borrowers identified by the Department as being in
    repayment for these cohort years were included in our analyses.
    The loan record report contained school identification numbers for
    each borrower but did not contain data on school level (that is,
    whether it was a 4-year, 2-year, or less-than-2-year school) or
    control (that is, whether it was a public, private nonprofit,
    proprietary, or foreign school). By using school identification
    numbers, we were able to obtain school level and control data from
    the Department's "FY 1994-1996 Cohort Default Rates" report, its
    Integrated Postsecondary Education Data System, and its Page 18
    GAO/HEHS-99-135 Computing Default Rates Appropriately Appendix I
    Scope and Methodology Postsecondary Education Participant System
    database. Foreign schools were excluded from our analysis. Our
    analysis of the number of schools that exceeded the 25-percent
    statutory threshold was based on 1996 cohort data only. We did not
    estimate the number of schools that could become ineligible to
    participate in federal loan programs under the alternative
    methodology because such a determination would have to be based on
    rates for 3 consecutive cohort years. We did not have loan records
    for the needed additional 2 years immediately before or after 1996
    (neither 1994 and 1995 nor 1997 and 1998). A methodological
    concern regarding forbearance status borrowers was addressed
    before we analyzed the numbers of borrowers for their deferment or
    forbearance status or calculated default rates that excluded
    deferred or forborne status repayers. The concern involved our
    inability to determine from both the 1993 and 1996 cohort loan
    records the type of forbearances that were represented by the
    borrowers in repayment. Depending upon the type of forbearance a
    borrower chooses, loan payments will temporarily cease or will
    continue in some form. To the extent that forbearances are the
    type that require no payments during the forbearance period, they
    prohibit a borrower from defaulting. Forbearances that do not
    require payments were the type that we intended to exclude from
    the denominator in making our alternative default rate
    calculations. Consequently, we devised a means for estimating the
    extent to which forbearances found within the 1993 and 1996
    cohorts were the type that did not require loan payment during the
    forbearance period. We contacted officials from five large student
    loan servicing organizations that, combined, according to the
    executive director of the Student Loan Servicing Alliance, collect
    and service about 70 percent of FFELP loans and 100 percent of
    FDLP loans. We asked these officials, given their companies'
    experiences as servicers of federal student loans, what percentage
    of borrowers in forbearance make no payments during the
    forbearance period. Responses from all five loan servicing
    organizations were essentially the same; nearly all forbearances,
    over 90 percent in one case and nearly 100 percent in four cases,
    were estimated to be the type that require no loan payments during
    the forbearance period. On the basis of these officials'
    experience, we determined that our methodology for analyzing
    forbearances could reasonably presume that all borrowers with
    forbearance status in the Department's 1993 and 1996 cohorts did
    not have to make loan payments during the forbearance period. Page
    19                     GAO/HEHS-99-135 Computing Default Rates
    Appropriately Appendix I Scope and Methodology In calculating an
    alternative default rate, we excluded from the denominator all
    borrowers in repayment who had a loan in deferment or forbearance.
    The scope of our work did not include a consideration of when
    these deferments or forbearances might end, thereby causing the
    loans to reenter repayment. In addition to contacting loan
    servicers, we contacted various Department officials and an NSLDS
    computer specialist contracted by the Department, and reviewed
    laws, regulations, and Department procedures associated with the
    management and production of cohort default rates for
    postsecondary schools. Relying on Department procedures for
    ensuring data integrity, we did not validate the information and
    data obtained and used in our analyses. Schools, guaranty
    agencies, lenders, and FDLP services are among the primary
    organizations that provide data to NSLDS for use in calculating
    cohort default rates. These same organizations are afforded the
    opportunity to review draft cohort default rates before they are
    officially released to the public and to take action through
    adjustment or appeal requests to correct loan records in the NSLDS
    system that they believe are incorrect. Page 20
    GAO/HEHS-99-135 Computing Default Rates Appropriately Appendix II
    Comments From the Department of Education Page 21      GAO/HEHS-
    99-135 Computing Default Rates Appropriately Appendix II Comments
    From the Department of Education (104940)    Page 22
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