Regulating the “Wild West” of Student Loans

The need for strengthened consumer protection in the lending industry became painfully evident as millions of American lost their homes, jobs, or both in the wake of the recent financial meltdown. While healthcare still dominates congressional debate, legislation in the U.S. House of Representatives is being crafted to create a federal Consumer Financial Protection Agency to regulate forms of consumer credit traditionally subject to little government oversight. College affordability advocates, including the United States Student Association, are working to ensure that private student loans, the “wild west of lending” according to New York’s Attorney General, fall under the jurisdiction of the new agency.

This is where it gets tricky. Representative Barney Frank (D-MA) is authoring an exemption for small businesses and local merchants that would suffer under excessive regulation. That makes sense; after all, it’s not the mom and pop shops we need to worry about. The problem is that the exemption language is vague and could be interpreted to include higher education institutions that issue private loans, not the type of businesses the carve out was intended to protect.

The concern is over aid issued by these higher education companies called “gap” loans. Because federal loans don’t always cover the entire cost of college, private “gap” loans are offered by institutions to pay the difference between the maximum amount of federal aid and the remaining college cost. While these loans play a necessary role in financial aid, they are often structured as consumer financing, like credit cards, and can reach double-digit interest rates, which leads to higher loan debt and increased student default. Lenders argue excessive regulation will harm students by preventing companies from issuing these loans. Yet, the new agency would only enforce laws that require lenders to inform students about federal loan options and to disclose information about their private loans, such as interest rates and estimated monthly payments.

The USSA supports these regulations that would simply mandate lenders tell the truth about their loans.