Consolidation Loans

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Consolidation Loans

• Perfect Solution
• or
• Perfect Storm?

SASFAA Greensboro, North Carolina February
2006 - Steve Brooks - NCSEAA
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History of Consolidation

• 1986 HEA Reauthorization
• Purpose to help students with multiple lenders
  (loan holders) and high debt to consolidate all
  loans with one lender (holder) to allow for one
  monthly payment
• Creates one new loan, at fixed rate of interest
  based on weighted average of loans consolidated
  into the new loan

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Created to address one issue

• Providing an opportunity to consolidate multiple
  debts with one holder
• Fixed interest at weighted average (rounded up)
  produced a slightly higher interest rate than
  underlying loans (originally was higher of
  average or 9)
• Intent was to provide the opportunity but not to
  provide for continual refinancing to have one
  monthly payment, not to seek a lower interest rate

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What it was never intended to do

• Never intended to be a refinancing mechanism
  such as home mortgage industry
• That is reason for single holder rule
• Butas times have changed, and as we have
  experienced a dramatic decline in interest rates
  over the past few years

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What Matters in Consolidation

• Amount of loans consolidated
• Then compare the following for the loans if not
  consolidated versus if consolidated
• Monthly payment
• Repayment term
• Interest Rate fixed in consolidation variable
  in underlying loans
• Total Dollars Paid Principal and interest

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Impact of Interest and Time

• The lower the interest, the lower the monthly
  payment
• The longer the time to pay, the lower the monthly
  payment
• The longer the time to pay, the higher the total
  payments (if interest rates are the same)
• Should calculate for both scenarios before
  consolidating

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Amount to be Consolidated

• Term of Loans varies based on amount
• Under 7,500 10 years
• 7,500 - 10,000 12 years
• 10,000 -20,000 15 years
• 20,000 40,000 20 years
• 40,000 60,000 25 years
• Over 60,000 30 years

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Examples of Consolidation Costs
Underlying Stafford Loans Consolidated Loans

• Amount 51,000
• Interest Rate 6.8
• Term 10 yrs
• Monthly 587
• Total Paid 70,440

• Amount 51,000
• Interest Rate 4.7
• Term 25 yrs
• Monthly 289
• Total Paid 86,700

Much more affordable monthly payment at cost of
16,260 in additional interest - an increase of
23 in total payments
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Falling Interest Rates and Consolidation

• New marketplace
• Consolidation as a means of refinancing
• Lock in low fixed rate for up to 30 years as
  opposed to keeping variable rate loans that may
  go up to 8.25
• Rise of Consolidation Loan companies
• Raiding of Portfolios of traditional lenders
• Calls for repealing single holder rule
• Calls for permitting multiple consolidations

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Falling Interest Rates and Consolidation

• Confusion and cold calls
• Students besieged with marketing materials by
  mail, email and phone calls
• Students and former students may not understand
  rules and procedures
• They also miss out, frequently, on their own best
  interests

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Falling Interest Rates and Consolidation

• Misleading information
• Examples show how much lower the monthly payment
  can be
• Rarely if ever show how much total payments will
  be over time with extended term
• Call for better consumer information in
  Reauthorization
• Market Frenzy and Mass Consolidation
• This past June, I hope, was high water mark
• Phone calls, confused students, frenzy on June 30

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June 2005

• Last four days of June
• 93,691 incoming phone calls and faxes
• June 30 late night call
• Line out the door on June 30
• Staff diverted from other duties to handle
• 10 PM Blank Fax Received
• Did print fax number at top
• Faxed him back, he re-sent and loan went through
• Will June 2006 be more of the same?

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Who wins?

• Sometimes it is beneficial to consolidate
• Loans from multiple sources/holders
• Large debt means cannot make payments on regular
  ten-year term
• Locking in a low interest rate is a good thing
  for the individual borrower IF it actually saves
  money and/or enhances cash flow to meet current
  needs
• Alumni generally are winners by consolidating
  in current environment (but not always)

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Who loses?

• Federal Treasury subsidy costs estimated at 14
  Billion minimum to 48 Billion between 2005-2011.
• If interest rates approached late 1970s and early
  1980s, that would soar to 81 Billion
• estimates were that Consolidation loans with
  variable rate would save the government 2.6
  Billion by 2015 (now that both underlying loans
  and Consolidation loans are fixed rate, similar
  savings should occur)
• Why extended term of repayment at historically
  low fixed interest rates will cost taxpayer for
  next 30 years

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Who loses, continued

• New and future students money spent on former
  students, through budget scoring, reduces chances
  for increased Pell Grants, borrower loan limits
  and other Title IV aid
• Borrowers who consolidate and pay more over time
  even though monthly payment may be lower

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Who loses, continued

• FFY 2005 in FFEL alone
• Consolidation Volume 54 Billion
• Stafford and PLUS Volume 43.3 Billion
• Expect that to reverse next year, according to
  the Administrations recent budget proposal

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Who loses, continued

• Maybe it will reverse somewhat
• After June 30, no more in-school consolidation
• After June 30, new loans are fixed at 6.8 AND
  older variable loans are likely, based on
  interest rates to date this year, to be reset at
  roughly that same level (still variable, but in
  2007 we should not see same frenzy since variable
  loans will likely have about same rate as fixed)

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Questions?