‘Special Direct Consolidation Loan’ offer confuses borrowers

Limited offer exemplifies complexity of school-debt repayment options

March 19, 2012 (published)
By Edie Lau

Photo by Orlando Alonzo
Pamela Alonzo, DVM, pictured with her dogs Cookie and Ludo, graduated with 15 educational loans totaling nearly $229,000. Last fall, she consolidated the loans. She learned too late that had she waited until January, she could have obtained a lower interest rate from the federal government that would have saved her thousands of dollars in interest payments over 30 years.

A one-time offer to a select group of borrowers to consolidate their government-backed student loans at a discounted interest rate sounded good to Dr. Julia Letoutchaia, a recent graduate who borrowed more than $170,000 to get through college and veterinary school.

She called the U.S. Department of Education and was informed by a representative that she qualified for the offer but should wait to be contacted by the company that services her loan.

Anxious to merge three loan payments into one and mindful of the June 30 deadline to apply, Letoutchaia took the initiative in early February to call her servicer, Great Lakes, one of four federal student loan servicers handling “Special Direct Consolidation Loans.” Unfortunately, that got Letoutchaia nowhere.

“They did not have any information in the system about me that clearly stated ‘eligible’ or ‘not eligible,’ ” she wrote on a message board of the Veterinary Information Network (VIN), an online community for the profession. Seeking guidance, Letoutchaia asked: “ ... Do I just need to be patient? ... Are some of them still getting their act together (Great Lakes seems to be)?

“I feel like I ... should be able to understand this but I just do not,” she lamented.

The caveat-laden short-term offer to consolidate student loans has snagged more than a few borrowers in a thicket of confusion. Only about 16 percent of federal student-loan holders are eligible, according to the U.S. Department of Education, and trying to determine whether a specific borrower is among them can be, as Letoutchaia found, an exercise in frustration.

The program, available for only 5-1/2 months, also drew complaints early on that one servicer had provided incomplete and potentially misleading instructions. In addition, the system for alerting eligible borrowers to the program’s availability appears to be spotty.

Although the proportion of borrowers eligible for special consolidation is small, the actual number is not: The Department of Education estimates that 6 million people qualify. To date, 94,000 have applied.

The program is part of a package of reforms announced in October by the Obama administration aimed at easing the payment of school debt.

National interest in student-loan relief is intensifying due to the rising debt burden of new college graduates. In 2010, two-thirds of new college graduates had student debt, and the average amount each owed was $25,250, an all-time high.

Professional-school graduates borrow substantially more. In 2010, nine out of 10 new veterinary school graduates had debt averaging $133,873. A year later, the average debt of the graduating class had risen to $142,613.

America’s collective educational-debt burden is $870 billion — greater than consumer auto loan debt ($730 billion) and credit card debt ($693 billion), according to a new analysis by the Federal Reserve Bank of New York.

Borrowers of federally-backed student loans have a variety of options for managing and repaying their debt that range from simple to complex. Seeking a Special Direct Consolidation Loan seems to fall into the “complex” category by virtue of the conditions for eligibility.

The Department of Education’s nutshell explanation is: “You must have at least one loan owned by the Department that is current or less than 270 days delinquent and at least one eligible commercially-held FFEL (Federal Family Education Loan) loan to qualify...” A department webpage elaborates on qualifying loans.

Dr. Emily Buskey, a 2009 graduate who started her veterinary career with $186,000 in educational debt, received an invitation to apply for special consolidation but hasn’t accepted the offer.

“I’m hesitant to sign up for something I don’t really understand,” she wrote on the VIN message board in early February.

After reading up on it, Buskey remains reluctant to participate. The program offers an interest rate reduction of one-quarter percentage point from a borrower’s current rate on her commercially held FFEL loan(s) and cannot exceed 8.25 percent. Servicers are offering an additional one-quarter percentage point rate discount if a borrower allows payments to be automatically withdrawn from her bank account.

The condition for receiving the full discount deters Buskey.

“When living on ‘the edge’ paycheck to paycheck, the auto-pay (especially such a large amount at once) really presents a challenge to work around,” she told the VIN News Service by email. “It takes away some feeling of control, or the ability to juggle things a bit in case of an unexpected emergency expense. I kind of like having multiple smaller chunks to pay at my own pace so I can stagger them a little if needed.”

Special Direct Consolidation Loans became available on Jan. 17. Early on, a listserv of school financial aid officials circulated concerns that borrowers were receiving incomplete and potentially misleading information by at least one loan servicer.

Margaret Baxton, associate director of financial aid at the University of Virginia School of Medicine, who posted the concerns, told the VIN News Service that Nelnet’s inadequate instructions caused some borrowers mistakenly to apply for traditional loan consolidation rather than special consolidation.

Terms available under special consolidation generally are more favorable. Interest-rate discounts apply to some of the loans being consolidated, and the period of repayment doesn’t change, which means a borrower pays less interest over the life of the loan than if the payment clock were restarted.

The problem stemmed from borrowers clicking on the wrong links on the Department of Education website.

Baxton was able to redirect the students who came to her for help. She said that if some of the students she counsels were going astray, she figured others likely were confused as well. “These are medical students, they’re not dumb,” she said.

Dr. Pamela Alonzo is a borrower who accidentally locked into a traditional consolidation loan not because she followed the wrong links but because she pursued consolidation too early and none of the Department of Education representatives she spoke with along the way advised her that special consolidation was coming.

“With all the calls I had placed to the consolidation phone number between September and December, I’m pretty upset that the employees I spoke to never discussed this possibility with me, ever,” Alonzo told the VIN News Service.

Alonzo graduated from veterinary school in May with nearly $229,000 in school debt accumulated through 15 loans. Consolidating that many loans naturally was attractive and something Alonzo began considering in September as her six-month grace period for repayment neared an end.

A 35-year-old with experience in home ownership and a general interest in personal finance, Alonzo said she gave careful thought to the consolidation option, not wishing to exercise it prematurely.

“I’m not, like, a complete babe in the woods on finances,” she said. “I knew that I didn’t want the consolidation application to go through before my grace period ended in November. If you consolidate sooner, you have to pay sooner.”

Alonzo estimates that she spoke with different Department of Education representatives four or five times over several weeks. She ended up consolidating $228,945 in loans at an interest rate of 7.125 percent. If she completes payment in 30 years as permitted by the terms of the loan, she will have paid more than $550,000.

Because the interest rate is calculated differently with special loan consolidation, it is difficult to know exactly what Alonzo’s rate would have been under that program. However, the VIN News Service estimates that with the discounts available under special consolidation, her interest rate would have been about 6.97 percent. Although not a huge difference in percentage points, it adds up over 30 years to a dollar difference of about $8,600.

“The more I think about it, the angrier I become,” Alonzo said. “They are the supposed experts. I was asking them, literally, what my options were with consolidation and if I should wait, and how is my interest rate calculated, etc. There was plenty of opportunity for any of those folks to say, ‘Gee, wait a second...’ ”

Told about Alonzo’s case, a Department of Education representative responded by email:

“This is certainly unfortunate. We tried to let borrowers know last fall this would be available in 2012. The President announced the program in October, and an announcement was posted on the home page of the Department’s Consolidation website describing the difference between the two programs. We prompted borrowers to ask questions before proceeding with a traditional consolidation application (servicers could have explained the option in general but may not have known specific borrowers’ eligibility), and apologize that she missed this opportunity.”

The representative — who asked not to be identified by name per department policy — also told the VIN News Service in late January that the department had been made aware of concerns that information about special consolidation was confusing. “Our team is working with all of our servicers to refine their materials and messaging,” she said. “Our office of Federal Student Aid will be updating and clarifying materials on its site to help address any confusion...”

The department has since amended and added information about the program on its website.

A review of the loan servicers’ websites this week shows a broad range of information provided about special consolidation. At one extreme is Sallie Mae, which has nothing on its main website about government student loans.

Asked where on the Sallie Mae website a borrower could find information, company spokeswoman Patricia Nash Christel provided an address to an auxiliary site that she said is shared with eligible borrowers.

By email, she commented: “Our loan customers have among the lowest default rates due in part to our proactive counsel and outreach especially to those who experience difficulty. We will continue to counsel our federal loan customers on the options available to them under the federal programs and on the best possible management of their student loans, including the Special Direct Consolidation Loan, Income-Based Repayment and other options.”

She added that the Department of Education determines eligibility of borrowers and provides their names to the loan servicers, and that Sallie Mae continues to receive new names each week and reaches out to those customers by email, regular mail and telephone.

The other three servicers — FedLoan Servicing, operated by the Pennsylvania Higher Education Assistance Agency (PHEAA); Great Lakes; and Nelnet — all provide links from their home pages to details about special consolidation.

FedLoan provides explicit instructions on how to check one’s eligibility. Nelnet, too, gives step-by-step instructions. (The VIN News Service was unable to reach a Nelnet spokesman last week to discuss the complaints that surfaced about Nelnet when the program debuted in January.)

Great Lakes has a page devoted to special consolidation that is more general than FedLoan’s and Nelnet’s.

Mary Roggeman, vice president of marketing at Great Lakes, said the organization continually receives updated lists of eligible borrowers, whom it attempts to contact via email and regular mail. She said Great Lakes may add “phone campaigns down the road.”

Told about Letoutchaia’s discouraging experience in trying to apply, Roggeman acknowledged that there may have been an error in the information transmitted from the Department of Education and offered to have Letoutchaia’s file reviewed. (Letoutchaia spoke with Roggeman today and is waiting to hear back.)

At FedLoan, spokesman Keith New said making contact with borrowers can be challenging owing to email spam filters, people’s reluctance to take calls from someone they fear is a solicitor and relocations.

“We’re always trying to look under every rock as far as effective means to reach borrowers,” New said.

He said notifying eligible borrowers about special consolidation is “an ongoing process” that he expects will continue until the application period closes June 30.

FedLoan estimates that among the four million borrowers it services, one million are eligible for special consolidation. Initially, New said, FedLoan received 300 applications a day. The rate has since risen to 1,500 a day.

Borrowers interested in Special Direct Consolidation Loans who have not heard from their servicer may sign into their U.S. Department of Education account and check the “Alerts” box for a message stating that they are eligible.

Borrowers for whom no such message is present but who believe they are eligible may call the Department of Education at 800-433-3243 to inquire. The number is staffed weekdays from 8 a.m. to midnight Eastern.

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