April 26, 2021
By: David Bergeron
Many people have experienced the frustration of print or online subscriptions that “auto-renew,” incurring another year’s worth of cost whether they want it or not. Many services and publications hide these auto-renew provisions in the fine print, leading to unwanted expense or difficulty. What many people don’t realize is that something like that happens in the U.S. student loan system, often adding many thousands of dollars to a borrower’s debt.
To understand why, it’s important to note that the federal student loan system was originally constructed with the needs and interests of lenders – not students — in mind. That system, known (somewhat ironically) as Federal Family Student Loans (FFEL), gave lenders significant public subsidies to encourage them to make loans to low- and middle-income students enrolled in any accredited post-secondary education institution in the United States – without determining whether the education was of sufficient quality, and without finding out whether the student-borrower was creditworthy.
In many respects, this system was admirable. It opened the doors to higher education for millions of students over the course of FFEL’s 45-year history. But this system cost taxpayers significantly more than it would have if the government had made the loans directly. The credit crisis of 2008-2009 ultimately led to the demise of FFEL. During the credit crisis, lenders were unable to obtain the funds they needed to make student loans. The federal government was forced to step in and purchase billions of dollars in student loans, which convinced policymakers that private lenders would not be there for students when they need help the most. This led to the removal of private lenders from the business of issuing student loans. But the transition from FFEL to Direct Loans was quick. The Health Care and Education Reconciliation Act that it was signed into law by President Obama on March 30, 2010 and made effective on July 1, 2010, just 93 days later!
As a result, many of the policies and procedures that governed the student loan system were left unchanged. The disbursement of federal student loans remained on autopilot.
Here’s how it works: upon enrolling, a student signs a master promissory note and agrees to accept a specified loan amount for the first term they are enrolled. Each subsequent term, the student receives a notice indicating that a disbursement will be made for that term. If the student takes no action, the disbursement is made automatically.
The only way to stop the disbursement is to reject the disbursement within a specified period of time. This practice is known among student loan insiders as “passive confirmation.” Not surprisingly, private lenders pushed for passive confirmation when they were making student loans because it made the operation of the system easier to manage and increased the amount that was lent.
But private lenders no longer make student loans. The government does. To better protect students, this “auto-renew” system should be shifted to one based on active confirmation. Under that system, a student would be asked whether they want to receive a loan disbursement in a specified amount whenever their previous loan expired. Loan funds would be disbursed only after receiving confirmation from the student.
It’s a simple thing, but it would give students much greater control of their financial well-being. Students that changed their mind could quickly and easily get the additional money they need, while those who didn’t would avoid incurring additional debt. It may sound like a small change, but little things can make a big difference.
David Bergeron is currently retired and previously served 30 years in a variety of roles at the U.S. Department of Education including as acting Assistant Secretary for Postsecondary Education. He also was Vice President for Postsecondary Education Policy and then Senior Fellow at Center for American Progress.
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