A Student Loan System Stacked Against the Borrower

Submitted by New Jersey Bankruptcy Lawyer, Lee M. Perlman.

“It feels like I’m being set up to fail.”

That’s how Patrick Wittwer, 31, described his experience trying to repay his roughly $50,000 in student loans. Between misdirected payments by one of the companies servicing his loan and the abusive collection tactics he encountered when he fell behind, Mr. Wittwer said the repayment process simply seemed stacked against him.

A 2008 graduate of Temple University with a degree in media arts, Mr. Wittwer is not alone in his experience. Consumer advocates say student-loan servicers often make an already heavy debt load even more burdensome for borrowers.

A report issued late last month by the Consumer Financial Protection Bureau supports this view. Even though the economy and labor market have improved, student loan borrowers are experiencing high distress levels compared with borrowers with other types of consumer debt, the government report found. More than one in four student loan borrowers are delinquent or in default on their obligations.

In the aftermath of the financial crisis, we learned repeatedly about dubious practices among mortgage servicing companies that made it harder for homeowners trying to repay or renegotiate their loans. Now, similar horror stories are emerging about the companies servicing student loans.

Some 41 million Americans owe $1.2 trillion in student loan debt. The median debt burden among borrowers was $20,000 in 2014, up from $13,000 in 2007.

Companies servicing these loans manage borrowers’ accounts, process their payments and enroll them in alternative repayment plans, including those based on a fixed share of the borrowers’ income. Among the biggest companies are Navient, Great Lakes and Discover Bank.

The Education Department has contracts with 11 loan servicers. But with no federal standards governing these activities, student-loan servicers have great leeway in their practices. Making matters worse, borrowers are not allowed to choose their servicers, so if they encounter problems, they cannot take their business elsewhere.

“Good loan servicing is expensive,” Maura Dundon, senior policy counsel at the Center for Responsible Lending, said in a recent interview. “It requires reaching out and talking to people, and servicers don’t do it because they don’t get compensated for that. This is the fault of servicers, but it’s also the fault of the Department of Education for not writing this into their contracts.”

Denise Horn, a spokeswoman for the Education Department, said the agency continues to strengthen the federal direct loan program “to ensure all students and families receive the highest quality support from their federal loan servicers.” She added: “Everyone needs to do more to protect student loan borrowers — including servicers — and we’ll continue to take steps to strengthen the program and enhance oversight.”

A recent questionnaire by Young Invincibles, a research and advocacy organization focused on advancing economic opportunity for young adults, points to some of the weaknesses in student loan servicing.

One common borrower complaint among the roughly 1,200 people who responded to the survey was that servicers simply fail to follow instructions. Borrowers hoping to reduce both the cost and the length of their repayment period, for example, often ask servicers to steer payments toward higher-cost loans first. In a number of cases, recipients said, the companies ignored these requests.

“For servicers to ignore or do the opposite thing that a borrower would request is indicative of something very negative going on in the industry,” said Jennifer Wang, policy director at Young Invincibles.

Improper levying of late fees was another practice cited by those shouldering student loans. So were losing paperwork and making repeated requests for documentation.

Perhaps the biggest problem cited by borrowers and their advocates was the failure of student loan servicers to advise their customers of the full array of repayment plans available to them. In many cases, this means borrowers do not know they are eligible for loan relief and do not receive it.

Such relief includes repayment plans for federal loans based on a borrower’s income and family size, or debt forgiveness programs for borrowers who work in public service. Military service members also have a right to a lower interest rate while they are on active duty.

But many eligible borrowers don’t hear about these options, advocates say. An August report from the Government Accountability Office estimated that 51 percent of student loan borrowers nationwide are eligible for income-based repayment plans, but only 15 percent are enrolled.

Rather than offer one of these programs, servicers often suggest loan forbearance, in which the borrower stops making payments temporarily. But because interest keeps piling up on the loan during the forbearance period, this is an expensive alternative. And some private student loan servicers charge a $150 fee to put an account into forbearance.

Servicers say the complexity of federal student loan arrangements creates problems both for their workers who must try to explain these deals and for borrowers who need to understand them.

But servicers receive $600 million a year for their work, and explaining loan terms is surely one of the jobs they are being paid to perform. “For a servicer to see a student loan borrower struggle and not help them get into the right repayment plan is a huge customer service failure,” Ms. Wang said.

It is also a taxpayer risk, given that such practices raise a borrower’s potential to default.

Mr. Wittwer, who lives in Philadelphia, said he had encountered difficulties with some of his loan payments even though he arranged for them to be deducted automatically from his bank account last year.

“After six or seven months, I get a late notice for my federal loans and I go in to my bank and double-check that the loan was being paid,” he said. “My loans had been transferred to another office, but the original office had kept collecting it.”

It took about a month to fix the problem, Mr. Wittwer said. “You have to be hypervigilant about it because student loans are constantly being sold and moved.”

Ms. Dundon of the Center for Responsible Lending said that the Education Department had fixed some of the problems in its servicing contracts but that financial incentives were still misaligned in certain areas. For example, service companies receive more money if the loans they oversee are being paid off, and less if borrowers stop paying. While this system encourages servicers to keep borrowers current — a good thing — it discourages them from working with borrowers who fall behind.

Mr. Wittwer said he is currently paying $756 a month on his student loans, the minimum amount. He acknowledged that he did not understand the consequences of the sky-high interest rates on his loans when he took them on. But his credit score is rising and he has a job.

The Consumer Financial Protection Bureau is talking about rules to standardize student loan servicing practices. In the meantime, its enforcement unit has student loan servicing companies under the microscope. It brought a case against Discover Bank last summer, saying it inflated the amounts it said borrowers owed on their loans.

Discover Bank paid $18.5 million without admitting or denying wrongdoing.

Repaying a student loan is challenging enough without servicers adding to the burden with incompetence or dubious practices. Borrowers and taxpayers deserve better.