Student Loan Reform -- Durbin Bill to Address Private Loans

You might think of this as an addendum to my recent post Student Debt Fianlly Taken Seriously.  Although this piece of good news may be a bit stale, I think this bill deserves an honorable mention because it has not yet passed.  Back in May, Senator Durbin introduced a bill that would seek to treat student loans issued by private lenders as just what they are -- unsecured debt.

According to projectstudentdebt.org, "The percentage of all undergraduates with private loans has risen dramatically, from 5% in 2003-04 to 14% in 2007-08, and the number of private loan borrowers increased from approximately 935,000 to 2,946,000."  That is an enormous proportion of the student loan pie.  But unfortunately, these loans, unlike their federally issued counterparts, come with a host of disadvantages.  First, federal loans are subject to all types of repayment plans, including a very modest income based payment amount.  These plans allow students who wish to pursue careers in public interest to do so without suffering the reprisal of not being able to make ends meet.  They can also hedge against the risk of unemployment in a bad economy by allowing the student to meet payments according to his or her ability.

In addition, many private loans have variable interest rates that are keyed to to the prime rate and other rates.  There is not cap on the interest rate. In other words, if your line is variable at 3.5% over prime, and prime skyrockets to 7%, you've got a 10.5% APR on your hands.  This rate is completely out of step with the federal standards, which now stands at 6.8%.

By now, you should be wondering, "so what makes it a student loan? After all, there are no consumer protections in place as with other types of student loans."  The answer: bankruptcy.

In 2005, the federal Bankruptcy Code underwent an extensive overhaul.  Under both the old and the new law, student loans were and are, as a general, not dischargeable in bankruptcy without a showing of "undue hardship" (translation: some crippling circumstance that makes it nearly impossible to repay the debt).  However, the old law excluded private student loans from the definition of student loans.  The effect of this was that private loans were dischargeable.  The 2005 overhaul amended the law so that, now, private loans also fall under the definition of student loans.

In short, Durbin's bill seeks to reinstate the old law.  It is a call for consistency.  If a loan is subject to consumer protections of a student loan, then it should likewise be treated as a student loan in bankruptcy.  If it is really nothing more than an unsecured bank loan that lenders use to avoid the possibility of bankruptcy, it should be treated as such.  If we are unwilling to tolerate predatory lending in mortgage originators, I say say we should be equally unwilling to tolerate it among student lenders.  Well done Mr. Durbin.