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From Banking and Finance Law Daily, June 19, 2015

CFPB finds that 90 percent of co-signer release applicants were denied

By Stephanie K. Mann, J.D.

The Consumer Financial Protection Bureau Student Loan Ombudsman has released a report finding high rates of consumers are being rejected for co-signer release on their private student loans, based on its review of industry practices. The bureau uncovered problematic industry practices that may be disqualifying some consumers from securing a co-signer’s release from their loans. When student borrowers and co-signers seek a co-signer release but are unable to obtain it, the co-signer can suffer from damage to their credit or be subject to higher rates on other forms of credit. This can also result in serious financial distress for the borrower if a company triggers an auto-default when a co-signer dies or goes bankrupt.

“Parents and grandparents put their financial futures on the line by co-signing private student loans to help family members achieve the dream of higher education,” said CFPB Director Richard Cordray. “Responsible borrowers and their co-signers should have clear information and standards for releasing the co-signer if the time is right. We’re concerned that the broken co-signer release process is leaving responsible consumers at risk of damaged credit or auto-default distress.”

Background. Student loans make up the nation’s second largest consumer debt market. The market has grown rapidly in the last decade. Today there are more than 40 million federal and private student loan borrowers and collectively these consumers owe more than $1.2 trillion. While private student loans are a small portion of the overall market, they are generally used by borrowers with high levels of debt who also have federal loans. In general, private student loans carry higher interest rates and lack flexible repayment options, compared to federal student loans.

Most private student loans require a co-signer. In fact, according to a 2012 report on private student loans published by the CFPB and the Department of Education, while co-signers were less often required during the years prior to the financial crisis, by 2011 more than 90 percent of new private student loans were co-signed, often by a parent or grandparent.

A co-signer may help a borrower access credit or obtain a lower rate because they may be more creditworthy and can step in if a borrower is unable to repay. However, borrowers have also been hit with a default because of activities related to the co-signer, even if the borrower is paying on time. However, the loan will appear on the co-signer’s credit record which will count towards the co-signer’s total debt level and can affect the co-signer’s credit score if the loan is not repaid. Consumers also can be at a disadvantage if they are unable to obtain a co-signer release.

Report. The Student Loan Ombudsman report includes findings of the information request from industry participants as well as analysis of more than 3,100 private student loan complaints and approximately 1,100 debt collection complaints related to student loan debt received between Oct. 1, 2014, and March 31, 2015. Overall, private student loan complaints increased by 34 percent compared to the same time period last year.

The report found that among the issues that consumers face:

  • companies rejected 90 percent of consumers who applied for co-signer release;

  • consumers left in the dark on co-signer release criteria;

  • most private student loan contracts continue to contain auto-default clauses;

  • borrowers are at risk when loans are sold and packaged by Wall Street;

  • company policies can permanently disqualify borrowers from co-signer release; and

  • potentially harmful clauses found in the fine print.

The report describes opportunities to improve the private student loan industry’s co-signer practices. The report identifies practices that could benefit consumers and industry, including:

  • improving transparency around co-signer release criteria;

  • improving consumer notifications for co-signer release eligibility; and

  • examining potentially harmful clauses in the fine print.

To help borrowers overcome obstacles to co-signer release, the CFPB published a set of sample letters for private student loan borrowers and their co-signers that they can send to the private student loan servicer. These letters instruct servicers to provide clear information about co-signer release policies.

Comments sought. Last month, the CFPB launched a public inquiry into student loan servicing practices that can make paying back loans a stressful or harmful process for borrowers. The issues that the bureau is seeking information on include: industry practices that create repayment challenges, hurdles for distressed borrowers, and the economic incentives that may affect the quality of service. The comment period is open until July 13, 2015.

Christopher’s law. Following the release of the CFPB’s report, Sen. Bob Menendez (D-NJ) said that he will introduce Christopher’s Law to ensure real transparency and beef up protections for student loan borrowers and co-signers. “It is simply wrong for a lender to try to make a quick buck by taking advantage of a student and their family during a time of tragedy or distress,” said Menendez, a senior member of the Senate Banking Committee.

The legislation is named in honor of Christopher Bryski, a New Jersey college student who passed away in 2006 after falling into a two-year coma from a severe traumatic brain injury. While mourning the loss of their son, Christopher's family was blindsided with tens of thousands of dollars in student loan debt they were obligated to repay his private lender, because Christopher’s father had co-signed his loan and they were unaware of their obligations if such a tragic event were to occur.

The law will:

  • Protect students and their families during a time of loss.

  • Automatic co-signer release when the required criteria are met.

  • Clear disclosure of co-signers’ obligations.

CBA response. “Strong underwriting standards and ensuring loans are supported by an ability to repay at origination and during repayment—often through the strength of cosigners—are the cornerstones of consumer protection. CBA member banks work in close partnership with their borrowers throughout the life of the loan. Accordingly, private student loans are performing well, with nearly 98 percent of private loan borrowers successfully repaying their loans on-time. The students and their cosigners are to be commended for meeting their loan obligations,” said Consumer Bankers of America’s President and CEO Richard Hunt.

Companies: Consumer Bankers of America

MainStory: TopStory CFPB Loans

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