Student loan reforms will make education better for Americans

Across the country, millions of college freshmen have spent the last few weeks starting classes, getting to know roommates and adjusting to dorm life. Now, millions of families are trying to figure out how to pay for it all. They have filled out federal financial aid forms and applied for student loans, tasks that are both time consuming and confusing. Often this complex process leaves families with little to no understanding about just how much debt students are taking on, which can result in borrowing too much. It is hard to blame an 18 year old or the parents when parts of the process make it difficult for borrowers to understand.

Take, for example, the federally required “award letters” colleges send, which blend grants and scholarships that students do not have to pay back with subsidized and unsubsidized loans that students and parents are responsible for repaying with interest. This misnamed letter camouflages the true cost of attending college and can be anything but an “award” to the many students and families who default on these loans, or even those who eventually put off buying a house because of monthly repayments, or delay retirement to pay for the education of their children.

{mosads}Today, about 90 percent of loans made to students and their families are from the federal government, which does not follow the same lending standards required of financial institutions. The federal government holds around $1.4 trillion in student loans on its books and is currently seeing a double digit delinquency and default rate. This is not meant to minimize the crucial role the federal government plays in higher education financing. Federal student aid has provided access to millions of students who would otherwise be unable to afford a college education. It has worked to reduce equity gaps among students from traditionally underserved populations. Pell Grants provide crucial support for low income students, and federal loans allow borrowers to finance college regardless of socioeconomic background. It is also clear, however, that the public role in higher education needs to be reformed.

Key disclosures on federal loans, for example, are not actually given to borrowers until the money is disbursed and students are committed to potentially decades of debt. Private loans, on the other hand, require extensive disclosures that must be provided to borrowers during the application process. A similar transparent process should exist for federal loans. The information should be provided in a simple and effective way that is easy for borrowers to comprehend. Access to this critical information would allow students and parents to clearly evaluate all of their financing options, including grants, scholarships, federal loans, and private loans, when deciding what best fits their needs.

Just as alarming as the high number of defaults on federal student loans is that less than half of new borrowers are able to put a dent in their principal balance within three years of entering repayment. This is in part due to enrollment in income driven repayment plans, which tie monthly payments to earnings, with loan forgiveness after a specified number of years. While these plans are the right fit for some struggling borrowers, they could also prolong repayment and increase overall interest costs for others, while placing taxpayers increasingly on the hook for unpaid debt.

Another problem is the role that generous federal lending policies might play in tuition inflation. Under the current system, federal loans are available to students and their parents up to the total cost of attendance, including tuition and housing, set by the school. This nearly unlimited lending has a direct correlation with affordability. The Federal Reserve Bank of New York found that every dollar increase in government aid will add anywhere between $0.25 and $0.63 to the price of tuition.

Fortunately, there are constructive ideas from both Republicans and Democrats on how to reform higher education financing. These include broad reforms like increasing Pell Grants or simplifying the federal aid application and loan repayment system. Other ideas include changing the name of award letters, requiring better disclosures of federal loan terms, and requiring colleges to have more skin in the game over the outcomes of their borrowers, for example, by penalizing schools with high default rates or low repayment rates. These are just a few reforms that can make higher education possible for Americans from all backgrounds, reduce taxpayer liability, and ensure students and their families know exactly what they are getting into when borrowing for college.

Brad Conner is vice chairman of consumer banking at Citizens Financial Group and is the former chairman of the board of the Consumer Bankers Association. William Hoagland is a senior vice president at the Bipartisan Policy Center and a former staff director of the Senate Budget Committee.