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Loans Organized Crime Might Envy

By Michael P. Tremoglie

NEW YORK (MainStreet)--It is an arrangement that organized crime might envy - the lending of money with less concern about the ability to repay than is normally required for other loans, yet an almost absolute certainty that the debt will be repaid.

Sounds too good to be true?

Maybe, but it happens thousands of times a day, every day, every year on college campuses throughout the United States of America - the land of the free and the home of the in-hock-forever college graduate. These 18- and 19-year-olds borrow thousands of dollars, indeed tens of thousands of dollars, and occasionally hundreds of thousands of dollars, from financial institutions in unsecured debt to pay for their college tuition. The interest rates are usually variable.

Most of all, the indebtedness is near impossible to discharge in a bankruptcy.

The problem is so grave that the Consumer Financial Protection Board (CFPB) noted it in a report they issued in July 2012 about private student loans - those not guaranteed by the federal government. According to the CFPB, "...the Sample Lender Portfolio and loan-level data illustrate a credit boom that led to lax underwriting standards on a number of dimensions and a bust that has led to a significant tightening of those underwriting standards."

The CFPB is not alone in their criticism. Barmak Nassirian, an independent consultant, who was formerly an associate executive director for external relations for the American Association of Collegiate Registrars and Admissions Officers (AACRAO), a nonprofit association of about 9,000 campus administrative professionals, in Washington D.C.

"The entire interest rate risk is shifted entirely to the borrower. They offer variable rates, with very high or no cap at all," he explained. "Who needs underwriting when you have an indenture contract? These loans are underwritten, but they are almost guaranteed to be collected, so it is easy to sell the notes."

CFPB further emphasized the lax underwriting standards in their report. They note that investors wanted asset-backed securities.

The report states, "Fueled by investor appetite for asset-backed securities, the financial institution private student loan market grew from less than $5 billion in 2001 to over $20 billion in 2008, before contracting to less than $6 billion in 2011. From 2005 - 2007, lenders increasingly marketed and disbursed loans directly to students, reducing the involvement of schools in the process; indeed during this period, the percentage of loans to undergraduates made without school involvement or certification of need grew from 18% to over 31%."