Student Loan Mess

Did Revolving Door Lead To Student Loan Mess?
Critics Blame Lax Oversight Resulting From Close Ties Of Industry, Government

By JOHN HECHINGER and ANNE MARIE CHAKER
Wall Street Journal April 13, 2007; Page B1

Four years ago, Sally Stroup, then an assistant secretary at the U.S. Education Department, got a memo from the agency's inspector general urging her to curb any "illegal inducements" lenders might be using to win college loan business.

Ms. Stroup, who had previously worked for a Pennsylvania loan company and a for-profit education concern dependent on student loans, didn't take the memo's advice.

At least eight top officials in the Education Department during the Bush administration either came from student-loan or related organizations or have taken lucrative jobs in that arena since leaving the agency. Former Education Department staffers say a revolving door between the department and industry has led to lax oversight of federal financial aid. Members of Congress -- including the Democrats who head committees overseeing education, Sen. Edward Kennedy of Massachusetts and Rep. George Miller of California -- say they are concerned about the industry ties. Mr. Miller plans to hold a hearing on student loan abuses this month.

Some Republicans are critical as well, including Rep. Tom Petri of Wisconsin. "It's hard for a program staffed mainly by folks in the industry to impartially conduct oversight of the industry," says Thomas Culligan, Mr. Petri's aide for education policy.

In recent years, department officials monitoring financial aid were informed about several questionable practices by lenders, yet they were slow to crack down. In addition to the current scandal over loan companies' grants of stock and other payments to college officials, lenders also breached a government database of student borrowers and made hundreds of millions of dollars in excess payments through a controversial loophole.

"I saw too much in the department that indicated that many of the people were too close to the lending industry and were making decisions that weren't in the public interest," says Jon Oberg, a former Education Department researcher.

Ms. Stroup says that until now, no one knew the extent of student loan abuses, and she says she took action when allegations could be proved. "We always wanted to run the agency right for students, families and schools," says Ms. Stroup, now a senior Republican aide on Capitol Hill.


Katherine McLane, a spokeswoman for Education Secretary Margaret Spellings, defends the department's record, saying that it taps private-sector experience to improve efficiency and provide "better service to students and families." She notes that student loan default rates have plummeted on the Republicans' watch and that, in 2005, the Government Accountability Office removed the department's student aid office from a list of government programs at high risk for "fraud, waste, abuse and mismanagement."

Last week, the Education Department put Matteo Fontana, a senior financial aid official, on leave after it was disclosed that in 2003 he held $100,000 of stock in the parent company of Student Loan Xpress Inc. That firm, a unit of financial-services company CIT Group Inc., has been at the center of a widening investigation by New York Attorney General Andrew Cuomo. Before joining the Education Department, Mr. Fontana worked at the nation's biggest student lender, SLM Corp., better known as Sallie Mae.

One of Mr. Fontana's early responsibilities at the Education Department was safeguarding the National Student Loan Data System, which has detailed information about borrowers that isn't supposed to be used for commercial purposes. In 2005, Cathy Lewis, the department's assistant inspector general, sent a memo to Theresa S. Shaw, chief operating officer of the department's student aid office, about security problems with the database, which was being tapped by lenders to get customers. Ms. Shaw, who previously worked for Sallie Mae, rising to chief information officer, and Mr. Fontana couldn't be reached to comment. Ms. McLane says the department has "rigorous" database monitoring and has spent $650,000 since 2003 to improve information security.

In another example of close industry ties, William Hansen, a former deputy secretary, worked for an industry trade group before taking the department post. When he left in 2003, he joined Affiliated Computer Services Inc., an information-technology company that won a contract that year -- with a value of at least $1 billion -- to administer student loans. Mr. Hansen says he recused himself at the Education Department when the project came up and didn't work on higher education matters while he was at ACS.


Mr. Cuomo's investigation has already led eight colleges, including the University of Pennsylvania, New York University and Syracuse University, to settle allegations concerning payments from lenders that the state considers kickbacks. Six financial-aid officials, including those at Columbia University, Johns Hopkins University and the University of Texas, are under scrutiny for accepting stock or other payments from Student Loan Xpress. Sallie Mae and Citigroup Inc.'s Citibank have reached agreements with Mr. Cuomo over allegedly deceptive practices.

In Ms. Lewis's memo to Ms. Stroup in 2003 about improper inducements, she said the inspector general's office had found evidence that Sallie Mae had negotiated with a school to offer private loans to students there if that school placed Sallie Mae on its preferred-lender list. Ms. Lewis was concerned that the agreement might have constituted an improper inducement by Sallie Mae for preferred status. Sallie Mae notes that the government never took action against the company.

Ms. Lewis also complained in her memo that the department had done nothing since 1995 to update its interpretation of agency rules for lenders despite a student loan marketplace that had changed "significantly." Also in 2003, Mr. Oberg wrote an internal, widely distributed memo warning that lenders were exploiting a legal provision that guaranteed lenders a minimum 9.5% rate of return no matter how low the prevailing rate might be. The 9.5% guarantee was supposed to apply only to loans funded by tax-exempt bonds. Congress eliminated the guarantee in 1993 but grandfathered in the existing arrangement, thinking the high-rate guarantees would disappear. Mr. Oberg warned that the proliferation of these loans could cost taxpayers billions of dollars in excess subsidies.

A later report by the inspector general confirmed Mr. Oberg's findings. It focused on student loan company Nelnet Inc., which figured out a complicated strategy to collect about $278 million in what the report said were excessive payments from the government from January 2003 through June 30, 2005. The report recommended that the department require Nelnet to "return the ... overpayments received and exclude ineligible loans from future billings." In securities filings addressing the issue, Nelnet said it had received verbal approval from the department to collect the higher rate.

Despite the inspector general's report, the Education Department announced this past January that it would let Nelnet keep the bonanza, though not future payments. In a statement, Nelnet spokesman Ben Kiser said the company's receipt of those payments conformed to department regulations. Ms. McLane says the settlement was in "the best interests of taxpayers and students" because seeking repayment could have jeopardized a source of aid in some markets.

Jeffrey R. Andrade, former deputy assistant secretary for postsecondary education until 2003, says he opposed the lucrative loans at a time when the department was examining the issue but that the department couldn't stop the practice because it was hamstrung by pre-existing rules. "I wanted to call" Nelnet "and say if you guys do this, we're going to audit you to death, and in hindsight that would have been the better strategy," says Mr. Andrade. He is now an executive vice president of U.S. Education Finance Group, a student loan company.

Write to John Hechinger at john.hechinger@wsj.com5 and Anne Marie Chaker at anne-marie.chaker@wsj.com6

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