Student loan consolidations will bottle neck this summer because lenders have been locked out of the governement’s student loan database.

Lenders need to verify the correct amount of a prospective borrower’s loans because if they’re off by too much on the initial application, the lenders need additional signed paperwork from the borrower, which extends the time to funding even further.

Student loan logjam

Kathleen Pender

Thursday, May 17, 2007

Borrowers who are trying to consolidate their college loans before rates change July 1 might encounter some holdups because lenders have been temporarily banned from a government database of loan information.

Fortunately, the rates on variable-rate government guaranteed loans (those issued before July 1, 2006) won’t go up much, if at all, July 1. And even if the database snafu causes a processing delay, most lenders say they will give borrowers today’s rate if they get their applications in before July.

On April 17, the U.S. Education Department blocked all lenders and guarantee agencies from accessing the National Student Loan Data System after the Washington Post reported that some lenders might have been using the database improperly to gather information they could use to market loans. Access by authorized college financial aid officers and borrowers was not restricted.

The department had previously blocked almost 250 users from the student loan industry for inappropriate use of the system.

The database contains information on people who have obtained government-guaranteed Stafford, Plus and Perkins loans, and Pell grants.

By entering a borrower’s Social Security number, a user could get the borrower’s name, date of birth and loan data such as outstanding balance and payment status.

The database does not provide the borrower’s address, e-mail addresses or phone number. Nor does it include sensitive information students must enter on the federal financial aid applications, such as income or assets.

Lenders or others might have improperly gained borrower information by entering thousands of actual or random Social Security numbers into the database, then combined that with information from credit bureaus or other sources to target customers for consolidation loans, says Mark Kantrowitz of Finaid.com

On May 2, the department restored access to the system for 35 guaranty agencies, which are state agencies or nonprofits that act as middlemen for the federal government.

It also added beefed up security by requiring users to enter a series of numbers and letters in a text box and provide the borrower’s date of birth and first name, in addition to Social Security number.

The department has not said when it will restore access to lenders. In the meantime, that’s causing headaches for lenders who want to process consolidation loans.

After they leave school, borrowers can combine existing college loans into a single consolidation loan with an existing lender or a new one.

On the application, borrowers must list the existing loans they want to consolidate and their balances.

In the past, lenders could help borrowers fill out an application, or do it for them, by looking up that information in the database. They also could use the database to verify information borrowers provided.

With access restricted, borrowers must fill out the applications themselves.

“Most borrowers have no idea what their balance is and who the loan servicer is,” says Frank Ballman, executive vice president of Educational Direct, which makes consolidation loans.

“The borrower can go into the NSLDS themselves and get that information, but they need a PIN number. Even if they once had their PIN they’ve forgotten it. It creates a major barrier to consolidation that, unless the borrower understands how valuable consolidation is, many times they are not motivated to move forward.”

Ballman says his firm is still processing loan applications, but it’s taking longer than usual.

Christopher Chapman, president and chief executive of All Student Loan, says that if applicants have access to the database while they are on the phone, “We help them walk through it and figure out what parts they need to put on the application.” Alternatively, applicants “can print it out and we’ll talk to them later or they can mail us a copy.”

Chapman says his firm is not attempting to verify information on the loan application before sending a request for payoff to existing lenders. However, if there is an error on the application, the existing lender will kick it back, delaying the completion of the loan.

A Sallie Mae representative says that if current customers want to consolidate their loans with Sallie Mae, “we will automatically prefill their consolidation application for them with the relevant Sallie Mae loan information. Those who apply to consolidate loans from non-Sallie Mae lenders must now ’self serve’ by looking up their loan information on NSLDS and entering that information on the consolidation loan application.”

Most lenders say they will give borrowers the rate that is in effect when their loan application is submitted. “As long as you have a substantially complete application with us, we will honor the rate,” says Tim Bornemeier, a managing director with Nelnet.

For a variety of reasons unrelated to the database, the rush to consolidate college loans before July 1 is expected to be much less frenzied than in recent years.

For starters, many students who have variable rate loans have already consolidated them.

Stafford and Plus loans issued before July 1, 2006, have variable rates that change once a year on July 1. The rate is tied to the yield on three-month Treasury bills at the last auction in May.

Consolidation loans, on the other hand, have fixed rates. The rate is a weighted average of the loans being consolidated, rounded up to the nearest one-eighth.

In years past, many students were eager to convert their variable rates loans into a fixed-rate loan by consolidating them.

On July 1, 2005, and again on July 1, 2006, rates on student loans shot up by almost two percentage points and the rush to consolidate before those deadlines was fierce.

Over the past year, however, short-term interest rates have been stable. Come July 1, the rates on variable-rate loans are likely to be no more than one-eighth of a percentage point higher than today.

What’s more, all Stafford and Plus loans disbursed since July 1, 2006, have fixed rates, which eliminates one of the big reasons to consolidate.

Another impediment: Before July 1, 2006, students could consolidate while they were still in school. Today, they must wait until they have left school.

That said, there are still some reasons to consolidate.

One, it’s easier to make one payment per month than several.

Two, six months after students graduate or stop attending school at least half time, the rate on their variable-rate Stafford loans goes up by 0.6 percent. If they consolidate before the end of that six-month grace period, they can lock in the lower in-school rate. (This does not apply to fixed-rate loans disbursed since July 1, 2006.)

Students who graduated in December are approaching the end of their grace period and should move quickly if they want to consolidate their variable-rate loans.

A final consideration: The standard repayment period for Stafford and Plus loans is 10 years. Consolidation loans generally allow repayment over 20 or 30 years, which is a blessing and a curse.

Moving from a 10-year to a 20-year repayment period “cuts your monthly payment by one-third, but more than doubles the total interest paid over the life of the loan,” says Kantrowitz.

If possible, it’s better to choose the shortest repayment period. However, if a borrower also has higher-rate private loans or credit card debt, it would be better to pay that off quickly and stretch out payments on lower-cost government loans by consolidating, says Kantrowitz.