Consolidation Loans Perfect Solution or Perfect Storm? SASFAA – Greensboro, North Carolina – February 2006 - Steve Brooks - NCSEAA 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 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 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” • But…as times have changed, and as we have experienced a dramatic decline in interest rates over the past few years 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 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 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 Examples of Consolidation Costs Underlying Stafford Loans Consolidated Loans • Amount $51,000 • Amount $51,000 • Interest Rate 6.8% • Interest Rate 4.7% • Term 10 yrs • Term 25 yrs • Monthly $587 • Monthly $289 • Total Paid $70,440 • Total Paid $86,700 Much more affordable monthly payment at cost of $16,260 in additional interest - an increase of 23% in total payments 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 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 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 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? 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) 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 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 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 Administration’s recent budget proposal 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) Questions?
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