Wednesday, October 20, 2010

Subprime Problems Pop Up Again in College Loans

Many of the same lending practices that fueled the subprime part of the mortgage crisis are being seen now in college loans, and colleges and their affiliated lenders are being forced to make some of the same adjustments that mortgage lenders had to make.

Some colleges, for example, have had to stop paying bonuses and incentives to admissions officers based on the number of new students they recruited. One college has introduced the idea of a 3-week trial semester, without financial aid, designed to eliminate students who wouldn’t be able to perform at a college level. Millions of students who find out they aren’t ready to attempt college work are stuck with student loans that they are unable to repay, similar to the way that certain kinds of subprime mortgage borrowers were often unable to repay their home mortgages. This kind of compensation practice led to many bank failures, but colleges won’t suffer financially from overly aggressive recruiting practices because colleges don’t take the losses when a student can’t complete the curriculum or repay the loan.

One big difference between mortgage loans and college loans is that college loans are targeted largely at 17- and 18-year-olds who, by definition, lack the kind of advanced education that could help them detect scams and fraud on the part of the lenders. But like mortgage loans, college loans are backed up by cultural ideals: “get a degree” has the same ring of cultural approval as “own a home of your own.”

Students who earn a degree may find themselves with loans too large to ever pay off, but the greater burden falls on students who don’t finish college, or who are expelled by their colleges, either for misconduct or poor performance. They have the debt but not the employability of a college graduate, and often find themselves unable to pay for housing for ten years or longer as they pay off their loans.

It’s a trap that colleges may be eager to put their customers into, as colleges depend on student loans for most of their revenue. Of course, any college would rather see its students graduate and succeed in life, but they may make nearly as much money from the students who fail.

College loans don’t involve trillions of dollars, but they are big business, and there is a very real possibility that college lenders that emphasize loans to unqualified borrowers could fail, and that for-profit colleges could see a substantial decline in attendance and revenue as regulators crack down on the worst student lending abuses.