Education Funding

Students and Colleges Prepare for Direct Lending

By Caralee J. Adams — May 26, 2010 | Corrected: February 21, 2019 8 min read
Melissa Gregory and her financial-aid staff at Maryland’s Montgomery College are feeling swamped as they make the transition to the direct-loan system, which must be fully operational by July 1.

Corrected: An earlier version of this story misidentified the director of financial aid and veterans services for Parkland Community College in Champaign, Ill. His name is Tim Wendt.

Financial-aid applications are up by 53 percent in the past two years at Montgomery Community College, in the Maryland suburbs of Washington. Add to that the new federal mandate to convert college loans from private lenders to the federal Direct Loan Program and it’s easy to see why Melissa Gregory, the director of student financial aid, is feeling swamped.

“It’s very stressful. We multitask everyone from the front desk to approving loans to work-study jobs,” said Ms. Gregory. With budgets frozen, there have been no additional hires to the financial-aid staff of 33, which serves 36,000 students on three campuses. The U.S. Department of Education has provided welcome webinars and technical assistance to help with the transition, but it’s a big undertaking. “We all do more with less and try to be more efficient,” she said.

Campuses across the country are gearing up to meet the July 1 deadline to revamp student-loan programs, as required in the federal Health Care and Education Reconciliation Act of 2010. Although overshadowed in the health-care overhaul that President Barack Obama signed into law in March, the higher education provisions of the law are significant for high school and college students and their parents, as well as for the institutions.

‘Landmark’ Legislation

The legislation eliminates fees the government paid to banks that provide loans to college students and uses the estimated $60 billion savings in the next 10 years primarily to expand Pell Grants. More grants will be available to low-income students, and the annual maximum scholarship will increase with inflation starting in 2013, climbing from the current $5,550 to an estimated $5,975 by 2017.

Those changes are expected to help meet the growing demand for Pell Grants and plug a potential shortfall in the program. Pell Grant recipients numbered 7.7 million in 2009, at a cost of $28 billion. In 2010, the cost is expected to grow to $32 billion, and to $34 billion by 2011, according to the Education Department.

The law ends the Federal Family Education Loan Program as of June 30 and requires colleges to make all student loans through the federal Direct Loan Program, which now makes up about 30 percent of such loans. Students will not see a major difference, but will get more flexible repayment terms. The law also provides $2 billion to community colleges for job training of dislocated workers and support for minority-serving institutions.

“This is a landmark piece of legislation by any yardstick,” said Terry Hartle, the senior vice president for government and public affairs for the American Council on Education, a Washington-based organization representing higher education institutions. “I would not be surprised if it’s the major piece of higher ed legislation for several years.”

Linking the savings in bank-loan subsidies to boosting Pell Grants turned out to be a smart political move. “It was a simple, clear, clean idea with obvious winners: low- and middle-income students,” said Mr. Hartle. “The administration was behind it. It would not have happened without the president behind it.”

U.S. Secretary of Education Arne Duncan championed the proposal as part of the president’s push to increase the number of college graduates by 5 million by 2020. “President Obama issued a challenge to restore America’s leadership in higher education, and the new law will help us achieve that goal,” said Mr. Duncan. “As a result, students are seeing the biggest increase in federal aid for college since the GI Bill. Moving to direct lending will make the student-loan process more efficient while saving taxpayers billions of dollars.”

Converting the Process

Like many campuses, Montgomery College started the loan-conversion process before the legislation passed. Ms. Gregory says the writing was on the wall when lenders, such as Bank of America, pulled out of the student-loan program at the college in December. So the campus began making the switch to direct lending.

The University of Texas at Austin saw a diminished lender pool in recent years and began preparing for the transition a year ago. The campus had no experience with direct lending and, with its own home-grown software system, faced a major transformation. Staff members went to conferences and visited their counterparts at other colleges, such as Pennsylvania State University, for guidance and put in “several thousand person hours,” said Tom Melecki, the director of student financial services at the Austin campus, who has a staff of 60.

“Direct lending is providing a somewhat more stable and reliable platform to draw loans for students. That’s a positive thing,” he said.

Nervousness about the change was overstated, said Chris Lindstrom, the higher education program director for the Public Interest Research Group, or PIRG, in Washington. “It’s not as if college financial-aid offices were in the dark,” he said. There was a huge push to convert early and for campuses that administer Pell Grants to use the same software as the Direct Loan Program.

Initially, members of the Association of Independent Colleges and Universities were concerned about the impact on smaller schools that serve low-income students, said Sarah Flanagan, the association’s vice president for government relations and policy. More than any other college sector, the independent schools are likely to use bank-based loans, and many didn’t gear up early, she said.

“It was a bit of a workload issue and a philosophical issue. They believed that the competition and choice had been good for students,” she said. In the end, the growing turmoil in banking and other elements negotiated out of the bill led the association to back the proposal.

“If they had fears the conversion would be difficult, those fears have not been realized,” Ms. Flanagan said of independent colleges. “It’s not that it’s not work, but they are managing.”

Mary Baldwin College, a women’s college with 800 students in Staunton, Va., did begin the transition well before the law was passed, sending some of its five-person staff to conferences for training, said Ashley Buchanan, the associate director of admissions and financial aid. Staff members are finding the new process is simpler for both the student and the college since there is one website to go to, rather than various places for an application, credit check, master promissory note, and certification, as was the case when dealing with multiple lenders. Complying with the law has not been a significant drain on resources, and the college expects to be ready by July 1, Ms. Buchanan said.

Customer service from banks left a lot to be desired, so Parkland Community College in Champaign, Ill., made the switch to 100 percent direct loans in 1995, said Tim Wendt, the director of financial aid and veterans services. “Direct lending is a much better, more streamlined process,” he said. “It’s been a positive for us.” With a common origination-disbursement center, financial-aid offices can originate Pell Grants, direct lending, and parental loans in a one-stop shop, he said.

And with the new law, students will have increased access to Pell Grants, one lender for loans, and better repayment terms.

“This is one of those rare moments when Washington is actually working. Everything is just the way it should be for the student,” Mr. Wendt said. “After all, that’s why we are here—to give students access to education and, at community colleges, often giving them a second chance.”

If schools successfully make the conversion, most students and parents won’t see a radical difference in the loan process. Eligibility rules, interest rates, fees, and loan amounts are identical under the Federal Family Education Loan and Direct Loan programs.

The new law does offer students more favorable repayment terms. As of 2014, students can cap repayment at 10 percent of income above a basic living allowance, instead of 15 percent. Recipients with responsible repayment histories can have the balance of their loans forgiven after 20 years, as opposed to the current 25 years. It will also be simpler for borrowers because they don’t have to worry about multiple lenders or having their loans sold to another bank.

“On the affordability front, it ensures that when graduates hit the ground, they are not plunged into a financial hole,” said Mr. Lindstrom of the PIRG. “The generous repayment terms are exactly what we needed to do to make aid more responsive and flexible.”

While the new system is more efficient, some financial-aid administrators, such as Montgomery College’s Ms. Gregory, are concerned that students can do much of the loan transaction online and, therefore, miss the one-on-one counseling needed to impress on them the responsibility of repaying the loan. “They can put everything on the Web, and it’s just a click away,” she said. “How do I make the student click the button? That’s the question.”

Watching and Waiting

While the legislation received broad support—particularly for the Pell Grant expansion— the direct-loan mandate also encountered skeptics. Some criticized the government for taking over the loan program and eliminating private jobs. There is no talk, however, of repeal in Congress.

On the whole, it’s a compelling package for colleges and one that is good for student access, said David Brime, the vice president for government relations at the American Association of Community Colleges. “It seems to be working well in the main without a lot of snafus,” he said. “There are people who don’t support the law who will be scrutinizing the transition very carefully.”

Last June, the National Association of Student Financial Aid Administrators surveyed institutions that had switched from the Federal Family Education Loan Program to direct lending. While 48 percent of respondents said they initially believed that converting to direct lending would be somewhat to moderately difficult, 80 percent responded that the actual switch was easy, and 73 percent said the switch was easier than they had expected.

As of April 29, the Education Department reported that 54 percent of schools had the capacity to originate a direct loan, 43 percent were in transition, and 2.6 were under review. The naysayers are amazingly quiet, said Ms. Flanagan of the National Association of Independent Colleges and Universities. “The debate was had; … there was a vote. Now they are being good citizens and trying to make sure students get their money,” she said. And on July 1? “The vast majority will be ready.”

A version of this article appeared in the June 09, 2010 edition of Education Week

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