Obama and Department of Education Outsourcing Student Loan Servicing

On April 15, 2012 I received a letter in the mail from EdFinancial, a so called “nonprofit” financial services company, informing me that it would be taking over the serving of my William D. Ford direct consolidation loan, effective April 5, 2012. First and most obviously, the letter was postmarked seven days after the effective date. Most upsetting, the notice arrived just three days prior to my payment being due. I received no contact from the Department of Education, who had been servicing my loans since I graduated from Law School. So, I was left with only a small window of time in order to determine on my own if the letter was legitimate, and then register on the new website and adjust my automatic payments accordingly.

The federal government through the Department of Education has been has been transferring large tranches of federal student loans to new loan-servicing companies for some time now. It has plans to continue to do so through the end of 2012 and beyond.

As our federally-owned loan portfolio continues to grow, we are ready to move to the next step in ensuring an efficient and effective multi-servicer, borrower-centric approach to servicing.  We will further expand our federal loan servicer team through contracts awarded under the HCERA/SAFRA Not-For-Profit (NFP) Servicer Program solicitation.  This solicitation offered NFP entities the opportunity to submit proposals individually or in teams for servicing borrower accounts on our behalf.  Whether individual or team award, our customers will know and face one servicer.  The Department will annually measure each servicer’s performance in the areas of borrower satisfaction and default management and use the results to assign additional volume when applicable.

I am left only to assume that not directly informing borrowers in advance that hundreds of billions of dollars in student debt will be transferred to private entities is an indispensable element of this new “borrower-centric” approach. I also assume that not informing me in a timely fashion of the transfer carries no penalty. I should say loudly that I was very happy with the past service provided by the Department of Education and found its staff to be knowledgeable, helpful, and responsive. Over the years I have had several questions and need for assistance, and each request was handled professionally. I have no doubt that the level of service provided previously will not be duplicated by the private entities paying lower wages and benefits, and providing no job security to its collection agents and staff.

The change was pushed by several nonprofit student loan corporations and their trade groups, including the Education Finance Council, during the health care debate in 2009 and 2010. The rule change was hidden away nicely as part of legislation passed concurrently with the Affordable Care Act. As has been true often during Obama’s tenure, an idea first floated to enable common sense reform, has been bastardized by moneyed interests. The motivation for the law was primarily to allow the government to break from guaranteeing loans offered through banks and credit unions and to begin lending directly to the public. The change made sense, and it has saved the federal government from having to pay fees to the large banks to originate and service the loans. It has also meant that the federal government would be forced into servicing a larger number of loans. However, the apparently influential nonprofit collection servicing business groups won a provision which guaranteed that its members would be granted the rights to service the loans.

As a consequence of the right hand helping while the left hand pummels, many borrowers have suffered problems during the transition. Many borrowers’ payments have been adjusted upwards or downwards without explanation. The vast majority of these same borrowers have since provided the new servicer with the requested information needed to correct the issue, but have not found a resolution. In my case I was simply notified in an unprofessional and untimely manner, although I am certain that additional problems will arise in the future.

I have some initial questions for the Department of Education. For example, how will loan forgiveness procedures be handled? Who will make decisions regarding public service loan forgiveness? How will borrowers’ payments be tracked for purposes of forgiving loan balances once the loans become eligible under the 25 or 20 year provisions? Are we to trust these private companies to keep accurate records and base decisions on government policies and interpret those policies accurately? What new collection rights, if any, will the servicers enjoy that the federal government did not? Will there be an oversight board set up to handle complaints from borrowers when these servicers ultimately engage in fraudulent behavior? Who will punish these entities if they begin to intimidate borrowers? At least six of the servicers that Uncle Sam has negoitiated these no-bid contracts with with have been involved in scandals in the past. How are we borrowers to have any confidence in this process?

The fact of the matter is that this type of government outsourcing never functions as planned. Just ask anyone who has run afoul of parking regulations in Chicago, or the folks who were recently renumerated for fraudulent fines and penalties paid to private operators of toll roads in California. This loan servicing outsourcing was a terrible idea and it will have terrible consequences. Unfortunately, it will be nearly impossible to unwind it.

It is a despairing situation because the President, I believe, had no intention of placing student borrowers into a precarious situation. In attempts to streamline the process he simply traveled down the path of least resistance, likely believing that the servicers’ nonprofit status would in some way shield borrowers from the type or predatory behavior that they had been subjected to by the large banks and private collection companies. In return, he was able to carve out a change that removed billions in fees from the large banks as the government became a direct lender to students. As I write this, the President is traveling around the country attempting to rally support for an extension of lower interest rates for student loan borrowers, and I believe he intimately understands the harm that will be caused by failure. However, outsourcing nearly a trillion dollars in student loan debt to ill-trained, ill-informed, ill-motivated private entities was a poor decision, and one that will likely adversely affect borrowers for decades.