Student Loan Programs
As Federal Costs of Loan Consolidation Rise, Other Options Should Be Examined
Gao ID: GAO-04-101 October 31, 2003
The federal government makes consolidation loans available to help borrowers manage their student loan debt. By combining loans into one and extending the repayment period, a consolidation loan reduces monthly repayments, which may lower default risk and, thereby, reduce federal costs of loan defaults. Consolidation loans also allow borrowers to lock in a fixed interest rate--an option not available for other student loans--and are available to borrowers regardless of financial need. GAO was asked to examine (1) how consolidation borrowers differ from nonconsolidation borrowers; (2) how federal costs have been affected by recent interest rate and loan volume changes; and (3) the extent to which repayment options--other than consolidation--are available to help simplify and reduce loan repayments.
On average, consolidation loan borrowers, over the 1987 to 2002 period, had higher levels of student loan debt, higher incomes, and larger loan repayments than did nonconsolidation borrowers. For example, the average student loan debt among consolidation borrowers prior to consolidating their loans was about $22,000 versus about $10,000 for nonconsolidation borrowers. As a group, they defaulted less often on their consolidation loans than borrowers who did not consolidate their loans. Recent trends in interest rates and consolidation loan volumes have affected consolidations in the Department of Education's (Education) two major student loan programs--the Federal Family Education Loan Program (FFELP) and the William D. Ford Federal Direct Loan Program (FDLP)--in different ways, but in the aggregate, estimated subsidy and administration costs have increased. Subsidy costs for FFELP consolidation loans grew from $1.3 billion for loans made in fiscal year 2002 to nearly $3 billion for loans made in fiscal year 2003. Lower interest rates available to borrowers in fiscal year 2003 increased these costs because FFELP consolidation loans carry a government guaranteed rate of return to lenders that is projected to be higher than the fixed interest rate consolidation loan borrowers pay. Higher loan volumes also added to the estimated subsidy costs. Interest rates and loan volume also affected costs for FDLP consolidation loans, but in a different way. Because the interest rate the government charges borrowers has been somewhat greater than the interest rate that Education pays to finance its lending, consolidation loans have generated a net gain for the government in recent years. Lower rates paid by borrowers and reduced loan volume from recent record highs, however, reduced the net gain to $286 million for loans made in fiscal year 2003, down from $460 million the year before. While administration costs are not specifically tracked for either loan program, available evidence indicates that these costs have also risen. Alternatives to consolidation, such as the ability to make a single repayment to cover multiple loans and obtain extended repayment terms, now give some borrowers opportunities to simplify and reduce loan repayments, but not all borrowers can use them. As a result, consolidation loans may be the only option for some borrowers to simplify and reduce repayments. Borrowers' repayment choices--whether to obtain a consolidation loan or use other alternatives--have consequences for federal costs. While consolidation loans may remain an important tool to help borrowers, overall federal costs in providing for consolidation loans may exceed federal savings from reduced defaults. An assessment of the advantages of consolidation loans for borrowers and the government, taking into account program costs and how costs could be distributed among borrowers, lenders, and the taxpayers, would be useful for decisionmakers.
Recommendations
Our recommendations from this work are listed below with a Contact for more information. Status will change from "In process" to "Open," "Closed - implemented," or "Closed - not implemented" based on our follow up work.
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GAO-04-101, Student Loan Programs: As Federal Costs of Loan Consolidation Rise, Other Options Should Be Examined
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Report to Congressional Requesters:
United States General Accounting Office:
GAO:
October 2003:
Student Loan Programs:
As Federal Costs of Loan Consolidation Rise, Other Options Should Be
Examined:
GAO-04-101:
GAO Highlights:
Highlights of GAO-04-101, a report to congressional requesters
Why GAO Did This Study:
The federal government makes consolidation loans available to help
borrowers manage their student loan debt. By combining loans into one
and extending the repayment period, a consolidation loan reduces
monthly repayments, which may lower default risk and, thereby, reduce
federal costs of loan defaults. Consolidation loans also allow
borrowers to lock in a fixed interest rate”an option not available for
other student loans”and are available to borrowers regardless of
financial need.
GAO was asked to examine
(1) how consolidation borrowers differ from nonconsolidation
borrowers; (2) how federal costs have been affected by recent interest
rate and loan volume changes; and (3) the extent to which repayment
options”other than consolidation”are available to help simplify and
reduce loan repayments.
What GAO Found:
On average, consolidation loan borrowers, over the 1987 to 2002
period, had higher levels of student loan debt, higher incomes, and
larger loan repayments than did nonconsolidation borrowers. For
example, the average student loan debt among consolidation borrowers
prior to consolidating their loans was about $22,000 versus about
$10,000 for nonconsolidation borrowers. As a group, they defaulted
less often on their consolidation loans than borrowers who did not
consolidate their loans.
Recent trends in interest rates and consolidation loan volumes have
affected consolidations in the Department of Education‘s (Education)
two major student loan programs”the Federal Family Education Loan
Program (FFELP) and the William D. Ford Federal Direct Loan Program
(FDLP)”in different ways, but in the aggregate, estimated subsidy and
administration costs have increased. Subsidy costs for FFELP
consolidation loans grew from $1.3 billion for loans made in fiscal
year 2002 to nearly $3 billion for loans made in fiscal year 2003.
Lower interest rates available to borrowers in fiscal year 2003
increased these costs because FFELP consolidation loans carry a
government-guaranteed rate of return to lenders that is projected to
be higher than the fixed interest rate consolidation loan borrowers
pay. Higher loan volumes also added to the estimated subsidy costs.
Interest rates and loan volume also affected costs for FDLP
consolidation loans, but in a different way. Because the interest rate
the government charges borrowers has been somewhat greater than the
interest rate that Education pays to finance its lending,
consolidation loans have generated a net gain for the government in
recent years. Lower rates paid by borrowers and reduced loan volume
from recent record highs, however, reduced the net gain to $286
million for loans made in fiscal year 2003, down from $460 million the
year before. While administration costs are not specifically tracked
for either loan program, available evidence indicates that these costs
have also risen.
Alternatives to consolidation, such as the ability to make a single
repayment to cover multiple loans and obtain extended repayment terms,
now give some borrowers opportunities to simplify and reduce loan
repayments, but not all borrowers can use them. As a result,
consolidation loans may be the only option for some borrowers to
simplify and reduce repayments. Borrowers‘ repayment choices”whether
to obtain a consolidation loan or use other alternatives”have
consequences for federal costs. While consolidation loans may remain
an important tool to help borrowers, overall federal costs in
providing for consolidation loans may exceed federal savings from
reduced defaults. An assessment of the advantages of consolidation
loans for borrowers and the government, taking into account program
costs and how costs could be distributed among borrowers, lenders, and
the taxpayers, would be useful for decisionmakers.
What GAO Recommends:
GAO recommends that the Secretary of Education assess the advantages
of consolidation loans for borrowers and the government in light of
program costs and identify options for reducing federal costs. Options
could include targeting the program to borrowers at risk of default
and extending existing consolidation alternatives to more borrowers.
Education should also consider how best to distribute program costs
among borrowers, lenders and the taxpayers. Education agreed with our
recommendation.
www.gao.gov/cgi-bin/getrpt?GAO-04-101.
To view the full product, including the scope and methodology, click
on the link above. For more information, contact Cornelia Ashby at
(202) 512-8403 or ashbyc@gao.gov.
[End of section]
Contents:
Letter:
Results in Brief:
Background:
Consolidation Borrowers Had More Debt, Higher Incomes, and Differed in
Other Ways When Compared with Nonconsolidation Borrowers:
Interest Rates and Increased Loan Volumes Have Increased Federal Costs:
Repayment Options Other Than Consolidation Loans That Allow Borrowers
to Simplify Loan Repayments and Reduce Repayment Amounts Exist, but
Borrowers' Use of These Options Is Limited by Several Factors:
Conclusion:
Recommendation for Executive Action:
Agency Comments:
Appendix I: Comments from the Department of Education:
Appendix II: GAO Contacts and Staff Acknowledgments:
GAO Contacts:
Staff Acknowledgments:
Tables:
Table 1: Annual Income and Annual Student Loan Repayment of
Consolidation Borrowers Compared with Nonconsolidation Borrowers
Entering Repayment in 1999:
Table 2: Number of Lenders of Consolidation Borrowers Compared to
Nonconsolidation Borrowers Originating Loans, January 1987 to November
2002:
Table 3: Interest Rate Spread for FDLP Consolidation Loans Originated
in Fiscal Years 2002 and 2003:
Table 4: Description of Borrower Repayment Plans:
Table 5: Comparison of Repayment Periods for FFELP Consolidation and
Nonconsolidation Loans, by Repayment Plan:
Table 6: Repayment Periods for FDLP Consolidation and Nonconsolidation
Loans, by Repayment Plan:
Table 7: Comparison of Borrowers' Options under Consolidation and
Nonconsolidation Loans:
Figures:
Figure 1: Average Student Loan Debt of Consolidation Loan Borrowers
Prior to Consolidation Compared with Nonconsolidation Borrowers
Originating Loans January 1987 to November 2002:
Figure 2: Repayment Periods of Consolidation Loans Compared with
Nonconsolidation Loans Originating from January 1987 to November 2002:
Figure 3: Type of School Attended by Consolidation Loan Borrowers
Compared with Nonconsolidation Borrowers Originating Loans, January
1987 to November 2002:
Figure 4: Percentage of Consolidation Loan Borrowers Who Borrowed for
Graduate/Professional School Compared with Nonconsolidation Borrowers
Originating Loans, January 1987 to November 2002:
Figure 5: Average Number of Loans of Consolidation Loan Borrowers
Compared with Nonconsolidation Borrowers Originating Loans, January
1987 to November 2002:
Figure 6: Percentage of Consolidation Borrowers Who Defaulted on
Consolidation Loans Compared with Nonconsolidation Borrowers Who
Defaulted on Loans, January 1987 to November 2002:
Figure 7: Consolidation loan volume increased as borrower interest
rates fell:
Figure 8: Illustration of Estimated SAP Paid to Holders of FFELP
Consolidation Loans Originated in Fiscal Year 2003:
Figure 9: Illustration of Net Subsidy Costs to the Federal Government
for Consolidation Loans Made in Fiscal Year 2002 Using Three Different
Sets of Interest Rate Assumptions:
Abbreviations:
FCRA: Federal Credit Reform Act:
FDLP: William D. Ford Direct Loan Program:
FFELP: Federal Family Education Loan Program:
HEA: Higher Education Act:
HEAL: Health Educational Assistance Loans:
IRS: Internal Revenue Service:
NSLDS: National Student Loan Data System:
SAP: special allowance payment:
United States General Accounting Office:
Washington, DC 20548:
October 31, 2003:
The Honorable John A. Boehner:
Chairman:
Committee on Education and the Workforce:
House of Representatives:
The Honorable Howard P. "Buck" McKeon:
Chairman:
Subcommittee on 21st Century Competitiveness:
Committee on Education and the Workforce:
House of Representatives:
For over 2 decades, the federal government has made consolidation loans
available to help borrowers cope with large amounts of federal student
loan debt. Consolidation loans are designed to help borrowers stay
current on loan payments, thereby reducing the government's costs of
paying for defaults. Instead of making concurrent repayments on several
loans over a period usually limited to 10 years, consolidation loan
borrowers can combine their loans and extend their repayment periods
beyond 10 years, thereby reducing monthly repayments. Consolidation
loans also allow borrowers to lock in a fixed interest rate, unlike
most other federal student loans, which carry an interest rate that
varies from year to year. Between fiscal year 2000 and 2002, the number
of borrowers consolidating their federal student loans nearly doubled
to almost 1 million, and the total amount--or volume--of loans being
consolidated rose even more sharply, from $12 billion to over $31
billion. Consolidation loans are available under both of the Department
of Education's (Education) two major student loan program--the Federal
Family Education Loan Program (FFELP) and the William D. Ford Direct
Loan Program (FDLP[Footnote 1])--and, in fiscal year 2002, accounted
for about 44 percent of these programs' total loan volume.
The increase in consolidation borrowers and loans has raised
congressional interest in the cost of the program for the federal
government. Two main types of federal costs are involved. One is
"subsidy"--the net present value of cash flows to and from the
government that result from providing these loans to
borrowers.[Footnote 2] For FFELP consolidation loans, cash flows
include, for example, fees paid by lenders to the government and a
special allowance payment by the government to lenders to provide them
a guaranteed rate of return on the student loans they make. For FDLP
consolidation loans, cash flows include borrowers' repayment of loan
principal and payments of interest to Education, and loan disbursements
by the government to borrowers. The subsidy costs of FDLP consolidation
loans are also affected by the interest Education must pay to the
Department of Treasury (Treasury) to finance its lending activities.
The second type of cost is administration, which includes such items as
expenses related to originating and servicing direct loans.[Footnote 3]
For years, consolidation loans were basically the only alternative
available to borrowers seeking to reduce the size of their loan
repayments. In recent years, however, some repayment options, such as
graduated, extended, and income-based repayment plans, have been added
to FFELP and FDLP. This change has raised congressional interest in the
degree to which these options extend payment relief to borrowers
without requiring them to consolidate their loans, and in the potential
advantages and disadvantages of the various approaches, both for
borrowers and the federal government. In light of the upcoming
reauthorization of the Higher Education Act (HEA) (which authorizes the
consolidation programs), you asked us to examine several issues
concerning consolidation loans. As agreed with your office, we focused
our work on answering the following key questions:
* How do consolidation loan borrowers differ from nonconsolidation loan
borrowers?
* How are federal subsidy and administration costs for consolidation
loan programs affected by recent interest rate and loan volume changes?
* To what extent do repayment options other than consolidation loans
allow borrowers to simplify loan repayment and reduce repayment
amounts?
Our work to answer these questions involved a variety of information
sources, including officials from Education's Office of Federal Student
Aid and Budget Service, as well as representatives of FFELP lenders. To
develop information about student borrowers, we analyzed a sample of
student loan data from Education's National Student Loan Data System
(NSLDS)--a comprehensive national database of student loans, borrowers,
and other information. The sample was a randomly drawn, representative
sample that contained records on approximately 4.4 million loans held
by 1.4 million students or their parents. The sample constituted 4
percent of the overall NSLDS population of approximately 32 million
students.[Footnote 4] To assess the reliability of the NSLDS data, we
reviewed existing information about the sample and interviewed
Education officials in Washington, D.C., responsible for performing
data accuracy, validity, and integrity tests of NSLDS data. In
addition, we performed electronic testing of key variables in our
sample for obvious problems in accuracy and completeness. We determined
that the NSLDS data were sufficiently reliable for this report. Our
analysis on borrower characteristics focused on borrowers in the sample
who originated loans from 1987 (the year consolidation loans were made
available under the program as it is currently structured[Footnote 5])
to November 2002. To develop information about the family income of
borrowers and their repayment amounts, we analyzed data provided by the
Internal Revenue Service (IRS) on family income and Education on loan
repayments for a sample of borrowers who entered repayment in 1999. Our
analysis of federal costs of consolidation loans is also based in part
on interviews with Education officials in Washington, D.C., and a
review of relevant analyses prepared by Education. We reviewed the HEA
and related Education regulations and other published information to
identify the repayment options available to student loan borrowers. We
conducted our work from July 2002 through August 2003 in accordance
with generally accepted government auditing standards.
Results in Brief:
On average, consolidation loan borrowers, during the 1987 to 2002 time
period, had higher levels of student loan debt, higher incomes, and
larger loan repayments than did nonconsolidation loan borrowers. The
average level of student loan debt among consolidation loan borrowers,
prior to consolidating their loans, was about $22,000 versus about
$10,000 for borrowers who did not consolidate their loans.
Consolidation loan borrowers were less likely than nonconsolidation
loan borrowers to have attended a proprietary (for profit) school and
were more likely to have borrowed while attending graduate/professional
school. Most consolidation loans had repayment periods that were longer
than 10 years. In addition, consolidation loan borrowers, on average,
had twice as many student loans as did nonconsolidation borrowers, and
two-thirds of consolidation loan borrowers had loans from more than one
lender, compared with about one-third of nonconsolidation loan
borrowers. Overall, once they had consolidated their loans, borrowers
with consolidation loans defaulted less often than borrowers who did
not consolidate their loans.
Recent trends in interest rates and consolidation loan volumes have
affected the FFELP and FDLP consolidation loan programs in different
ways, but in the aggregate, estimated subsidy and administration costs
have increased. For FFELP consolidation loans, subsidy costs grew from
$1.3 billion for loans made in fiscal year 2002 to nearly $3 billion
for loans made in fiscal year 2003. Lower interest rates available to
borrowers in fiscal year 2003 increased these costs because FFELP
consolidation loans carry a government-guaranteed rate of return to
lenders, that is projected to be higher than the fixed interest rate
paid by consolidation loan borrowers. When the interest rate paid by
borrowers does not provide the full guaranteed rate to lenders, the
federal government must pay lenders the difference. Higher loan volumes
in the FFELP program also added to the estimated subsidy costs. FDLP
consolidation loans are made by the government and thus carry no
interest rate guarantee to lenders, but changing interest rates and
loan volumes affected costs in this program as well. In both fiscal
years 2002 and 2003, there was no net subsidy cost to the government
because the interest rate paid by borrowers who consolidated their
loans was greater than the interest rate Education must pay to Treasury
to finance its lending. However, the drop in interest rates that
occurred in fiscal year 2003, among other things, reduced the
government's estimated net gain to $286 million for loans made in
fiscal year 2003, down from $460 million for loans made the year
before. A decrease in loan volume from recent record highs also
contributed to the reduced gain. Administration costs are not
specifically tracked for either consolidation loan program, but
available evidence indicates that these costs have risen, primarily
reflecting increased loan volumes.
Repayment options, other than consolidation loans, that allow borrowers
to simplify loan repayment and reduce repayment amounts--such as the
ability to make a single repayment to cover multiple loans and obtain
extended repayment terms--are now available to some borrowers under
both FFELP and FDLP, but these alternatives are not available to all
borrowers. If borrowers have multiple loans from a single lender, they
can make one monthly payment to cover all their loans. Many borrowers
can also adjust the amount of their monthly payments so that they make
smaller monthly payments at the start of repayment and larger monthly
payments during later repayment periods for each of their individual
loans. Moreover, borrowers with relatively large loan balances can
extend their repayment periods beyond a 10-year term, which results in
smaller monthly payments. While these alternatives to consolidation
have been added, borrowers must meet certain criteria to be able to use
them. For example, the ability to make a single payment is limited to
borrowers whose loans are currently with a single lender, and the
ability to extend repayment periods is, in some cases, limited to
borrowers whose total loan balances are above certain limits. For
borrowers who cannot use these options, consolidation loans remain the
only vehicle under FFELP and FDLP by which they may combine multiple
repayments into one and reduce the amount of their monthly repayments.
Consolidation loans also allow borrowers to lock in a fixed interest
rate for the life of the loan--an option not available to
nonconsolidation loan borrowers in either program. The ability to lock
in a low interest rate for the life of the loan is one factor that
could motivate some borrowers to choose consolidation over other
options. Borrowers' repayment choices, including whether to obtain a
consolidation loan or use other repayment alternatives, have
consequences for federal costs. While consolidation loans may remain an
important tool to help borrowers, overall federal costs in providing
for consolidation loans may exceed federal savings from reduced
defaults.
In this report, we recommend that the Secretary of Education assess the
advantages of consolidation loans for borrowers and the government in
light of program costs and identify options for reducing federal costs.
We provided Education with a copy of our draft report for review and
comment. In written comments on our draft report, Education agreed with
our reported findings and recommendations. Education's written comments
appear in appendix I. Education also provided technical comments, which
we incorporated where appropriate.
Background:
Congress created consolidation loans under Title IV of the HEA to help
borrowers combine and reduce monthly repayments so as to help decrease
federal loan default costs. Consolidation loans are available under
Education's two major student loan programs--the FFELP and FDLP. Under
FFELP, private lenders make loans to students with Education
guaranteeing the lenders loan repayment and a rate of return on the
loans they make. Under FDLP, the federal government makes loans to
students using federal funds.
FFELP and FDLP Offer Several Types of Loans:
In addition to consolidation loans, a number of other types of loans
are available under FFELP and FDLP, including subsidized Stafford,
unsubsidized Stafford, and PLUS loans. Both subsidized and unsubsidized
Stafford loans are variable rate loans that are available to
undergraduate and graduate students. The interest rates borrowers pay
on these loans adjust annually, based on a statutorily established
market-indexed rate setting formula, and may not exceed 8.25 percent.
To qualify for a subsidized Stafford loan, a student must establish
financial need. Students can qualify for unsubsidized Stafford loans
regardless of financial need. The federal government pays the interest
on behalf of subsidized loan borrowers while the student is in school.
Unsubsidized loan borrowers are responsible for all interest costs.
PLUS loans are variable rate loans that are available to parents of
dependent undergraduate students. The interest rates on these loans
adjust annually, based on a statutorily established market-indexed rate
setting formula, and may not exceed 9 percent. Parents can qualify for
PLUS loans regardless of financial need.
Consolidation loans differ from Stafford and PLUS loans in that they
enable borrowers who have multiple loans--possibly from different
lenders, different guarantors,[Footnote 6] and even from different loan
programs--to combine their loans into a single loan and make one
monthly payment. Consolidation loans are new originations that, in
general, do not contribute to increases in outstanding loan balances
because they refinance already existing loans.[Footnote 7] By obtaining
a consolidation loan, borrowers can lower their monthly payments by
extending the repayment period longer than the maximum 10 years
generally available on Stafford and PLUS loans. Consolidation loans
also provide borrowers with the opportunity to lock in a fixed interest
rate on their student loans, based on the weighted average of the
interest rates in effect on the loans being consolidated rounded up to
the nearest one-eighth of 1 percent, capped at 8.25 percent. Borrowers
can qualify for consolidation loans regardless of financial need.
Loans eligible for inclusion in a consolidation loan must be comprised
of at least one eligible FFELP or FDLP loan (subsidized and
unsubsidized Stafford loans, PLUS loans, and, in some instances,
consolidation loans). Other types of federal student loans made outside
of FFELP and FDLP, which may carry a variable or fixed borrower
interest rate, are also eligible for inclusion in a consolidation loan,
including Perkins loans, Health Professions Student loans, Nursing
Student Loans, and Health Education Assistance loans[Footnote 8]
(HEAL).
Consolidation loans under FFELP and FDLP accounted for about 44 percent
of the $71.8 billion in total new student loan dollars that originated
during fiscal year 2002. FFELP consolidation loans comprised about 72
percent of the fiscal year 2002 consolidation loan volume, while FDLP
consolidation loans accounted for the remaining 28 percent.
Federal Credit Reform Act of 1990 Helps Define Federal Costs Associated
with Consolidation Loans:
The Federal Credit Reform Act (FCRA) of 1990 was enacted to require
agencies to more accurately measure the government's cost of federal
loan programs and to permit better cost comparisons among and between
credit programs, such as FDLP and FFELP. Prior to implementing FCRA,
the budgetary cost of a new direct loan or loan guarantee was reported
on a cash basis. Thus, loan guarantees appeared to be free in the
budget year, while direct loans appeared to be as expensive as grants.
As a result, costs were distorted and credit programs could not be
compared meaningfully with other programs and with each other. FCRA and
the related accounting standards and budgetary guidance, together known
as credit reform, were established to more accurately measure the
government's costs of federal credit programs.
Subsidy Costs:
As part of implementing credit reform, agencies are required to
estimate the long-term cost to the government of a direct loan or a
loan guarantee, generally referred to as the subsidy cost, based on the
present value of estimated net cash flows, excluding administration
costs.
For FFELP loans, the subsidy cost of a loan guarantee is the net
present value, when a guaranteed loan is disbursed, of estimated cash
flows such as:
* Payments by the government to lenders to cover loan defaults and
interest subsidies. (Interest subsidies include payments to lenders
that provide them a guaranteed rate of return on the loans they make as
well as payments of interest on behalf of subsidized Stafford loan
borrowers who are in periods of deferment).[Footnote 9]
* Payments by lenders to the government, including origination and
other fees, penalties assessed borrowers, and recoveries on defaulted
loans. (For consolidation loans, FFELP loan holders must pay, on a
monthly basis, a fee calculated on an annual basis equal to 1.05
percent of the unpaid principal and accrued interest of the loans in
their portfolio.):
For FDLP loans, the subsidy cost of a direct loan is the net present
value, at the time when the direct loan is disbursed, of estimated cash
flows such as:
* loan disbursements by the government to borrowers and:
* principal repayments and payments of interest by borrowers to the
government.
The subsidy costs of FDLP loans are also affected by the interest
Education must pay to Treasury to finance its lending activities.
Administration Costs:
Administration costs include all costs directly related to FDLP program
operations, including loan servicing, loan system development and
maintenance, including computer costs, and the costs of collecting on
delinquent loans. For FFELP loans, lenders incur a substantial portion
of administration costs. The federal government initially pays many of
these costs by paying an allowance to the lenders. These allowances are
part of the subsidy cost under credit reform. For FDLP loans, the
federal government pays for administration costs directly.
Consolidation Borrowers Had More Debt, Higher Incomes, and Differed in
Other Ways When Compared with Nonconsolidation Borrowers:
Consolidation loan borrowers differed from nonconsolidation loan
borrowers in a variety of ways. On average, consolidation loan
borrowers had higher student loan debt, higher incomes, larger annual
loan repayments, and longer repayment periods. They were also less
likely to have attended a proprietary (or, for-profit) school and were
more likely to have borrowed while attending graduate/professional
school. In addition, they averaged more student loans from more
lenders. Overall, consolidation loan borrowers defaulted less often
than borrowers who had not consolidated their loans.
Consolidation Borrowers Had Higher Student Loan Debt and Incomes,
Larger Loan Repayments, and Longer Repayment Periods:
Borrowers with consolidation loans had a higher average amount of
student loan debt than nonconsolidation loan borrowers. Prior to
consolidation, the average student loan debt for our sample of
consolidation loan borrowers from January 1987 through November 2002
was $21,735, more than twice the average of $9,587 for nonconsolidation
borrowers (see fig. 1). While average student loan debt was higher for
consolidation loan borrowers, the average student loan debt for both
types of borrowers increased over time. Between 1992 and 2002, the
average student loan debt increased from $17,420 to $35,339 for
consolidation loan borrowers, and from $7,267 to $15,720 for
nonconsolidation borrowers.
Figure 1: Average Student Loan Debt of Consolidation Loan Borrowers
Prior to Consolidation Compared with Nonconsolidation Borrowers
Originating Loans January 1987 to November 2002:
[See PDF for image]
Note: Amounts analyzed and reported are in nominal dollars.
[End of figure]
Borrowers with consolidation loans had higher average incomes and
higher average annual repayments on their student loans than
nonconsolidation loan borrowers. In addition, loan repayments comprised
a slightly higher percentage of the incomes of consolidation borrowers,
with an annual student loan repayment-to-income ratio of 9.4 percent
for consolidation loan borrowers and 8.4 percent for nonconsolidation
borrowers (see table 1). Not only did consolidation loan borrowers have
higher average incomes than nonconsolidation loan borrowers, 39 percent
of them had family incomes greater than $50,000, compared with 23
percent of nonconsolidation borrowers with family incomes greater than
$50,000.
Table 1: Annual Income and Annual Student Loan Repayment of
Consolidation Borrowers Compared with Nonconsolidation Borrowers
Entering Repayment in 1999:
Average income; Consolidation borrowers: $47,150; Nonconsolidation
borrowers: $32,591.
Average annual repayment; Consolidation borrowers: $3,355;
Nonconsolidation borrowers: $2,126.
Average student loan repayment-to-income ratio; Consolidation
borrowers: 9.4%; Nonconsolidation borrowers: 8.4%.
Source: GAO analysis of IRS and Education data.
Note: The annual student loan repayment-to-income ratio was calculated
as the average debt burden across five income categories weighted by
the number of borrowers in each category.
[End of table]
For the FDLP loans in our sample,[Footnote 10] consolidation loans
tended to have longer repayment periods than nonconsolidation loans.
Over 62 percent of consolidation loans had repayment terms of 12 years
or more, compared with 26 percent for nonconsolidation loans. The
smaller loan balances often carried by nonconsolidation loan borrowers
could help explain why a smaller portion of nonconsolidation loans had
repayment periods of more than 10 years. For example, under FDLP, many
of the repayment plans that allow the extension of repayment periods
require a minimum loan balance of $10,000. The repayment periods for
loan balances over $10,000 usually vary depending on the amount of the
loan, with 30 years being the maximum repayment period for loan
balances of $60,000 or more. Since our analysis indicates that
nonconsolidation loan borrowers had an average loan debt of $9,587,
these borrowers would not qualify for extended repayment periods.
However, even when consolidation loan borrowers had the option to
extend their repayment term, nearly 4-in-10 (37 percent) of the
consolidation loans in our sample had a standard 10-year repayment
period (see fig. 2).
Figure 2: Repayment Periods of Consolidation Loans Compared with
Nonconsolidation Loans Originating from January 1987 to November 2002:
[See PDF for image]
[End of figure]
Consolidation Borrowers Were Less Likely to Attend Proprietary Schools
and More Likely to Have Borrowed While Attending Graduate/Professional
School:
Consolidation loan borrowers were less likely than nonconsolidation
loan borrowers to have attended a proprietary (or, for-profit) school.
Additionally, borrowers with consolidation loans were somewhat more
likely to have attended public or private/nonprofit schools than were
nonconsolidation borrowers. Overall, 80 percent of consolidation
borrowers attended public or private/nonprofit schools and 74 percent
of nonconsolidation borrowers attended a public or private/nonprofit
school (see fig. 3).
Figure 3: Type of School Attended by Consolidation Loan Borrowers
Compared with Nonconsolidation Borrowers Originating Loans, January
1987 to November 2002:
[See PDF for image]
[End of figure]
Although both consolidation and nonconsolidation loan borrowers tended
to borrow prior to graduate/professional school, our analysis indicates
that consolidation loan borrowers were more likely than
nonconsolidation borrowers to have taken out a student loan while
attending graduate/professional school. About 28 percent of
consolidation loan borrowers borrowed while they were in graduate/
professional school compared with 12 percent of nonconsolidation loan
borrowers (see fig. 4).
Figure 4: Percentage of Consolidation Loan Borrowers Who Borrowed for
Graduate/Professional School Compared with Nonconsolidation Borrowers
Originating Loans, January 1987 to November 2002:
[See PDF for image]
[End of figure]
Consolidation Borrowers Had More Loans and Borrowed from More Lenders:
Prior to consolidating their loans, consolidation loan borrowers
averaged more loans from more lenders than nonconsolidation loan
borrowers. Consolidation loan borrowers had taken out an average of
about six loans each, nearly twice the average number for
nonconsolidation borrowers (see fig. 5). Furthermore, consolidation
loan borrowers were more likely to have borrowed from more than one
lender. Prior to consolidation, 28 percent of consolidation loan
borrowers had loans from three or more lenders compared with 9 percent
for nonconsolidation borrowers (see table 2).
Figure 5: Average Number of Loans of Consolidation Loan Borrowers
Compared with Nonconsolidation Borrowers Originating Loans, January
1987 to November 2002:
[See PDF for image]
[End of figure]
Table 2: Number of Lenders of Consolidation Borrowers Compared to
Nonconsolidation Borrowers Originating Loans, January 1987 to November
2002:
Number of lenders: 1; Consolidation borrowers: 37%; Nonconsolidation
borrowers: 69%.
Number of lenders: 2; Consolidation borrowers: 35%; Nonconsolidation
borrowers: 22%.
Number of lenders: 3 or more; Consolidation borrowers: 28%;
Nonconsolidation borrowers: 9%.
Number of lenders: Total; Consolidation borrowers: 100%;
Nonconsolidation borrowers: 100%.
Source: GAO analysis of NSLDS data.
[End of table]
Consolidation Borrowers Defaulted Less Often:
Fewer consolidation loan borrowers in our sample had defaulted on their
consolidation loans than nonconsolidation borrowers had defaulted on
their loans. The overall default rate for consolidation loan borrowers
who had defaulted on their consolidation loans was about 8 percent
compared with the overall default rate of 23 percent for
nonconsolidation borrowers (see fig. 6).
Figure 6: Percentage of Consolidation Borrowers Who Defaulted on
Consolidation Loans Compared with Nonconsolidation Borrowers Who
Defaulted on Loans, January 1987 to November 2002:
[See PDF for image]
[End of figure]
Some consolidation loan borrowers had defaulted on a student loan prior
to obtaining their consolidation loan and then subsequently defaulted
on their consolidation loan as well. About one-fifth (19 percent) of
consolidation loan borrowers had, in fact, defaulted on a loan before
they obtained a consolidation loan; of these borrowers, about 23
percent subsequently defaulted on their consolidation loans. Of the
approximately four-fifths (81 percent) of consolidation loan borrowers
that had never defaulted on a student loan prior to obtaining a
consolidation loan, about 5 percent defaulted on their consolidation
loan.
Interest Rates and Increased Loan Volumes Have Increased Federal Costs:
Although recent trends in interest rates and consolidation loan volumes
have affected the FFELP and FDLP consolidation programs in somewhat
different ways, the net effect has been an increase in estimated
subsidy and administration costs for loans made in fiscal year 2003 as
compared with loans made in fiscal year 2002. In FFELP, estimated
subsidy costs rose from $1.3 billion for loans made in fiscal year 2002
to nearly $3 billion for loans made in fiscal year 2003. These
estimated subsidy costs are affected by the amount the federal
government must pay to lenders to guarantee them a statutorily
established rate of return, which fluctuates over time as interest
rates rise and fall. Increased FFELP consolidation loan volume in 2003
also raised costs. For FDLP consolidation loans, the margin of
difference narrowed between the interest rate that Education earned
from borrowers and the rate that Education paid to the Treasury to
finance direct loans. As a result of this smaller difference, as well
as an expected decrease in demand for FDLP consolidation loans compared
to prior years, the estimated net interest gain to the government
dropped from $460 million in fiscal year 2002 to $286 million in fiscal
year 2003. The movement of subsidy costs for loans made in future years
will depend heavily on what happens to interest rates and loan volumes.
Administration costs are not specifically tracked for either loan
program, but available evidence indicates that these costs have also
risen.
Borrowers' Rates Have Dropped and Loan Volumes Have Risen:
Recent years have seen dramatic growth in loan volume for both
consolidation loan programs, along with an overall drop in interest
rates for borrowers that correspond to the overall decline in interest
rates. From fiscal year 1998 through fiscal year 2002, the volume of
consolidation loans made (or "originated") rose from $5.8 billion to
over $31 billion. Of the over $31 billion in consolidation loan volume
for fiscal year 2002, $22.7 billion was in the FFELP and $8.8 billion
was in the FDLP. While FDLP consolidation loan volume for fiscal year
2003 is expected to decrease, FFELP loan volume is expected to
increase, resulting in a total consolidation loan volume of over $36
billion for the year. The dramatic growth in consolidation loan volume
in recent years is due in part to declining interest rates that have
made it attractive for many borrowers to consolidate their variable
rate student loans at a low, fixed rate. From July 2000 to June 2003,
the minimum fixed interest rate for consolidation loans dropped 4
percentage points, with consolidation loan borrowers currently
obtaining rates as low as 3.50 percent in the year beginning July 1,
2003. Figure 7 shows the relationship between these two factors. Under
these conditions, some borrowers may find it in their economic self-
interest to consolidate their loans so that they can lock in a low
fixed interest rate for the life of the loan, as opposed to paying
variable rates on their existing loans, regardless of whether they need
a consolidation loan to avoid difficulty in making loan repayments.
Figure 7: Consolidation loan volume increased as borrower interest
rates fell:
[See PDF for image]
[End of figure]
Underscoring the potential attractiveness of these loans to potential
borrowers, many lenders, including newer loan companies that are
specializing in consolidation loans, are aggressively marketing
consolidation loans to compete for consolidation loan business as well
as to retain the loans of their current customers. Their marketing
techniques have included mass mailings, telemarketing, and Internet
pop-ups to encourage borrowers to consolidate their loans. This
increased marketing effort has likely contributed to the record level
of consolidation loan volume.
Effect on Subsidy Costs Varies between Programs:
Overall estimated subsidy costs for consolidation loans made in fiscal
year 2003 were greater than for consolidation loans made in fiscal year
2002. In light of the differences between how the FFELP and FDLP
operate, however, the costs of these two programs were affected in very
different ways. For FFELP, the result was a substantial increase in
estimated subsidy costs. For FDLP, the result was a narrowing of the
net difference between the estimated interest payments paid by
consolidated loan borrowers to Education and the costs paid by
Education to Treasury to finance direct loans.
Increased Special Allowance Payments to Lenders and Increased Loan
Volume Caused FFELP Subsidy Costs to Rise:
Estimated subsidy costs for FFELP consolidation loans are expected to
increase from $1.3 billion for loans made in fiscal year 2002 to almost
$3 billion for loans made in fiscal year 2003. While part of the
increase is the result of greater loan volume, the increase is
primarily due to the higher interest subsidies the government is
expected to pay to lenders to ensure they receive a guaranteed rate of
return on student loans.
The interest subsidy, which is called a special allowance payment
(SAP), is based on a formula specified in law and paid by Education to
lenders on a quarterly basis when the "guaranteed lender yield" exceeds
the borrower rate. This guaranteed lender yield is currently based on
the average 3-month commercial paper[Footnote 11] interest rate plus an
additional 2.64 percent. The amount of the quarterly SAP paid to loan
holders equals the difference between the guaranteed lender yield and
the borrower rate divided by four and multiplied by the average unpaid
principal balance of all loans the lender holds. If the borrower's
interest rate exceeds the guaranteed lender yield, Education does not
pay a SAP, and the lender receives the borrower rate.
Education's estimate of nearly $3 billion in subsidy costs for FFELP
consolidation loans made in fiscal year 2003 is based on the assumption
that the guaranteed lender yield will rise over the next several years,
reflecting Education's assumption that market interest rates are likely
to rise from the historically low levels experienced in fiscal year
2003. In figure 8, the bottom line shows the fixed borrower rate for a
FFELP consolidation loan made in the first 9 months of fiscal year
2003, while the top line shows Education's estimated values for the
guaranteed lender yield over time. In fiscal year 2003, market interest
rates were such that the guaranteed lender yield established under the
SAP formula was actually below the borrower rate. Lenders would
therefore receive only the rate paid by borrowers; no SAP would be
paid. However, in future years, when the guaranteed lender yield is
expected to increase and be above the borrower rate, Education would
have to make up the difference in the form of a SAP. As the figure
shows, Education's assumptions would call for lenders to receive a SAP
over most of the life of the consolidation loans made in fiscal year
2003.
Figure 8: Illustration of Estimated SAP Paid to Holders of FFELP
Consolidation Loans Originated in Fiscal Year 2003:
[See PDF for image]
[End of figure]
[A] The estimated lender yield, which is based on the average 3-month
commercial paper rates, as provided by the Office and Management and
Budget (OMB), does not vary much after fiscal year 2007 since the
projected commercial paper rates do not vary much after fiscal year
2007. The actual lender yield could vary from these projections
depending on future interest rates.
[B] This borrower rate is for a consolidation loan originated from
October to June of fiscal year 2003 and whose underlying loans are
Stafford loans disbursed after July1,1998, and in repayment at time of
consolidation.
In point of fact, Education is required to revise these estimates
periodically to adjust for changing assumptions about interest rates
and loan performance. Subsidy costs estimates for FFELP consolidation
loans can vary substantially, depending on how much the guaranteed
lender yield rises above the fixed rate paid by borrowers. Education is
required to account for such changes in subsidy cost estimates by
annually updating, or "reestimating," loan program costs, in accordance
with OMB budget guidance.[Footnote 12] Any increase or decrease in the
subsidy cost estimates resulting from reestimates is reflected in
future program budget estimates as appropriate and Education's end of
the fiscal year financial statements whenever the reestimated amount is
significant. Thus, Education's estimates for both fiscal year 2002
loans and fiscal year 2003 loans are subject to change in the future.
An increase in loan volume also played a role in the subsidy cost
increase from fiscal years 2002 to 2003, but to a lesser degree than
the higher interest subsidies the government is expected to pay to
lenders. On their own, loan volumes can increase subsidy amounts. To
illustrate, estimated subsidy costs can be converted into subsidy
rates, reflecting the estimated unit cost per loan dollar to the
federal government. For example, a $1,000 loan with a federal subsidy
cost of $100 would have a subsidy rate of 10 percent. The subsidy rate
for FFELP consolidation loans made in fiscal year 2002 was
approximately 5.9 percent. Given a fiscal year 2002 FFELP consolidation
loan volume of about $22.7 billion, and a subsidy rate of 5.9 percent,
federal subsidy costs can be determined by multiplying the loan volume
by the subsidy rate ($22.7 billion X 0.059 = $1.3 billion). Viewed in
this way, it is clear that even if the subsidy rate remained the same
from fiscal year 2002 to 2003, the larger expected FFELP consolidation
loan volume of $30.5 billion in fiscal year 2003 would have increased
total subsidy costs to $1.8 billion (i.e., $30.5 billion X 0.059 = $1.8
billion), an increase of $0.5 billion from fiscal year 2002. However,
the higher interest subsidies the government is expected to pay to
lenders, as previously discussed, also increased the subsidy rate for
FFELP consolidation loans made in fiscal year 2003. This rate--9.8
percent--coupled with the estimated loan volume of $30.5 billion,
resulted in the total FFELP consolidation loan subsidy costs of about
$3 billion ($30.5 billion X 0.098).
Changing Interest Rates Also Affected FDLP Consolidation Loans:
Subsidy costs can occur within FDLP as well, but in a different way.
The FDLP consolidation program is a direct loan program and therefore
involves no guaranteed yields to private lenders. Still, the program
has potential subsidy costs determined in part by the relationship
between interest rates Education earns from borrowers--the borrower
rate and the rate Education pays Treasury to finance its lending. The
government's cost of capital is determined by the interest rate
Education pays Treasury to finance direct student loans, which is
equivalent to the discount rate.[Footnote 13] The difference between
borrowers' rates and the discount rate--called the interest rate
spread--is a key driver of subsidy estimates for FDLP loans. When the
borrower rate is greater than the discount rate, Education will receive
more interest from borrowers than it will pay in interest to Treasury
to finance its loans, resulting in a positive interest rate spread--or
a gain (excluding administrative costs) to the government. Conversely,
when the borrower rate is less than the discount rate, Education will
pay more in interest to Treasury than it will receive from borrowers,
which will result in a negative interest rate spread--or a cost to the
government.
For FDLP consolidation loans made in fiscal years 2002 and 2003, no
such negative interest rate spreads were incurred in either year, based
on the methodology Education uses to determine these costs. In both
years, borrower interest rates for FDLP consolidation loans were
somewhat higher than the discount rate, resulting in a net gain to the
government. However, while Education continued to benefit from lending
at interest rates higher than its cost of borrowing for FDLP
consolidation loans made in fiscal year 2003, the size of this benefit
is expected to decline from $460 million in fiscal year 2002 to $286
million in fiscal year 2003.[Footnote 14]
The smaller net gain that is expected to occur in fiscal year 2003
reflects a narrowed difference between the discount rate and the
borrower rate. In fiscal year 2003, this difference narrowed in part
because borrower rates dropped more than the discount rate. The
borrower rates for FDLP consolidation loans dropped 2 percentage
points, from 6 percent in fiscal year 2002 to 4 percent in fiscal year
2003. The discount rate, on the other hand, dropped by only 0.95
percentage points. The resulting interest rate spread decreased from
1.1 percent to 0.05 percent (see table 3). In other words, each $100 of
consolidated FDLP loans made in fiscal year 2002, will result in $1.10
more in interest received by Education than it will pay out in interest
to the Treasury. A similar loan originated in fiscal year 2003,
however, will generate only $0.05 more in interest for the government.
Table 3: Interest Rate Spread for FDLP Consolidation Loans Originated
in Fiscal Years 2002 and 2003:
Fiscal year: 2002; Borrower rate: 6.0%; Discount rate: 4.90%; Interest
rate spread: 1.1%; Estimated interest payments for each $100 of loans:
1.1% x $100 = $1.10.
Fiscal year: 2003; Borrower rate: 4.0%; Discount rate: 3.95%; Interest
rate spread: 0.05%; Estimated interest payments for each $100 of loans:
0.05% x $100 = $0.05.
Source: GAO analysis of Education's Budget Service data.
Note: The discount rate of 3.95 percent is an estimated discount rate
on August 18, 2003. The actual discount rate for fiscal year 2003 may
be higher or lower, which would reduce or increase the interest rate
spread for fiscal year 2003.
[End of table]
While Education revises estimates periodically to adjust for changing
assumptions about future interest rates for FFELP consolidation loans,
the borrower rate and the discount rate used to derive the subsidy cost
for FDLP consolidation loans made in fiscal year 2003 are generally
fixed for the life of the loans. As a result, the subsidy cost of FDLP
consolidation loans made in any given fiscal year do not vary in the
way that subsidy costs for FFELP consolidation loans do.[Footnote 15]
Loan volume also played a role in the smaller net gain that occurred in
fiscal year 2003. While FDLP consolidation loan volume increased from
about $5.4 billion in fiscal year 2000 to about $8.8 billion in fiscal
year 2002, Education estimated a decrease in demand for FDLP
consolidation loans for 2003, expecting volume to be about $6
billion.[Footnote 16] The unit cost per loan dollar, or subsidy rate,
for FDLP consolidation loans made in fiscal year 2002 was a negative
5.2 percent, which resulted in a negative subsidy[Footnote 17]--that
is, a "gain"--to the government of $0.052 for each dollar lent
(excluding administrative costs). As previously discussed, the
difference between the discount rate and the borrower rate narrowed
from fiscal year 2002 to fiscal year 2003, which contributed to the
increased subsidy rate from a negative 5.2 percent to a negative 4.8
percent, resulting in a smaller gain, per loan dollar, to the
government. Had the subsidy rate remained the same from fiscal year
2002 to fiscal year 2003, the decrease in FDLP consolidation loan
volume would have resulted in a reduced gain to the government of about
$147 million. The subsidy rate increase from fiscal year 2002 to fiscal
year 2003, however, coupled with reduced loan volume, resulted in a
reduced gain of $174 million.
Subsidy Costs Are Sensitive to Interest Rate Changes:
As the discussion of both FFELP and FDLP loans shows, interest rates
have a strong effect on whether subsidy costs occur and how large they
are. As a measure of how great an effect different interest rate
assumptions can have, we asked Education to conduct two additional sets
of calculations for fiscal year 2002 FFELP and FDLP consolidation
loans. Using the same loan volume and other assumptions of the fiscal
year 2002 estimates, Education applied the interest rate assumptions
that were used to develop the estimates for the fiscal year 2001 and
2003 consolidation loans. These assumptions differed from those in
place in fiscal year 2002, as well as from each other. In general, the
interest rate assumptions for fiscal year 2001 were higher than the
assumptions used in fiscal year 2002, and future interest rates were
expected to decrease. The interest rate assumptions for fiscal year
2003, on the other hand, were generally lower than the assumptions used
in fiscal year 2002, and future interest rates were expected to
increase.
Calculating subsidy estimates under these three different sets of
interest rate assumptions produced substantially different results. As
figure 9 shows, the results of this analysis indicated that for FFELP
consolidation loans, the fiscal year 2001 interest rate assumptions
would result in estimated subsidy costs totaling $129 million, or about
$1 billion less than the estimated subsidy costs under the actual
fiscal year 2002 estimates. In contrast, the fiscal year 2003 interest
rate assumptions resulted in estimated subsidy costs totaling $2.4
billion, an increase of more than $1.2 billion in subsidy costs, even
though the estimate was calculated across the same volume of loans. For
FDLP consolidation loans, the analysis indicated that a greater
interest rate spread between the discount rate and the borrower rate
for the fiscal year 2001 interest rate assumptions, resulted in a net
gain to the government totaling about $645 million or about $264
million more than the gain under the actual fiscal year 2002 estimates.
In contrast, the fiscal year 2003 interest rate assumptions resulted in
an estimated subsidy cost to the government totaling about $370
million, a change of about $751 million. This increase is primarily due
to the negative interest rate spread in which the borrower rate used in
fiscal year 2003 was less than the discount rate used in the fiscal
year 2003 interest rate assumptions.
Figure 9: Illustration of Net Subsidy Costs to the Federal Government
for Consolidation Loans Made in Fiscal Year 2002 Using Three Different
Sets of Interest Rate Assumptions:
[See PDF for image]
Note: Results were obtained by applying Education's interest rate
assumptions for fiscal years 2001, 2002, and 2003 to the 2002
consolidation loans. Negative subsidy costs for FDLP using fiscal years
2001 and 2002 rates represent a net gain for the federal government.
[End of figure]
Administration Costs Also Increase, but Mainly Because of Loan Volume:
Loan volume affects administrative costs, in that cost is in part a
function of the number of loans originated and serviced during the
year. As a result, when loan volume increases, administration costs
also increase. Education's current cost accounting system does not
specifically track administration costs incurred by each of the student
loan programs. Consequently, we were unable to determine the total
administration costs incurred by consolidation loan programs or any
off-setting administrative cost reductions associated with the
prepayment of loans underlying consolidation loans. However, based on
available Education data, we were able to determine some of the direct
costs associated with the origination, servicing and collection of FDLP
consolidation loans. For fiscal year 2002, these costs totaled roughly
$52.3 million. This total includes approximately $31 million for loan
origination, $19 million for loan servicing, and $3 million for loan
collection. The $52.3 million does not include overhead costs, which
include such expenses as personnel, rent, travel, training, and other
activities related to maintaining program operations. For fiscal year
2003, the estimated costs for the origination, servicing, and
collection of FDLP consolidation loans is projected to increase by
about $7 million to $59.5 million.
While we similarly were unable to determine Education's administration
costs directly related to FFELP consolidation loans, they are likely to
be smaller than for FDLP consolidation loans. This is because under
FFELP, a large portion of administration cost is borne directly by
lenders, who make and service the loans. The special allowance payments
to lenders, which rise and fall as interest rates change are designed
to ensure that lenders are compensated for administration and other
costs, and provided with a reasonable return on their investment so
that they will continue to participate in the program.
Repayment Options Other Than Consolidation Loans That Allow Borrowers
to Simplify Loan Repayments and Reduce Repayment Amounts Exist, but
Borrowers' Use of These Options Is Limited by Several Factors:
Repayment options, other than consolidation loans, that allow borrowers
to simplify loan repayment and reduce repayment amounts are now
available to some borrowers under both FFELP and FDLP, but these
alternatives are not available to all borrowers. Since consolidation
loans were first offered to borrowers, Congress has changed student
loan programs in ways that provide borrowers with these loan repayment
options. These options include provisions for combining multiple loan
payments into one and for restructuring the repayment terms or
lengthening the repayment period in order to lower monthly repayment
amounts. However, these options are limited, in some cases, to
borrowers who have loans with one lender, or whose loan balances meet
certain criteria. These options also differ from the consolidation loan
program in that they carry a variable borrower interest rate, while
consolidation loans allow borrowers to lock in a fixed interest rate.
In today's environment, with current low interest rates that are
expected to rise over time, the ability to lock in a low fixed rate may
affect many borrowers' decisions about which approach to take.
Borrowers' choices of whether to use consolidation loans or these other
options have a budgetary effect for the federal government. Proposed
legislation has been introduced in the 108th Congress that, among other
things, would replace the fixed borrower interest rate for
consolidation loans with a variable interest rate.
Flexible Repayment Options Similar to Consolidation Are Available to
Some Borrowers:
Other options, outside of consolidation, now exist for some borrowers
to make single payments on multiple loans and reduce their payment
amounts--options that were unavailable when Congress first introduced
consolidation loans under the FFELP. For example, when Congress created
the FDLP in 1993, Education provided FDLP borrowers with the ability to
combine payments on multiple FDLP loans into a single payment.
Similarly, in 1999, Education promulgated regulations requiring FFELP
lenders to combine all of a borrower's FFELP loans into a single
account to be repaid under a single repayment schedule. Furthermore,
Congress has provided borrowers with a number of repayment plans that
give certain FFELP and FDLP borrowers who do not consolidate their
loans flexibility to reduce monthly payment amounts in a variety of
ways. For example, "graduated" and "income-sensitive" repayment plans
introduced in 1992, allow borrowers to make smaller payments early in a
repayment period, followed by larger payments in future years. (These
plans assume that a borrower's income will increase over the repayment
period.) While borrowers who use the FFELP graduated and income-
sensitive repayment plans must generally repay their loans over a 10-
year period, another repayment plan--"extended"--allows certain FFELP
borrowers to lengthen their repayment terms up to 25 years, thus
reducing monthly repayment amounts. Under FDLP, borrowers have similar
repayment options, plus additional flexibility to repay loans over
longer periods, outside of consolidation. Table 4 summarizes the
repayment plans available to borrowers under FFELP and FDLP.
Table 4: Description of Borrower Repayment Plans:
FFELP repayment plans: Standard; FFELP repayment plans: Borrowers make
fixed monthly payments of at least $50 for up to 10 years.[A];
FDLP repayment plans: Standard; FDLP repayment plans: Borrowers make
fixed monthly payments of at least $50 for up to 10 years.[A].
FFELP repayment plans: Graduated; FFELP repayment plans: Borrowers make
smaller payments early in a repayment period, and larger payments
later, within certain limits (no repayment can be more than three times
greater than any other). Repayment must occur within 10 years;
FDLP repayment plans: Graduated; FDLP repayment plans:
Borrowers make fixed monthly repayments at two or more levels (usually
a lower amount for the early years of repayment and a larger amount in
the later years) over a period of time that varies with the size of the
loan and is the same as for the FDLP extended repayment plan (see
below). Borrowers' payments may not be less than the interest due or
less than 50 percent, or more than 150 percent, of the monthly
repayment required under the standard plan.
FFELP repayment plans: Extended; FFELP repayment plans: Borrowers make
fixed or graduated monthly repayments of at least $50 for a period of
time that varies depending on the amount of the loan. Repayment must
occur within 25 years. Extended repayment is limited to new borrowers
on or after October 7, 1998, who accumulate (after such date)
outstanding loans totaling more than $30,000; FDLP repayment
plans: Extended; FDLP repayment plans: Borrowers make fixed monthly
repayments of at least $50 for a period of time that varies depending
on the amount of the loan:
Amount:
Less than $10,000: 12 years;
$10,000 to $19,999: 15 years;
$20,000 to $39,999: 20 years;
$40,000 to $59,999: 25 years;
$60,000 or more: 30 years.
FFELP repayment plans: Income-sensitive; FFELP repayment plans:
Borrowers' payment amounts may be adjusted annually to reflect changes
in a borrower's income. Repayment plan is limited in the amount of
adjustment that can be made by statutory requirements that the loan be
repaid within the 10-year maximum and that monthly repayments are, at a
minimum, sufficient to cover interest.[B]; FDLP repayment
plans: Income-contingent; FDLP repayment plans: Borrowers' payment
amounts are based on the total amount of the borrower's loan, income,
and family size for a period up to 25 years. Under this repayment plan,
borrowers repay based on annual income for up to 25 years with any
remaining amount owed on the loan discharged at that time.
Sources: HEA, Congressional Research Service, and Education.
[A] Because of the variable interest rate for nonconsolidation loans,
the loan holder may adjust either the size of the monthly repayment or
the length of the repayment period annually. If the change in interest
rates would result in a borrower being unable to complete repayment
within the 10-year maximum, the loan holder may provide administrative
forbearance for a maximum of 3 years (effectively extending the
repayment period).
[B] FFELP regulations allow lenders some flexibility to extend
repayment up to 15 years through "administrative forbearance" to
accommodate the variable interest rates and sensitivity to very low
incomes under this repayment plan.
[End of table]
Consolidation loan borrowers, like other FFELP and FDLP borrowers, may
choose among the four repayment plans offered under the programs.
Borrowers who consolidate under FFELP may--in addition to flexibility
offered by the repayment plans--extend their repayment periods up to 30
years by choosing a standard, graduated, or income-sensitive repayment
plan. Extending repayment periods, in general, will lower borrowers'
monthly repayment amount. Table 5 compares the repayment periods
allowed by FFELP under consolidation with those allowed under
nonconsolidation.
Table 5: Comparison of Repayment Periods for FFELP Consolidation and
Nonconsolidation Loans, by Repayment Plan:
Standard; Maximum repayment period for nonconsolidation loans: Up to 10
years; Maximum repayment period for consolidation loans: 10-30 years
depending on outstanding balance of loans:
Amount: Less than $7,500: Maximum period: 10 years;
Amount: $7,500 to $9,999: Maximum period: 12 years;
Amount: $10,000 to $$19,999: Maximum period: 15 years;
Amount: $20,000 to $39,999: Maximum period: 20 years;
Amount: $40,000 to $59,999: Maximum period: 25 years;
Amount: $60,000 or more: Maximum period: 30 years;
Graduated; Maximum repayment period for nonconsolidation loans: Up to
10 years; Maximum repayment period for consolidation loans: 10-30 years
depending on outstanding balance of loans (see above).
Income-sensitive; Maximum repayment period for nonconsolidation loans:
Up to 10 years; Maximum repayment period for consolidation loans: 10-30
years depending on outstanding balance of loans (see above).
Extended[A]; Maximum repayment period for nonconsolidation loans: Up to
25 years; Maximum repayment period for consolidation loans: Up to 25
years.
Sources: HEA, Congressional Research Service, and Education.
[A] Limited to borrowers who accumulate after October 7, 1998,
outstanding loans totaling more than $30,000.
[End of table]
Compared with FFELP borrowers, FDLP borrowers have more flexibility to
extend the repayment periods for FDLP loans without obtaining a
consolidation loan. Under the graduated and extended repayment plans,
for example, FDLP borrowers may obtain a repayment period of up to 30
years, regardless of whether they choose a consolidation loan or
nonconsolidation option. Table 6 shows the repayment periods available
for FDLP borrowers.
Table 6: Repayment Periods for FDLP Consolidation and Nonconsolidation
Loans, by Repayment Plan:
Standard; Maximum repayment period: Up to 10 years.
Graduated; Maximum repayment period: 12-30 years depending on loan
amount:
Amount: Less than $10,000: Maximum period: 12 years;
Amount: $10,000 to $19,999: Maximum period: 15 years;
Amount: $20,000 to $39,999: Maximum period: 20 years;
Amount: $40,000 to $59,999: Maximum period: 25 years;
Amount: $60,000 or more: Maximum period: 30 years.
Extended; Maximum repayment period: 12-30 years depending on loan
amount (see above).
Income-contingent; Maximum repayment period: Up to 25 years.
Sources: HEA, Congressional Research Service, and Education.
[End of table]
While the options, outside of consolidation, allow some borrowers to
make single repayments on multiple loans and reduce their monthly
repayment amounts--thus achieving ends similar to consolidation loans-
-not all borrowers can take advantage of these flexibilities. First,
borrowers who obtained FFELP loans from multiple lenders are still
faced with making multiple loan payments because lenders are only
required to combine borrowers' repayments on the loans they make.
Second, borrowers may be required to meet certain eligibility criteria-
-such as accumulating loans exceeding specified thresholds--to qualify
for extended repayment periods. Finally, borrowers who obtained loans
under multiple programs--FFELP, FDLP, or other programs--are also faced
with multiple payments and may or may not be able to obtain lower
monthly repayment amounts. Table 7 compares the extent to which
borrowers can combine multiple loan payments into one, lower monthly
repayment amounts, and extend repayment periods under consolidation and
nonconsolidation options.
Table 7: Comparison of Borrowers' Options under Consolidation and
Nonconsolidation Loans:
Composition of borrower's loans: Consolidation loans:
Composition of borrower's loans: FFELP; Able to reduce to single
payment? Yes; Able to adjust monthly payments through graduated or
income-based approaches? Yes; Able to extend the repayment period?
Yes for all borrowers, with length of period dependent on loan
balance.
Composition of borrower's loans: FDLP; Able to reduce to single
payment? Yes; Able to adjust monthly payments through graduated or
income-based approaches? Yes; Able to extend the repayment period?
Yes for all borrowers, with length of period dependent on loan
balance.
Composition of borrower's loans: Combination of FFELP and FDLP and/or
other loans[A]; Able to reduce to single payment? Yes; Able to adjust
monthly payments through graduated or income-based approaches? Yes;
Able to extend the repayment period? Yes for all borrowers, with
length of period dependent on loan balance.
Composition of borrower's loans: Nonconsolidation loans:
Composition of borrower's loans: FFELP loans from a single lender; Able
to reduce to single payment? Yes; Able to adjust monthly payments
through graduated or income-based approaches? Yes; Able to extend the
repayment period? Yes, but only for borrowers with loans totaling more
than $30,000.
Composition of borrower's loans: FFELP loans from multiple lenders;
Able to reduce to single payment? No; Able to adjust monthly payments
through graduated or income-based approaches? Yes; Able to extend the
repayment period? Yes, but only for borrowers with loans totaling more
than $30,000.
Composition of borrower's loans: FDLP loans; Able to reduce to single
payment? Yes; Able to adjust monthly payments through graduated or
income-based approaches? Yes; Able to extend the repayment period?
Yes for all borrowers, with length of period dependent on loan
balance.
Composition of borrower's loans: Combination of FFELP and FDLP and/or
other loans[A]; Able to reduce to single payment? No; Able to adjust
monthly payments through graduated or income-based approaches? Varies
by type of loan; Able to extend the repayment period? Varies by type
of loan.
Source: GAO analysis.
[A] Other federal student loans eligible for inclusion in a
consolidation loan include Perkins loans, Health Professions Student
loans, HEA loans, and Public Health Service Act Nursing Student Loans.
[End of table]
Available Options Involve Variable Interest Rates, While Consolidation
Offers Currently Attractive Fixed Rate:
Another key difference between consolidation loans and other repayment
options for nonconsolidation loans is that these other options carry a
variable interest rate, while consolidation loans carry a fixed
interest rate for the life of the loan. Depending on prevailing
interest rates and borrowers' expectations about future interest rates,
this difference may affect the decisions that borrowers make regarding
whether to obtain a consolidation loan or use other options to combine
payments, lower payments, and extend repayment periods. When interest
rates are low, as they are now, and are expected to increase in the
future, a consolidation loan that carries a low fixed interest rate may
be more attractive to borrowers because a variable rate may exceed the
fixed rate during most or all of the remaining repayment period, which
could be up to 30 years. However, if rates are expected to decrease in
the future, repayment options that carry a variable rate may be more
attractive, and borrowers may choose other options over consolidation,
hoping to take advantage of lower rates in the future. Since it is
difficult to predict interest rates over a lengthy period, borrowers
need to be aware of all the risks involved before they make their final
decision. Once student loans are consolidated, the interest rate is
fixed for the life of the loan and, under current law, borrowers
generally cannot reconsolidate their existing consolidation loans to
take advantage of lower interest rates. Consequently, borrowers who
chose to consolidate their student loans several years ago--and locked
in what are now high rates relative to what borrowers can now obtain--
are unable to take advantage of the current rate. For example,
borrowers who consolidated between February and June 1999, have a
locked rate of 8.25 percent.[Footnote 18] Borrowers who elected to
consolidate between July 2002 and June 2003 received a rate of 4
percent, and for 2004, the rate is expected to be about 3.5 percent.
Borrowers' Choices between Fixed or Variable Rate Alternatives Affect
Federal Costs:
The choices that borrowers ultimately make will have consequences for
federal costs. As previously discussed, federal costs for FFELP
consolidation loans have recently increased because of the greater
difference between borrowers' fixed low interest rate and the variable
rate guaranteed to lenders, which is expected to increase in the
future. In this situation, were borrowers to choose an alternative
option, costs to the federal government would likely be less because a
variable borrower rate would increase along with the variable rate
guaranteed to lenders and the difference between the two rates would be
less. This decreased difference would result in decreased FFELP federal
subsidy costs. If circumstances were different, however, federal
subsidy costs could increase. For example, if borrowers obtained a
consolidation loan with a fixed interest rate at a time when rates were
expected to decrease in the future, federal subsidy costs would be
lower, than is currently the case, because the borrower rate would
likely exceed the rate guaranteed to lenders, and the federal
government would not be required to pay a SAP. In such situations, if
borrowers were to choose an alternative option with variable borrower
rates, federal subsidy costs could increase because the borrower rate
would decline along with the variable rate guaranteed to lenders. In
this case, the decreased difference could result in increased FFELP
federal subsidy costs, if SAP payments became necessary.
Borrowers' choices between fixed and variable rate loans and among
repayment periods also affect costs to the federal government
associated with FDLP loans. A significant driver of FDLP costs, as
previously discussed, is the difference between the discount rate and
the borrower rate. In general, higher borrower rates will result in
Education receiving larger interest payments from borrowers, thus
decreasing federal costs. Allowing borrowers to lock in a low fixed
rate might result in decreased federal revenues if the variable
interest rates on those loans borrowers converted to a consolidation
loan would have otherwise increased in the future. For both programs,
federal costs are also affected by the repayment period chosen by
borrowers. For example, longer FFELP repayment periods can result in
the federal government making special allowance payments to lenders
over a longer period of time. For FDLP, longer repayment periods can
increase the amount of interest borrowers pay to Education on their
loans and increase the amount of interest paid by Education on the
amounts borrowed from Treasury.
Proposed Legislation Concerning Consolidation Loans Could Affect
Federal Costs:
Proposed legislation has been introduced in the 108th Congress that,
among other things, would replace the fixed borrower interest rate for
consolidation loans with a variable interest rate, which will affect
federal costs associated with consolidation loans. In particular, the
Student Loan Fairness Consolidation Act of 2003 (H.R. 2504) would
eliminate provisions that prevent borrowers who previously obtained a
consolidation loan from obtaining a new consolidation loan and replace
the current fixed borrower rate with a variable borrower rate for
borrowers who refinance their existing consolidation loans as well as
for new consolidation loan borrowers. [Footnote 19] For example,
borrowers who obtained a consolidation loan in the past and are paying
higher rates of interest would be provided the opportunity to obtain a
new consolidation loan at current (lower) borrower interest rates. In
addition, in "re-consolidating" their loans, the proposed legislation
would replace the current fixed borrower rate with a variable borrower
rate. If enacted, the proposed legislation would affect federal costs
due to the refinancing of previous consolidation loans and the change
from fixed to variable borrower interest rates.
Conclusion:
Although additional options to consolidation are now available that
give some FFELP and FDLP borrowers opportunities to simplify loan
repayment and reduce repayments to more manageable levels, not all
borrowers qualify. As a result, many borrowers may find that
consolidation loans remain the only option for combining loans and
lowering their monthly repayments. While consolidation loans may thus
remain an important tool to help borrowers manage their educational
debt and thus reduce the cost of student loan defaults, the surge in
the number of borrowers consolidating their loans suggests that many
borrowers who face little risk of default are choosing consolidation as
a way of obtaining low fixed interest rates--an economically rational
choice on the part of borrowers. If borrowers continue to consolidate
their loans in the current low interest rate environment, and interest
rates rise, the government assumes the cost of larger interest
subsidies for FFELP consolidation loans. Providing for these larger
interest subsidies on behalf of a broad spectrum of borrowers, however,
may outweigh any government savings associated with the reduced costs
of loan defaults for the smaller number of borrowers who might default
in the absence of the repayment flexibility offered by consolidation
loans. For FDLP consolidation loans, allowing borrowers to lock in a
low fixed rate might result in decreased federal revenues if the
variable interest rates on those loans borrowers converted to a
consolidation loan would have otherwise increased in the future. The
exact effects of FDLP consolidation loans, however, depend on a number
of factors, including the length of loan repayment periods, borrower
interest rates, and discount rates. Restructuring the consolidation
loan program to specifically target borrowers who are experiencing
difficulty in managing their student loan debt and at risk of default,
and/or who are unable to simplify and reduce repayment amounts by using
existing alternatives, might reduce overall federal costs by reducing
the volume of consolidation loans made. In addition, making the other
nonconsolidation options more readily available to borrowers might be a
more cost-effective way for the federal government to provide borrowers
with repayment flexibility while reducing federal costs. An assessment
of the advantages of consolidation loans for borrowers and the
government, taking into account program costs and the availability of,
and potential changes to, existing alternatives to consolidation, and
how consolidation loan costs could be distributed among borrowers,
lenders, and the taxpayers, would be useful in making decisions about
how best to manage the consolidation loan program and whether any
changes are warranted.
Recommendation for Executive Action:
We recommend that the Secretary of Education assess the advantages of
consolidation loans for borrowers and the government in light of
program costs and identify options for reducing federal costs. Options
could include targeting the program to borrowers at risk of default,
extending existing consolidation alternatives to more borrowers, and
changing from a fixed to a variable rate the interest charged to
borrowers on consolidation loans. In conducting such an assessment,
Education should also consider how best to distribute program costs
among borrowers, lenders, and the taxpayers and any tradeoffs involved
in the distribution of these costs. If Education determines that
statutory changes are needed to implement more cost-effective repayment
options, it should seek such changes from Congress.
Agency Comments:
We provided a draft of this report to Education for review and comment.
In commenting on the draft, Education agreed with our reported findings
and recommendation, noting that our work will contribute to the policy
discussions related to the reauthorization of the HEA. In addition,
Education noted that it was pleased with our conclusion that
consolidation loans have advantages for borrowers and may help them
avoid default and that improving flexible repayment options for
borrowers would provide several benefits. Education also provided
technical comments, which we incorporated where appropriate.
Education's written comments appear in appendix I.
As agreed with your offices, unless you publicly announce its contents
earlier, we plan no further distribution of this report until 30 days
from its issue date. At that time we will send copies to the Secretary
of Education and other interested parties. We will also make copies
available to others upon request. In addition, the report will be
available at no charge on GAO's Web site at http://www.gao.gov:
If you or your staff have any questions or wish to discuss this
material further, please call me at (202) 512-8403, or Jeff Appel at
(202) 512-9915. Other contacts and staff acknowledgments are listed in
appendix II.
Cornelia M. Ashby:
Director, Education, Workforce, and Income Security Issues:
Signed by Cornelia M. Ashby:
[End of section]
Appendix I: Comments from the Department of Education:
UNITED STATES DEPARTMENT OF EDUCATION:
OFFICE OF POSTSECONDARY EDUCATION:
OCT 27 2003
THE ASSISTANT SECRETARY:
Ms. Cornelia M. Ashby
Director, Education, Workforce, and Income Security Issues
United States General Accounting Office
Washington, DC 20548:
Dear Ms. Ashby:
Thank you for the opportunity to review and comment on your draft
report, Student Loan Programs. As Federal Costs of Loan Consolidation
Rise, Other Options Should Be Examined (GAO-04-101). We appreciate that
you are providing Members of the Congress with a summary of several
complex aspects of student loan consolidation. GAO's work will
contribute to the policy discussions related to the reauthorization of
the Higher Education Act of 1965, as amended (HEA).
We are pleased with your conclusions that loan consolidation has
provided several advantages for borrowers and may have assisted in the
significant improvements in default aversion and significant reductions
in default that we have achieved over the past few years. We agree that
improving the flexible repayment options available to Stafford and PLUS
borrowers in the FFEL program would provide several benefits. As we
review the HEA for the upcoming reauthorization, we will consider this
issue. We also agree with the report's recommendation to assess the
advantages of consolidation loans for borrowers and the government in
light of program costs and identify options for reducing Federal costs.
We appreciate the analysis and GAO's lengthy work on this engagement.
The Department looks forward to working with the education community
and the Congress to develop a reauthorization bill that meets the needs
of our nation's families.
Additional comments on specific sections of the report are contained in
technical comments contained in an e-mail to you. Again, I wish to
thank you and your staff for your work on this engagement and look
forward to continuing to work with you on these and other important
issues.
Sincerely,
Signed by:
Sally L. Stroup:
[End of section]
Appendix II: GAO Contacts and Staff Acknowledgments:
GAO Contacts:
Jeff Appel (202) 512-9915:
Susan Chin (206) 287-4827:
Staff Acknowledgments:
In addition to those named above, Cindy Decker, Ben Jordan, Heather
Macleod, Corinna Nicolaou, Stan Stenersen, Vanessa Taylor, and Marcia
Carlsen made important contributions to this report.
FOOTNOTES
[1] Under FFELP, private lenders make consolidation loans to borrowers,
with Education guaranteeing lenders loan repayment and a rate of return
that is equal to the average 3-month commercial paper rate plus 2.64
percent. As of June 30, 2003, that rate of return was 3.81 percent for
consolidation loans made on or after January 1, 2000. Under FDLP,
Education uses federal funds to make direct student loans.
[2] The Federal Credit Reform Act of 1990 requires Education to
estimate these subsidy costs, using the net present value of cash flows
to do so. Present value is the value today of the future stream of
benefits and costs, discounted using an appropriate interest rate
(generally the average annual interest rate for marketable zero-coupon
U.S. Treasury securities with the same maturity from the date of
disbursement as the cash flow being discounted). The background section
of the report will describe credit reform in more detail.
[3] Under FFELP, a large portion of the administration cost is borne by
the private lender. The federal government pays many of these costs in
its subsidy payment to lenders--more specifically, in the 2.64 percent
add on paid over and above the 3-month rate on commercial paper.
[4] Because we used a sample, there is a sampling error associated with
estimates obtained from them. For a 95 percent confidence interval, all
percentage estimates reported have sampling errors of plus or minus 1
percentage point or less. All reported estimates other than percentages
have sampling errors not exceeding plus or minus 5 percent of the value
of those estimates.
[5] The current loan consolidation provisions were enacted by the
Consolidated Omnibus Budget Reconciliation Act of 1985 (Pub. L . No.
99-272) and later revised by the Higher Education Amendments of 1986
(Pub. L. No. 99-498). The Student Loan Marketing Association (Sallie
Mae) had previously been authorized to make consolidation loans.
[6] State and nonprofit guaranty agencies receive federal funds to play
the lead role in administering many aspects of the FFELP program,
including reimbursing lenders when loans are placed in default and
initiating collection work.
[7] In some cases, according to Education, borrowers' outstanding loan
balances may increase if collections costs assessed borrowers are
included in the amounts being consolidated.
[8] Perkins Loans are fixed rate loans for both undergraduate and
graduate students with exceptional financial need. Perkins loans are
made directly by schools using funds contributed by the federal
government and schools; borrowers must repay these loans to their
school. The Health Professions Student Loans and Nursing Student Loans
are fixed rate loans for borrowers who pursue a course of study in
specified health professions. The HEAL program provided loans to
eligible graduate students in specified health professions. HEAL was
discontinued on September 30, 1998.
[9] Deferment equals a period of time during repayment in which the
borrower, upon meeting certain conditions, is not required to make
payments of loan principal.
[10] NSLDS does not contain information about repayment terms for FFELP
loans.
[11] Commercial paper is short-term, unsecured debt with maturities up
to 270 days. It is issued in the form of promissory notes, primarily by
corporations. Many companies use commercial paper to raise cash for
current transactions, and many find it to be a lower-cost alternative
to bank loans.
[12] To estimate the cost of loan programs, Education first estimates
the future performance of direct and guaranteed loans when preparing
their annual budgets. These first estimates establish the subsidy
estimates for the current-year originated loans. The data used for the
first estimates are reestimated later to reflect any changes in loan
performance and expected changes in future economic performance.
Reestimates are necessary because projections about interest and
default rates and other variables that affect loan program costs change
over time. Any increase or decrease in the estimated subsidy cost
results in a corresponding increase or decrease in the estimated cost
of the loan program for both budgetary and financial statement
purposes.
[13] While the discount rate is the interest rate used to calculate the
present value of the estimated future cash flows to determine subsidy
cost estimates, it is also generally the same rate at which interest is
paid by Education on the amounts borrowed from Treasury to finance the
direct loan program.
[14] The subsidy estimates for consolidation loans made in fiscal year
2003 were developed by Education in August 2003. To account for recent
changes in interest rates, we asked Education to update its estimates
as of August 18, 2003, using a discount rate that we calculated based
on the average of daily Treasury rates for various short-and long-term
maturities during fiscal year 2003. Because our calculation was as of
August 18, 2003, we approximated the Treasury rates through the
remainder of the fiscal year based on the August 18, 2003, rates. At
the end of fiscal year 2003, when OMB determines the actual discount
rates for fiscal year 2003, estimated subsidy costs of the fiscal year
2003 FFELP and FDLP consolidation loans will likely change.
[15] Subsidy cost estimates for consolidation loans made in fiscal year
2003 will be updated when the actual discount rate for the loans made
in fiscal year 2003 is known at the close of fiscal year 2003.
Reestimates for interest rates for FDLP consolidation loans would
generally not occur due to the fixed discount and borrower rates used
for calculating subsidy cost estimates. However, technical reestimates
which are made after the close of each fiscal year to adjust for
changes in assumptions other than interest rates (e.g., defaults,
recoveries, prepayments, and fees), may still occur and could result in
changes to the subsidy cost estimates.
[16] Education's $6 billion estimate was calculated as part of the
2003 Mid-Session Review and based on actual consolidation loan volume
for the first two quarters of fiscal year 2003. Actual volume may
differ. Further, in July 2003, borrower interest rates decreased from
the prior year, which may increase demand for FDLP consolidation loans
during the remainder of fiscal year 2003.
[17] Negative subsidies mean subsidy costs that are less than zero.
They occur if the present value of cash inflows to the government
exceeds the present value of cash outflows.
[18] This assumes that the underlying loans being consolidated were
Stafford loans disbursed between July 1995 and July 1998 and were in
repayment at the time of consolidation.
[19] Other proposed legislation includes the Consolidation Student Loan
Flexibility Act of 2003 (H. R. 942) and the College Loan Assistance Act
of 2003 (H.R. 2505). H.R. 942 would, among other things, eliminate a
requirement that borrowers certify to having sought and been unable to
obtain a consolidation loan from any holders of the outstanding loans
the borrower has selected for consolidation. Like H.R. 2504, H.R. 2505
would, among other things, eliminate provisions that prevent borrowers
who previously obtained a consolidation loan from obtaining a new
consolidation loan.
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