Changing the Conversation – Home Equity, Federal and Private Loans

Changing the Conversation – Home Equity, Federal and Private Loans

Leslie Bembridge, Vice-PresidentProduct Management, Education Finance

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It's not surprising that student loan debt remains a problem child. College prices continue to defy inflation rates and the biggest percentage price hikes are coming from public universities, which is where most middle and low-income students have traditionally depended upon for bachelor degrees.

It Started with a Discussion on Student Debt

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It Quickly Moved to a Discussion of Student Loan Lenders and Consumer ProtectionColleges and Universities are Feeling the Heat

The Dodd-Frank Wall Street Reform and Consumer Protection Act requires the Director of the Consumer Financial Protection Bureau and the Secretary of Education to submit a Report on private student loans. (Issued August 2012)

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Then the Discussion Moved to the Cost of CollegeColleges and Universities are Feeling the Heat

From Customers . . .o May 2011 – a majority of Americans (57%) say the higher education system in

the United States fails to provide students with good value for the money they and their families spend. An even larger majority—75%—says college is too expensive for most Americans to afford. At the same time, however, an overwhelming majority of college graduates—86%—say that college has been a good investment for them personally. (Pew Research Center)

From Congress . . .o October 2011 – all colleges and universities required to have a Net Price

Calculator available on their web sites so students can receive a more accurate estimate of the real costs of college

From the Administration . . .o February 2012 – White House Unveils College

Scorecard. . .a new tool to the College Affordability and Transparency Center that assists prospective students and their families in comparing colleges before they choose using key measures of college affordability and value. The purpose of the tool is to make it easier for students and their families to identify and choose high-quality, affordable colleges that provide good value.

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As we look ahead to the 2013-14 academic year,

financial aid officers will be more challenged than ever to review the offerings of private loans in comparison to Direct PLUS, Graduate Stafford and Home Equity loans and ask the question;

“Are federal loans really the best deal for all students and families?”

The Conversations are changing…Like all things in the world of student financial aid,

nothing really lasts forever….

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Why Borrow Beyond Stafford Loans?

• Need to borrow for Expected Family Contribution (EFC)

• Need to borrow to fill gap left over after financial aid is awarded

• Student did not (or will not) apply for financial aid

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Current State of Graduate Stafford Loans

Loans with a loan period beginning on or after 7/1/12o Fixed rate of 6.8%o No Subsidieso Annual and Aggregate limits still the same

Lost repayment incentiveso No origination fee discountso No upfront interest rebate provided at the time of the

loan disbursemento Total fees 1%

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The New Cost of Stafford Loans

The Department of Education is projected to save $18 billion over the next 10 years.

The loss of the interest subsidy to a full-time graduate day student who borrows for the first time in 2012-2013 and was eligible for $8,500 in the past would be about $2,800 term time and $900 in grace period (total $3,700). 

The additional interest costs for four-year graduate evening students would be about $4,800 term time and $1,200 in grace period ($6,000). …the interest is capitalized on the loans, so borrowers will also be paying interest on the higher amount of their loans. 

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Federal PLUS Loan Credit Changes

Borrower cannot have adverse credit, but if they have no credit they can be approved

In the Spring of 2012 the Department of Education modified credit criteria for PLUS to now include unpaid collection accounts and charge-offs as part of the credit review

Items such as being 90 days delinquent on any debt as well as bankruptcy discharges, foreclosures and wage garnishments during the previous five years are now trigger denials for many who may have been approved in 2011-12

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Federal PLUS Credit Standards

No debt-to-income ratio requirements

The parent cannot be released from the obligation or legally transfer the loan obligation to the student

Endorser can be obtained, cannot be the student in the case of a parent borrower

Credit is evaluated each year

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Federal PLUS Current State of Rates and Fees

Lender is the Federal Government 4% loan origination fee Fixed interest rate of 7.9% for the life of the loan .25% Interest Rate Reduction when payment is made

through Auto-Pay

1.5% of Principal Loan Amount rebated after 12 consecutive on-time monthly payments (eliminated July 1, 2012)

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The New Cost of PLUS Loans

The Department of Education is projected to save $3.6 billion over the next 10 years.

The most obvious result of this is that a borrower who borrows $20,500 will now receive $20,295 and a borrower who borrows $40,000 GradPLUS will now receive $38,400. 

Borrowers who choose to repay the loans electronically may still qualify for the 0.25% interest rate reduction for electronic loan payments.

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Federal PLUS Benefits

• Cancellation due to death

of borrower or student (in the case of a parent borrowing)

• Cancellation due to permanent disability of the borrower

• Identity Theft Cancellation – effective July 1, 2006

• A graduate PLUS borrower may receive a deferment while enrolled in school at least half-time.

• A parent borrower may receive a deferment for a PLUS Loan based on his/her own half-time enrollment or they can defer repayment of PLUS Loans while the student for whom you obtained the loan is enrolled at least half time.

• The parent must separately request each deferment period.

• If no deferment is selected the loan begins repayment 60 days after disbursement.

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Federal PLUS Repayment Options

10-25 year repayment termo Standard, Extended or graduated repayment

termso Unemployment and Economic Hardship

Defermentso No prepayment penalty

Federal Loan Consolidation program exists to extend repayment up to 30 years depending on loan balance.

Tax Benefitso “Speak with your tax advisor”

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In the News

As the cost of college has spiraled ever upward and median family income has fallen, the loan program, called Parent PLUS, has become indispensable for increasing numbers of parents desperate to make their children’s college plans work. Last year the government disbursed $10.6-billion in Parent PLUS loans to just under a million families. Even adjusted for inflation, that’s $6.3-billion more than it disbursed back in 2000, and to nearly twice as many borrowers.

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The U.S. Department of Education doesn’t know how many parents have defaulted on the loans.

It doesn’t analyze or publish default rates for the PLUS program with the same detail that it does for other federal education loans.

It doesn’t calculate, for instance, what percentage of borrowers defaulted in the first few years of their repayment period….For parent loans, the department has projections only for budgetary—and not accountability—purposes:

It estimates that of all Parent PLUS loans originated in the 2011 fiscal year, about 9.4 percent will default over the next 20 years….

The analysis, by Mr. Kantrowitz, uses survey data from 2007-8, the latest year for which information is available. Among Parent PLUS borrowers in the bottom 10th of income, monthly payments ate up 38 percent of their monthly income.

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Alternative Loans Borrower Eligibility

Student may be the borrower Co-signer does not have to be a

parento Other persons may borrow or co-

sign International student options

o Typically need US Citizen or Permanent Resident as a co-signer

Typically need to be enrolled in a degree program at least half-time but also offers options for less than half-time students

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Alternative Loans Credit Review

Credit criteria established by the lender The presence of a co-signer almost guarantees

a lower interest rateo Co-signer release available with most lenders

Income verification and DTI more likely to be required

Credit/FICO Scores are one piece of the criteria for approval

Low-Doc or No-Doc Loans for high credit scorers may be a possibility

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Alternative Loans Interest Rates and Fees

No Fees (most companies)

Fixed Rateso Citizens Bank TruFit Student Loan

starts at 5.75%

Variable Interest rateso Citizens Bank TruFit Variable Rate

starts at One-Month LIBOR + 2.50%

What are the rates at your school?

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Alternative Loans Features

Borrower chooses repayment optiono Immediate, Interest-only or Deferred

Interest rate reduction for automatic payments from an account

o .25% up to .50% is the most common Benefits for already being a customer Loan forgiveness Cover past due balances School Certified Tax benefits Forbearance options Repayment terms 5-20 years

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Status of Alternative Loans

In the years after the credit crisis, department officials point out, other means of financing college— such as home-equity loans and private student loans—have become harder for families to get.

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Home Equity Loan/Lines

Not regulated by Title IV Regulations Terms and Conditions vary greatly among lenders Borrower Eligibility

o You must be the home owner Interest Rates

o Fixed or Variable Based on credit criteria established by the lender Income verification and debt-to-income ratios more likely

to be required Low-Doc or No-Doc Loans for high credit scorers

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Home Equity

Loan Limitso Equity in home directly impacts amount borrowed

Loan Feeso Origination, Appraisal, Closing Costs

Not federally insured against disability and death

Funding Education with Home Equity Loans…a home equity loan -- otherwise known as a second mortgage -- may also be a better solution than some of the federal student loan programs as well. If you can deduct your mortgage interest at tax time, your effective interest rate on a home equity loan could be less than that of a PLUS or even a Stafford loan.

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HELOC or Loan?

For flexibility, a home equity line of credit (HELOC) can't be beat. You can tap into it as needed to pay for tuition as well as other expenses, and only pay interest on the amounts advanced.

However, there are a couple of caveats: first, mortgage lenders can shut down credit lines if home values ... Second, HELOCs come with variable interest rates, meaning 10 years from now, that education could prove very expensive if rates increase.

That said, a fixed-rate second mortgage delivers the entire amount in one lump sum, and you must begin paying it off right away. Your lump sum can't be cut, and your payment is attached to a fixed rate. One way of splitting the difference is to get a HELOC that allows you to fix the rate at one or more points during the life of the loan.

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Families will go to where the need is, and that’s the Financial Aid Office

Provide loan counseling advice

Know the lenders and their productso Create a list so you can talk about it

Know why the products are on your list

Advise the family to create a “pros and cons” list

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Loan Features to Consider•Borrower Eligibility•Loan Payment and Terms•Payment Insurance•Interest Rate and Caps•Loan fees; origination, repayment, appraisal, “closing costs”•Approval Criteria•Application Process•Deferment and Repayment Options•Loan/Borrowing Limits•Tax Benefits•Pre-payment Penalties

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Questions to Consider

Have you applied for financial aid and looked for outside scholarships? Can you manage a monthly payment plan to finance a portion?Who will be doing the primary borrowing?Should you share the borrowing?What affect does this have on other family plans?What are short and long term goals of family, student?Is smallest monthly payment most important?Is lowest interest rate important?Are low origination fees important?Are the tax benefits most important?What is your FICO Score? (myfico.com)

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The Tradeoff’s

Interest Tax Deductions The responsible party (student, parent,

both?) In-school Deferments Interest rates Loan term Availability Default Impacts

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Sources

Slide 8 &12:Implications of the Budget Control Act of 2011. Volume 43 Issue 1, by

Stephen Brown, Assistant Dean, Fordham University School of Law

Slide 15, 16 & 21:chronicle.com, October 12, 2102 Volume LIX, Number 7

Slide 21 & 31:http://trends.collegeboard.org/student_aid/report_findings/indicator/Overview_of_Loans

Slide 23 & 24:http://library.hsh.com/articles/home-equity/student-loans-vs-home-equity-loans

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Appendix

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Federal PLUS Loans

Pros• Parent is the borrower for

undergrad students, Graduate students for GPLUS

• Death, disability, identity theft cancellation

• Fixed/Capped interest rate• Economic Hardship and

Unemployment Deferments• In-school Deferment based on

borrower’s enrollment• For those with poor credit, often

best option

Cons• No shared debt burden

with student (undergrad)• Ten year term• Fixed rate of 7.9%• 4% origination fee• Higher rate than fixed

private loans for high credit scores

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Alternative Loans

Pros• Lower rates for some • Parent acts as co-signer

with possible release• Student establishes credit• Longer repayment terms• Shared responsibility• 0 fees (in many cases)

Cons• More debt burden on student• Rates and fees may vary• Longer term means more interest• Can’t be consolidated into a

federal loan

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Home Equity Loans

Pros• Secured loan• Interest is tax

write-off • No school

certification• Low rates

Cons• Reduces asset• More difficult to get approved• Application fees may be higher• Many do not have death/disability

cancellation benefits• Closing costs• Market sensitive limits - equity• Longer term means more interest• Higher interest rate caps• Failure to repay the loan may jeopardize

home ownership

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