Smart Borrower Blog

Government May Nationalize Student Loans


Jan 20th, 2010 @ 10:45 PM by Amber Nelson


There is a new bill being kicked around in Congress that would essentially exterminate the private student loan industry, paving the way for the government to make all loans directly to college students. It’s called the Student Aid and Fiscal Responsibility Act and it calls for the elimination of the Federal Family Education Loan (FFEL) program that has created millions of dollars of subsidized student loans each year.

Here’s how subsidized loans work: The government encourages lenders to loan money to students at low rates by promising to make up any profit losses or to repay the money if a student defaults. The government sets the interest rate the lenders can charge, but if the market rates rise above that fixed rate, the government must pay the lenders the difference between the two. But if rates fall below the set rate, then lenders must send back the extra profit made to the government. Such subsidized loans make up 80 percent of all student loans.

This new bill, authorized by the Obama administration, seeks to take out the private sector “middlemen” by having the government make the $103 billion worth of loans itself, rather than guarantee them. The reasoning is that it will save money on lender fees. The Congressional Budget Office originally estimated that the proposed system would save $87 billion over ten years.

However, a statement from the CBO shows that the first estimate did not include possible financial losses from defaults. The revised estimate was a total savings of only $47 billion.

Still $47 billion is quite a savings. The issue is whether or not the government can handle loaning money more efficiently and cost-effectively than the private sector. Based on past experience, the answer is most likely ‘not.’

About Amber Nelson
Amber Nelson is a seasoned mortgage industry writer and a regular contributor to Loan.com and Mortgage101.com.

2 Responses to “Government May Nationalize Student Loans”

  1. With all due respect, I believe the Ms. Nelson is mistaken.

    1.)Obama is not proposing to eliminate private student loans. This is a 22 bn per year market and consists of loans made by private lenders to students. They have nothing to do with FFELP and are NOT guaranteed by the government, but are strictly traditional consumer loans underwritten to credit standards.

    2.) What Obama is considering is the eilmination of the FFELP lenders and migrating that business over to the Direct lending program. Both programs are identical, offer the exact same products and service the same consumers. Both are providers of Federal loans. One is “directly” from the government, the other is guaranteed by the government but made through private banks. However, both are part of the Federal student loan program. Direct loans was created by the Clinton administration with intention of reducing or eliminating the FFELP subsidies the government currently pays to private lenders to administer the program. This is the exact same idea that Obama is promoting. It makes no sense to have two identical programs competing with each other when they are both part of the Federal student loan program. However, FFELP has been a huge cash cow for the banks up until recently. You can make the loans at a guaranteed rate and have no losses as the government guarantees the loans at 95 cents on the dollar. Pretty sweet deal…at least until the financial crisis.

    3.) Saying the govt can’t handle making the loans is a specious argument at best. Anyone who is in the industry knows that the government will not actually do the mechanics of making the loans….currently, Direct outsources this work to third parties, and that would be the case if the elimination of FFELP were to come to fruition.

    Already, many of the same FFELP servicers such as SALLIE MAE and CITI are bidding on the work in the event this law becomes reality…..however, this outsourcing will eliminate the generous subsidies…many of the same players will still find a way to profit.

  2. Jake Bohinc says:

    Though I was planning to get a loan for my medium small business, I had no idea about the cumbersome process that goes into applying for the same and processing all the forms before being considered eligible for the same.

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