Submitted by New Jersey Bankruptcy Attorney, Lee M. Perlman
Originally published here by the Washington Post.
Given the high cost of public and private universities, chances are most families will have to borrow some money to pay for school. But as they decide between student loans offered by the government and those offered by financial firms, consumer advocates caution families to be mindful of the rigid terms that often come with private loans.
Most private loans require students to have a co-signer, often a parent or grandparent. And having someone else’s name on the loan can help you get a lower interest rate since the co-signers are obligated to repay the debt if the borrower does not. But experts say that families should be careful of this arrangement.
This week, the Consumer Financial Protection Bureau issued a report that found 90 percent of private student loan borrowers who applied to have the co-signer of their loan released from the contract were rejected. Without that release, co-signers run the risk of having their credit ruined if the borrower falls behind on payments. And the borrower could have their loan automatically placed in default if the co-signer dies or declares bankruptcy.
“For parents that really can’t afford to pitch in much for their child’s education, co-signing a private loan is one way to help, but it definitely comes with risks,” Rohit Chopra, student loan ombudsman for the CFPB, said in an interview.
Families will not face the same sorts of risks when they take out federal student loans, which have stronger consumer protections and more flexible repayment terms. And federal loans generally have lower interest rates than private loans.
However, more private lenders –banks, credit unions and other financial firms that provide education loans–are starting to offer competitive rates. Parents and graduate students with stellar credit can now find private loans with fixed interest rates around 5 percent from lenders like Citizens Bank or CommonBond.
By comparison, the interest rate on a federal Plus loan for parents will be 6.84 percent for the upcoming school year, while graduate students can expect to pay 5.84 percent interest on their federal loans starting in July. There are also origination fees– over 1 percent on federal Stafford loans and 4.27 percent on Plus loans–that most private lender no longer charge.
Still, private lenders fall short when it comes to cutting borrowers some slack on the terms of their loans, according to the CFPB report.
Lenders advertise that they will release a co-signer from the loan agreement if the borrower has made consistent on-time payments. Yet some lenders and loan servicers — the middlemen who accept and apply payments to the debt — have borrowers jump through additional hoops, according the report. They ask for proof of graduation, a letter from the co-signer and even conduct credit checks.
In some cases, borrowers can be disqualified for a co-signer release if they prepay their loans or if they have their loans placed in forbearance –temporarily suspending payments.
The CFPB first reported on problems with co-signer releases last year, when it found that some people who paid private student loans on time were being placed in default when the co-signer of their loans died or declared bankruptcy. At the time, the bureau had received numerous complaints from consumers about “auto default” that occurred even if the loans was being paid on time.
While the bureau has since seen a decline in those complaints, Chopra said private student loan contracts still contain clauses that let lenders demand the entire balance immediately and place the loan in default if the balance isn’t paid. And what’s worse, the bureau found that some contracts have clauses to trigger a default if the borrower or co-signer falls behind on any other loans held with the institution, like a mortgage or car loan.
“Lenders should scrub through their contracts to see if some of these clauses in the fine print even make sense,” Chopra said. “Servicers should come clean about what the criteria is for co-signer relief and they should make the applications clearly available online.”
The CFPB would not release the names of the private lenders whose contracts it reviewed, but the industry is dominated by a handful of players, including Sallie Mae, Wells Fargo and Discover Financial Services. Private lenders only hold about 7 percent of the total $1.3 trillion student debt, according to Measure One, a company that tracks private student loans.
Sallie Mae spokesman Richard Castellano said the company is completely transparent about its co-signer release, which is available to students who have graduated and made 12 consecutive on-time payments.
“We provide details on co-signer release eligibility in student loan marketing materials, on SallieMae.com, and through our customer service center,” he said. “It is also our policy not to place a loan in default when a co-signer dies, and we modified our loan agreements last year to reflect this policy.”
Castellano added that Sallie Mae is willing to modify the terms of student loans for customers who have trouble repaying.
Similarly, John Rasmussen, head of education financial services at Wells Fargo, said the company has flexible terms for borrowers experiencing hardship, and will release co-signers from a student loan contract when the borrower “demonstrates the capacity to assume sole repayment responsibility for the loan.”
Chopra said while private lenders have become a little more responsive to families, the “devil is in the details” of their contracts.