The Department of Education issued final regulations on November 1, 2013 making significant changes to a number of key student loan programs. Many of the most important changes affect the loan rehabilitation program that borrowers may use to get out of default on federal student loans. The regulations are effective July 1, 2014 and apply to both FFEL (guaranteed) and Direct Loans.
There is a very important change regarding the calculation of reasonable and affordable payments in the rehabilitation program. As of July 2014, loan holders will be required to initially calculate the reasonable and affordable payment amount using the income-based repayment (IBR) formula. This is not the same as placing defaulted borrowers into IBR plans. Rather, loan holders will use the IBR formula to calculate the rehabilitation payment, but borrowers will only be able to officially be in an IBR repayment plan after they complete the rehabilitation process and get out of default. Further, the formula will be the current IBR formula based on payments no higher than 15% of discretionary income even though some borrowers may now have IBR plans based on a 10% threshold. The formula could result in a 0 payment, but the regulations state that the borrower must pay at least $5/month. If a borrower objects to this amount, the loan holder must recalculate the payment based solely on information provided on an approved form.
These regulatory changes send a clear signal to collectors about how to administer the federal student loan rehabilitation program AND comply with the law. Current law already requires collectors to offer reasonable and affordable payment plans. Yet collectors routinely violate the law and tell borrowers that they must make payments beyond what they can afford. In issuing proposed regulations in July 2013, the Department acknowledged that many collection agencies first try to get defaulted borrowers to pay the total amount of defaulted debts and then attempt to negotiate payments that are as close to the ten year standard payment amount as the borrower can pay.
This problem derives in part from a system established by the Department which provides compensation to collectors for setting up rehabilitation plans only if the plans require borrowers to make certain minimum payments. In addition, the Department states in the 2009 Private Collection Agency manual that the payments must be reasonable and affordable based on the amount owed and on the borrower’s total financial circumstances. The “amount owed” criteria is not in the current regulations.
There is some hope that these new regulations will have a greater impact because the Department not only issued new rules, but also changed the commission system. We do not know all of the details because the Department continues to refuse to publicly release the private collection agency handbook. However, we have obtained enough information to conclude that the Department appears to be paying full commissions if the borrower’s rehabilitation payment is based upon the income-based repayment (IBR) formula or a minimum amount based upon the loan balance.
Because of the change in commissions, many collectors are already implementing the “IBR first” calculation system for rehabilitation even though the new regulations do not go into effect until July 2014. Industry insiders say that this means that rehabilitation payments will be lower than the “historical thresholds.” In fact, borrowers have historically been entitled to pay no more than a reasonable and affordable amount. There should be no dramatic shift based on what the law says. The drama occurs because collectors are now more likely to tell borrowers the truth because they don’t have to sacrifice their own profits to do so.
It’s a good outcome if collectors are finally incentivized to follow the law, but there are still other ways in which the current commission system rewards collectors for steering borrowers into programs that may not be in their best interests. In addition to the positive steps in these final rules, the Department must also make its contracting and commission system transparent and ensure that collectors are complying with all laws and regulations. All borrowers should be able to get unbiased information from neutral counselors. Unfortunately, this goal seems impossible to reach as long as the government puts private collection agencies in charge not only of collecting, but also in charge of “safeguarding” borrower rights.
