Student Loan Servicing: A Predatory And Conflicted Mess

Unnecessarily ruining disabled veterans’ credit scores is a small part of the mess that has become our student loan servicing system.

Student loan collectors are often motivated by perverse incentives that we have seen before in the financial services industry.

Profit maximization often takes precedence over the borrower’s best interests.

Navient, the nation’s largest student loan service company has been accused of misleading borrowers and illegally driving-up loan repayment costs by the federal government. They handle about 25% of the over $1 trillion student loan marketplace.

While the federal government has many programs in place to reduce the crushing effects of student loans, loan service companies (like Navient) often fail to inform borrowers, or deliberately mislead them about their repayment options.

These programs include income-based repayment programs and loan forgiveness programs for the disabled and military veterans.

According to The New York Times (the “NYT”), Navient has been accused of “using shortcuts and deception to illegally cheat struggling borrowers out of their rights and lower payments.”

This not only negatively impacts our nation’s youth, but older borrowers are hurt as well. According to the NYT, more than 2.8 million Americans over the age of 60 have student loan debt.

Overall, 41 million Americans owe $1.2 trillion in student debt with an average balance of $20,000 according to the NYT.

Student loan service companies have been accused of cheating borrowers with total and permanent disability by marking their charged off loans as defaults.

These borrowers are eligible to have their loans discharged without the devastating effects to their credit scores.

Workers in many loan service firms do not have an incentive to take the time to reach out to borrowers to analyze their own unique situations and particular needs.

The current “Student Loan Mill” system provides no compensation for this much-needed service.

To push things along, the system provides incentives for loan service employees to steer borrowers into forbearance. This allows the borrower to temporarily stop payment on their loan.

This misguided, short-term solution dramatically raises the interest costs on the loan by increasing the amount of years interest will continue to accrue.

Not surprisingly, the service company collects a $150 service fee each time it does this instead of explaining the options available that would provide a long-term and cheaper solution to the borrower.

Amazingly, the federal government pays over $600 million to these providers, annually. Simply put, in many cases these companies are not doing the job they are being paid for.

Compounding the problem, many students loans are constantly bought and sold, which makes loan servicing more difficult.

The costs of not looking out for the borrowers’ best interests are devastating for our economy.

The debt burden on the young negatively affects our nation’s housing market and small business formation.

The costs to the elderly can be catastrophic to their underfunded retirement savings. Elderly borrowers also add increased strain on our already overburdened entitlement programs like Medicare, Medicaid and Social Security.

Finally, when overwhelmed and mislead borrowers default, we are all left on the hook because most of these loans are explicitly backed by the federal government and our tax dollars.

Just like our nation’s conflicted financial services industry and its trillions of dollars of nontransparent fees, the current system has astronomical potential for unnecessary interest costs on borrowers.

The old adage proves true again: People will act according to the incentives that are offered to them. This is the reason that, of the 51% of student loan borrowers eligible for income-based repayment plans, only 15% take advantage of this option.

Military members who are on active duty are also eligible for lower rates, but sadly many are never informed.

The NYT sums this up nicely:

“Navient is accused of deliberately steering borrowers away from income-based repayment plans that could have lowered their loan costs — in order to maximize its own profits. Enrolling customers in such plans can be time-consuming and complex, and Navient’s compensation system for its customer service representatives encouraged them to push struggling customers toward other options, according to the bureau’s complaint.”

Bad incentives lead to bad behavior and the little guy gets crushed. Let’s end this cycle of  ‘rinse and repeat’.