New Loan Program To Debut At Harvard

The final admission letters have not been mailed out yet. But at least one thing about the Class of 1998 has already been determined: students receiving federal financial aid will have less paperwork and lower interest rates than their predecessors.

Harvard and Radcliffe were recently selected as two of 105 schools nation-wide to participate in the new Federal Direct Student Loan program. The program, which is expected to save billions of dollars, will eventually be the way most college students in the country obtain their loans.

The new program will enable students to get loans directly from their schools, rather than through outside lending institutions like banks, according to Elizabeth M. Hicks, assistant dean of admissions and financial aid for federal and special programs. The reform is designed in part to reduce the hassle for students seeking loans, Hicks says.

When the new program takes effect July 1, students on federal aid will receive a significant financial windfall. As of that date, the maximum interest charged on government loans will drop from eight per- cent to four, according to Hicks.

The 105 schools vary in size from Mr. Bernard'sSchool of Hair Fashion in Lewiston, Maine (withexpected annual loans of $45,000), toHarvard-Radcliffe, which has annual loans ofapproximately $45 million.

The Student Loan Reform Act, passed as part oflast April's budget reconciliation act and signedlast August, established this direct loansystem--which will phase out the 35-year-oldFederal Family Education Loan Program.

"For those in my field this is as big as healthcare reform," says Hicks, one of the designers ofthe new loan program.

Lower Rates, Less Paperwork

The current system of student loans involves anetwork of Banks, secondary markets, guaranteeagencies, servicers, collection agencies andauditors.

At the present time, approximately 8,000lenders and 40 guarantee agencies are involved inthe granting of student loans, Hicks says.

Confusion among students, many of whom areinexperienced with finance, is compounded by thefact that the loans, once they are granted, aregranted, are often sold to secondary markets suchas Sallie Mae or Nellie Mae within a day. shesays. These sales can leave students confused asto whom actually owns their loans.

For students whose institutions areparticipating, though, the new loan program meansthat students will no longer have to go through abank to get federal loans. Instead, the school'sfinancial aid office will handle the transactions,thus noticeably reducing the paperwork involved,she says.

Harvard was actually one of about 30 schools toact as a lender under the old loan system. Itcould loan out federal money to students, but ithad to deal with numerous intermediaries andlevels of bureaucracy at several differentcompanies.

But under the new program, the University willbe the lender to all its students and will onlyhave to deal with one other lendinginstitution--the federal government, according toHicks.

New Repayment Methods

The new systems also provides a great deal moreflexibility in terms of methods of repayment forstudents, according to Hicks, who served onPresident Clinton's education transition team.

As many Harvard student know, under the presentfederally guaranteed loan plan, repayments ofloans generally occur over 10 years at a fixedrate.

That option will still be present under thedirect loan program, but there will be addedpayment plans available.

Students will now be able to extend the paymentperiod and use either a fixed or variable rate,Hicks says. They will also have the option of agraduated repayment schedule with the rateincreasing a few times as the students getfurther out of school.

These options, though not now universallyaccessible, are available from some lenders,according to Hicks.

The fourth option that will become available tostudents next year is an income contingentschedule, similar to one previously used in Canadaand Australia and now employed in Scandinaviancountries.

This "innovative plan" would allow students topay back a percentage of their income for varyingperiods of up to 25 years, Hicks says.

Under the current Federal Family Education LoanProgram, banks provide the money for loans and thegovernment pays the interest until the studentleaves school.

This makes the government the guarantor of theloans, so it becomes responsible for any defaults.

Hicks gives this example of the progression ofa loan under the present system. "Right now astudent goes to a bank like BayBank for a loan,"she says. "If they pay it off on time things don'tget too complicated."

But if the student in question defaults on theloan and the bank can show that it has "exerciseddue diligence" in collecting what it is owned, itcan bring in a collection agency and thus getcompensated even if the money is not actuallycollected, Hicks says.

"Then the guarantor tries to collect, and evenif they cannot they get fully reimbursed by thefederal government," she says. "The governmentthen hires the same collection agencies and thistime the companies receive 30 percent of anycollection they make."

This system causes a "warped incentivestructure" because the participants do not have areason to perform, Hicks says. She stresses,however, that this structure is not the result ofintentional negligence.

Hicks adds that the current system has recentlybeen changed with the latest wave of educationalreform. So the reimbursement process for loanswill have somewhat better incentives, even underthe old loans system, in the future.

Details of the Process

Part of the reason that Harvard was selectedwas the prominent role of Sen. Edward M. Kennedy'54-'56 in creating the program, Hicks says.Kennedy, as chair of the Committee on Labor andHuman Resources, was responsible for formulatingthe legislation before it was presented to theU.S. Senate.

In a statement yesterday, Kennedy said hebelieves the program will be a great success.

"I commend Harvard for its leadership insupporting the move to direct lending and inpioneering the new programs on campus," thestatement says. "Students will benefit directlyand immediately from lower loan fees, reducedinterest rates, flexible repayment options andsimplified applications."

The idea of direct loans has been around for afew years but only got the push it needed fromlast years' federal budget cuts, which forced asearch for savings in existing programs. Kennedytook the initiative to broaden the plan and forgea bipartisan coalition in support of it, Hickssays.

Nationwide, the new lending plan will be phasedin starting next year with 5 percent of allstudent loans going through the direct loanprogram, she says. That number will then increaseto 40, 50, 50 and 60 percent respectively in theyears through 1998, when the old program and thereforms will be reevaluated.

At that point, the decision will likely be madeas to whether or not to switch completely todirect lending.

Under the new system, all financial processingdone at the school itself, using data managementsoftware provided by the Department of Education.Once the loan has been completed, according toHicks, the money should be transferred into thestudents' accounts within three days. Under theold systems, students were forced to wait severalweeks.

The Congressional Budget Office has estimatedthat the shift to direct loans will save $4.5billion over three years.

"The saving will occur because the process willbe streamlined and the middle man will beeliminated," Hicks says.

Some have proposed changing the loans processto allow the Internal Revenue Service (IRS) topursue defaulted loans. That change is currentlybeing reviewed by the Department of Education andthe IRS. "Not surprisingly, students are notthrilled about that," Hicks says.

Last year the government issued 6.1 millionloans worth $18 billion, with default costsrunning $2.5 billion.

But not everyone is excited about the newsystem. Daniel Cheever, president of the studentloan guarantor America Student Assistance, ismore cautious about the prospects of directlending.

"We really don't know what the effect of thechanges are going to be," says Cheever, whosecompany frequently deals with Harvard. "Loans maybe able to get approved more quickly, but we don'tknow that yet."

He says the program will require an extra 600employees along with $2.5 billion in newsoftware, and that the savings being announcedjust take into account the savings on banksubsidies. "The new program will still cost thegovernment $15 billion, and that [cost] will justkeep going up," Cheever says.

Hicks says, however, that the CongressionalBudget Office, the General Accounting Office andthe U.S. Office of Management and Budget all foundthat the program would substantially reduce costs.

Cheever, to the contrary, insists that "underthe new program, taxpayers will pay more money."

He also cites concerns about the management ofthe plan by the government. "One major worry wehave is that when costs go up, government may wantto exercise control over colleges," he says. "Thisscares us with the possibility of the governmenttrying to tell schools things like how manyclasses professors should teach."

But Cheever also acknowledges that "the presentprogram is much too complicated and the newsystems is worthy trying."

He says all parties must be careful to keep aneye on costs.

Getting Involved

The competition to become one of the first 105schools to try direct lending was stiff, in spiteof worries that the program would not be popularwith some in higher education.

Out of approximately 1,100 schools thatvolunteered to participate, Harvard and Radcliffewere chosen based on their good records foradministering students loans as well as theircommitment to the program from the beginning,Hicks says.

Harvard was in the position of being one ofabout only 30 schools in the nation to be a lenderunder the old system, so it had the vantage pointof being involved on both sides of the lendingprocess, Hicks says.

"We were probably the only lender in the nationin favor of reform," she says.

Part of the reason Harvard pushed for theprogram was that it had experience in dealingdirectly with the government on loans through theold Perkins Loan Program, Hicks says. Workingunder that program, University officials saw thateliminating secondary institutions eased the loanprocess.

Harvard is one of four Massachusetts schools tobe part of this initial program. Amherst,Stonehill and Williams Colleges are the others.

At Williams, all students applying for aid forthe first time will go through the direct program,while students already receiving loans willcontinue with their present program, according toWilliams Director of Financial Aid Philip G. Wick.

Wick echoes Hicks' optimism about the program.

"I think the direct loan program will eliminatethe middle man so there will be no hoops orhurdles for students and they can deal directlywith the institution," Wick says. "I also think itshould significantly speed things up, by cuttingdown on bureaucratic delays...if the Department ofEducation does things right."Crimson File PhotoELIZABETH M. HICKS

The 105 schools vary in size from Mr. Bernard'sSchool of Hair Fashion in Lewiston, Maine (withexpected annual loans of $45,000), toHarvard-Radcliffe, which has annual loans ofapproximately $45 million.

The Student Loan Reform Act, passed as part oflast April's budget reconciliation act and signedlast August, established this direct loansystem--which will phase out the 35-year-oldFederal Family Education Loan Program.

"For those in my field this is as big as healthcare reform," says Hicks, one of the designers ofthe new loan program.

Lower Rates, Less Paperwork

The current system of student loans involves anetwork of Banks, secondary markets, guaranteeagencies, servicers, collection agencies andauditors.

At the present time, approximately 8,000lenders and 40 guarantee agencies are involved inthe granting of student loans, Hicks says.

Confusion among students, many of whom areinexperienced with finance, is compounded by thefact that the loans, once they are granted, aregranted, are often sold to secondary markets suchas Sallie Mae or Nellie Mae within a day. shesays. These sales can leave students confused asto whom actually owns their loans.

For students whose institutions areparticipating, though, the new loan program meansthat students will no longer have to go through abank to get federal loans. Instead, the school'sfinancial aid office will handle the transactions,thus noticeably reducing the paperwork involved,she says.

Harvard was actually one of about 30 schools toact as a lender under the old loan system. Itcould loan out federal money to students, but ithad to deal with numerous intermediaries andlevels of bureaucracy at several differentcompanies.

But under the new program, the University willbe the lender to all its students and will onlyhave to deal with one other lendinginstitution--the federal government, according toHicks.

New Repayment Methods

The new systems also provides a great deal moreflexibility in terms of methods of repayment forstudents, according to Hicks, who served onPresident Clinton's education transition team.

As many Harvard student know, under the presentfederally guaranteed loan plan, repayments ofloans generally occur over 10 years at a fixedrate.

That option will still be present under thedirect loan program, but there will be addedpayment plans available.

Students will now be able to extend the paymentperiod and use either a fixed or variable rate,Hicks says. They will also have the option of agraduated repayment schedule with the rateincreasing a few times as the students getfurther out of school.

These options, though not now universallyaccessible, are available from some lenders,according to Hicks.

The fourth option that will become available tostudents next year is an income contingentschedule, similar to one previously used in Canadaand Australia and now employed in Scandinaviancountries.

This "innovative plan" would allow students topay back a percentage of their income for varyingperiods of up to 25 years, Hicks says.

Under the current Federal Family Education LoanProgram, banks provide the money for loans and thegovernment pays the interest until the studentleaves school.

This makes the government the guarantor of theloans, so it becomes responsible for any defaults.

Hicks gives this example of the progression ofa loan under the present system. "Right now astudent goes to a bank like BayBank for a loan,"she says. "If they pay it off on time things don'tget too complicated."

But if the student in question defaults on theloan and the bank can show that it has "exerciseddue diligence" in collecting what it is owned, itcan bring in a collection agency and thus getcompensated even if the money is not actuallycollected, Hicks says.

"Then the guarantor tries to collect, and evenif they cannot they get fully reimbursed by thefederal government," she says. "The governmentthen hires the same collection agencies and thistime the companies receive 30 percent of anycollection they make."

This system causes a "warped incentivestructure" because the participants do not have areason to perform, Hicks says. She stresses,however, that this structure is not the result ofintentional negligence.

Hicks adds that the current system has recentlybeen changed with the latest wave of educationalreform. So the reimbursement process for loanswill have somewhat better incentives, even underthe old loans system, in the future.

Details of the Process

Part of the reason that Harvard was selectedwas the prominent role of Sen. Edward M. Kennedy'54-'56 in creating the program, Hicks says.Kennedy, as chair of the Committee on Labor andHuman Resources, was responsible for formulatingthe legislation before it was presented to theU.S. Senate.

In a statement yesterday, Kennedy said hebelieves the program will be a great success.

"I commend Harvard for its leadership insupporting the move to direct lending and inpioneering the new programs on campus," thestatement says. "Students will benefit directlyand immediately from lower loan fees, reducedinterest rates, flexible repayment options andsimplified applications."

The idea of direct loans has been around for afew years but only got the push it needed fromlast years' federal budget cuts, which forced asearch for savings in existing programs. Kennedytook the initiative to broaden the plan and forgea bipartisan coalition in support of it, Hickssays.

Nationwide, the new lending plan will be phasedin starting next year with 5 percent of allstudent loans going through the direct loanprogram, she says. That number will then increaseto 40, 50, 50 and 60 percent respectively in theyears through 1998, when the old program and thereforms will be reevaluated.

At that point, the decision will likely be madeas to whether or not to switch completely todirect lending.

Under the new system, all financial processingdone at the school itself, using data managementsoftware provided by the Department of Education.Once the loan has been completed, according toHicks, the money should be transferred into thestudents' accounts within three days. Under theold systems, students were forced to wait severalweeks.

The Congressional Budget Office has estimatedthat the shift to direct loans will save $4.5billion over three years.

"The saving will occur because the process willbe streamlined and the middle man will beeliminated," Hicks says.

Some have proposed changing the loans processto allow the Internal Revenue Service (IRS) topursue defaulted loans. That change is currentlybeing reviewed by the Department of Education andthe IRS. "Not surprisingly, students are notthrilled about that," Hicks says.

Last year the government issued 6.1 millionloans worth $18 billion, with default costsrunning $2.5 billion.

But not everyone is excited about the newsystem. Daniel Cheever, president of the studentloan guarantor America Student Assistance, ismore cautious about the prospects of directlending.

"We really don't know what the effect of thechanges are going to be," says Cheever, whosecompany frequently deals with Harvard. "Loans maybe able to get approved more quickly, but we don'tknow that yet."

He says the program will require an extra 600employees along with $2.5 billion in newsoftware, and that the savings being announcedjust take into account the savings on banksubsidies. "The new program will still cost thegovernment $15 billion, and that [cost] will justkeep going up," Cheever says.

Hicks says, however, that the CongressionalBudget Office, the General Accounting Office andthe U.S. Office of Management and Budget all foundthat the program would substantially reduce costs.

Cheever, to the contrary, insists that "underthe new program, taxpayers will pay more money."

He also cites concerns about the management ofthe plan by the government. "One major worry wehave is that when costs go up, government may wantto exercise control over colleges," he says. "Thisscares us with the possibility of the governmenttrying to tell schools things like how manyclasses professors should teach."

But Cheever also acknowledges that "the presentprogram is much too complicated and the newsystems is worthy trying."

He says all parties must be careful to keep aneye on costs.

Getting Involved

The competition to become one of the first 105schools to try direct lending was stiff, in spiteof worries that the program would not be popularwith some in higher education.

Out of approximately 1,100 schools thatvolunteered to participate, Harvard and Radcliffewere chosen based on their good records foradministering students loans as well as theircommitment to the program from the beginning,Hicks says.

Harvard was in the position of being one ofabout only 30 schools in the nation to be a lenderunder the old system, so it had the vantage pointof being involved on both sides of the lendingprocess, Hicks says.

"We were probably the only lender in the nationin favor of reform," she says.

Part of the reason Harvard pushed for theprogram was that it had experience in dealingdirectly with the government on loans through theold Perkins Loan Program, Hicks says. Workingunder that program, University officials saw thateliminating secondary institutions eased the loanprocess.

Harvard is one of four Massachusetts schools tobe part of this initial program. Amherst,Stonehill and Williams Colleges are the others.

At Williams, all students applying for aid forthe first time will go through the direct program,while students already receiving loans willcontinue with their present program, according toWilliams Director of Financial Aid Philip G. Wick.

Wick echoes Hicks' optimism about the program.

"I think the direct loan program will eliminatethe middle man so there will be no hoops orhurdles for students and they can deal directlywith the institution," Wick says. "I also think itshould significantly speed things up, by cuttingdown on bureaucratic delays...if the Department ofEducation does things right."Crimson File PhotoELIZABETH M. HICKS