On Jan. 17 the new House Democratic majority made good on its pledge to lower interest rates on student loans, successfully pushing through a plan to trim rates on need-based subsidized federal loans by 50% over a five-year period. The measure, approved 356-71, is called a step forward by students and groups seeking lower college costs. But lenders and industry analysts said the bill, which was opposed by the Bush Administration, could end up being not as good a deal for students as it appears.
"Basically, what [the Democrats] are doing is making political points," said Tom Joyce, a spokesman for Sallie Mae, the largest originator of federal student loans. "It sounds good to say let's cut the lenders, but it's going to be students and schools that will pay the price." Shares of SLM (SLM), Sallie Mae's parent company, dropped after the election but have since rebounded. Standard & Poor's (MHP) analyst Stuart Plesser said that if the plan goes through, "it will definitely hurt [Sallie Mae's] bottom line," by shaving off margin in what's already considered a narrow-margin business. Sallie Mae's Joyce puts it at less than half a penny for every dollar loaned, or less than 50 basis points.
The House bill would reduce the interest rate on subsidized student loans from 6.8% to 3.4% over five years. Democrats said the measure will lead to lower rates for 5.5 million students and their families. The cost of the reductions—about $6 billion, according to the Congressional Budget Office—would be offset by changes in payments to lenders, fees paid by lenders, and a reduction in the share of default collections retained by guaranty agencies. The bill does not address loans taken out by parents of students or change provisions of the Pell Grant program, which goes to the neediest students. The Bush Administration says its favors grants to low-income students rather than interest rate cuts.
Some student advocates want Congress to go further in cutting college costs. Josh Weiss, student senate president at the University of Florida, said before the vote that the bill was a "step in the right direction," but he lamented the failure to increase Pell Grant funding, an issue that resonates strongly with lower-income students. Unlike loans, Pell Grants do not need to be paid back. For the 2006-2007 academic year, the maximum amount awarded is $4,050 (see BusinessWeek.com, 12/2/06, "Video View: Paying Off College Loans"). The bill also won't help current students, as it only applies to loans taken out after July 1, 2007.
Proponents of the bill said that when fully phased-in, borrowers would save $4,000 over the life of a $20,000 loan with a 10-year repayment period. However, critics say that students may not see that much in savings. Past cuts to the student loan program—including $12 billion last year, part of the Republican-led Deficit Reduction Act—have helped to drive some smaller players out of the student-lending market, a trend that will likely continue.
With less competition in the marketplace, lenders like Sallie Mae could start passing along the higher origination fees to students, or cutting back on services like default prevention programs. It could also threaten lending to smaller schools with higher default rates. "When you start adding it together, there's not as much savings to the student as Congress thinks there is," Plesser says.
Kennedy to Introduce Bill
At this point, the outcome of the interest rate measure remains hazy. Sallie Mae and the other top lenders, including Citibank (C), Bank of America (BAC) and Wells Fargo (WFC), are powerful players in Washington—in 2005, SLM reported spending $1.46 million in lobbying expenses—and the measure still has to make it through the nearly evenly split Senate. Sen. Edward Kennedy (D-Mass.), chairman of the Senate committee that oversees education, is also expected to introduce a larger bill addressing the interest-rate cut and other proposed changes to the student-loan program.
A statement released the day before the vote by the White House Office of Management & Budget made it clear that President Bush opposed the House bill. "Instead, the administration would support efforts to direct savings to additional grant support for low-income students," the statement said. "Furthermore, encouraging more student debt can also fuel today's upward tuition spiral."
Still, middle-class concern about the escalating cost of colleges, both private and public, is a potent driver, and college students and interest groups have organized around the issue. Earlier this month, the Campaign for College Affordability—made up of groups including the National Education Assn., Rock the Vote, the NAACP, and the United States Student Assn.—sponsored "College Affordability Day." On Jan. 11, students from around the country participated in a news conference in D.C., put flyers around their campuses, and called and wrote letters to members of Congress.
In a nod to the latest method of mass organizing, the campaign also created a Facebook group, which now has almost 35,000 members and has become a forum for university community members to debate and share financial woes (see BusinessWeek.com, 1/16/07, "Colleges Ease Access to Financial Aid").
Support from Student Governments
Some student government organizations—including the University of Florida and University of Washington—passed their own bills backing the House bill in recent weeks. Three Florida student leaders traveled to Washington on Jan. 17 to meet with lawmakers and publicize the university's support for lowering interest rates.
Although the House didn't act on Pell Grants, Kennedy's Senate proposal calls for boosting spending on the program. Mark Kantrowitz, publisher of FinAid.org, says the grants are important for low-income households. "Middle- and upper-income students understand they're investing in their future. Low-income students understand it intellectually, but the fear of debt is so strong they just don't go to college," Kantrowitz said.
Just because Pell Grants aren't getting an increase doesn't mean the House bill won't be effective, said Mark Warner, assistant provost for enrollment services and director of student financial aid at the University of Iowa. At Iowa, 60% of the financial aid portfolio is made up of loans. "Some are students who receive federal Pell Grants. But federal Pell Grants are only 25% of the cost. Clearly, a lot of those students have to borrow," said Warner.
Warner says students are often discouraged from pursuing graduate work because they've had to borrow such a large amount of money as undergraduates and the repayments are too high. And many of those students choose higher-paid positions as opposed to jobs they would rather take that are historically lower-paying. Said Warner: "Those are two very important things that will be positively impacted by cutting in half the interest rates."