Private student lenders have been pleading with their regulators for more flexibility as they wrestle with delinquent loans. The banks want to be able to cut more deals with down-on-their-luck recent college graduates without also hurting their own bottom lines.
The federal banking agencies responded in July, but not in the way the industry had hoped.
The Federal Deposit Insurance Corp., the Office of the Comptroller of the Currency and the Federal Reserve Board said in a joint statement that they will not criticize financial institutions for engaging in what they called “prudent workouts.” But the agencies stopped short of granting the additional leeway the industry sought regarding the accounting treatment of such arrangements.
“It’s basically a clarification statement,” says Greg Hernandez, an FDIC spokesman. “It became clear that there was some confusion about the FDIC’s policy.”
Banks have been arguing that student loans have unique characteristics — recent college graduates currently suffer from high rates of unemployment, but should still have a solid lifetime earnings potential — and that their workouts should therefore get treated with more leniency from an accounting standpoint than other types of loans.
Daniel Wheeler, a lawyer at Bryan Cave LLP who often represents financial institutions, predicts that the statement will have a negligible impact on lenders.
“My sense is that the industry is begging for some real relief, and that is throwing them a small bone,” he says. “It doesn’t give much, but what little it does give banks will hopefully be helpful.”
The Consumer Bankers Association, an industry trade group that has led the charge for greater regulatory flexibility, said in a brief email that it is still evaluating the document from the FDIC, the OCC and the Fed.
“We look forward to further conversations with them and the [Consumer Financial Protection Bureau] on ways to help borrowers with additional repayment flexibility,” the email read.
The regulators’ statement was greeted much more warmly by the National Consumer Law Center.
Consumer advocates would like to see more workouts of private student loans, but they have been skeptical of the industry’s claim that the existing rules are serving as a barrier.
“I think it can only be helpful that there’s now clarity coming from the banking regulators,” says Arielle Cohen, a staff attorney at the NCLC.
Key participants in the private student loan market include Discover Financial Services, Citigroup, JPMorgan Chase, KeyCorp, PNC Financial Services, SLM Corp., SunTrust Banks, U.S. Bancorp and Wells Fargo. To date, however, only SLM Corp., also known as Sallie Mae, has securitized private student loans.
Private lenders tightened their underwriting standards in the wake of the financial crisis, but they are also still grappling with looser loans originated back in 2006 and 2007.
During that period, around 60% of private loans had co-signers, compared with around 90% more in recent years, according to a report by the Consumer Financial Protection Bureau.
About 5% of the private student debt outstanding is currently delinquent, a Fed official testified last month at a Senate hearing. Workouts in which the lender makes a significant concession to the borrower are rare, according to testimony by a CFPB official.
During the Senate hearing, regulators fielded questions from lawmakers on both sides of the aisle about the accounting treatment of student loan workouts. The regulators responded by saying that the current rules do not prevent banks from offering help to troubled borrowers.
“The flexibility to assist borrowers and the responsibility to report these actions accurately are not mutually exclusive,” testified John Lyons, the OCC’s chief national bank examiner.
Discover is one of the companies that had been hoping the regulators would grant student lenders more leeway. In its second quarter earnings report, the firm stated that its chargeoff rate on student loans more than doubled, to 1.58% from 0.73% a year earlier.
In an interview with ASR’s sister publication, American Banker, Discover Chief Executive Officer David Nelms attributed the increase to the fact that more of the company’s student loan borrowers have been entering the period in which they’re required to start making payments. That initial two-year period is when about half of the losses on private student loans occur, he says.
Nelms, who was speaking before regulators released their new policy statement, expressed hope that the banking agencies would be responsive to the industry’s concerns.
“I think the regulators are open to additional things we can do that recognize the unique characteristics of student loans relative to other types of loans,” he said.