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Why Student Loans & Mortgages Are Still Our Biggest Problems

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The other day, JPMorgan—the nation’s biggest bank by asset value—announced that it was getting out of the student loan business. For good. And it’s not alone: U.S. Bancorp made the same decision a little more than a year ago.

Education lending today isn’t as much fun as it used to be. Not when roughly a third of the loans that are in repayment mode are 90 or more days past due, the feds are leaning on lenders to deal with that problem, the regulators are tightening the screws on their processes, and the bankruptcy laws—which have to this point protected the lenders from losses—are now on the verge of change.

Even the loan-servicing component of the business is under pressure. For example, the Sallie Mae Corporation (SLM) is reportedly being investigated by the Department of Education because it hasn’t been funneling enough financially distressed borrowers into various government relief programs.

SLM isn’t just the country’s largest student loan company; it’s a securitization factory. The company’s monetary magicians render billions of dollars of the Federal Family Education Loan (FFEL) program loans they own into bite-size pieces the global investment community is more than happy to consume. Why? Because the loans are backed by the government.

But these investors are a stubborn bunch. They paid big bucks for FFEL-collateralized securities, which have been engineered to deliver a specific rate of return. So extending repayment terms or worse—reducing interest rates and/or forgiving principal balances—will negatively affect the ROR they’ve bargained for (and probably trigger a lawsuit or two, as well). That’s why the subcontracted loan-servicing companies promote temporary fixes, such as forbearances and deferments, instead of longer-term solutions. Meanwhile, cash-strapped borrowers continue to suffer.

Same Old Same Old

Given this torturous experience with the government-backed FFEL program, you’d think the folks in D.C. would have learned from their mistakes.

Think again.

Just before the Labor Day recess, both the executive and legislative branches were sounding pretty upbeat about reforming the nation’s mortgage-finance system. The idea they have in mind is to replace the Federal National Mortgage Association (Fannie Mae) and the Federal Home Mortgage Corporation (Freddie Mac) — the now-government-controlled financial backstops for the nation’s residential mortgage origination — with a private-market solution.

Housing prices have begun to rebound, and the inventory of unsold properties is diminishing. So for the feds to pivot from the role of “lender of last resort” (actually, the only lender of record, in the past several years) makes sense.

The thing is, though, the scheme that our representatives have in mind is worryingly familiar: they plan to lure investors back into the game with government guaranties.

There’s no doubt it will work. It sure did for the FFEL program, and it’s still working today: Sallie Mae is purchasing all the government-backed loans it can find from lenders that are exiting the business.

But what about after the newly government-guaranteed mortgages are securitized, which is all but certain to occur? What can consumers who’ve hit a financial bump in the road expect when they ask for relief in the form of a loan restructure or modification? Probably the same runarounds and heartaches that student-loan borrowers are experiencing today, especially since an increasing number of banks are selling off their mortgage loan-servicing rights to other companies.

Worse, the special interests have been busy lobbying for even weaker regulations governing the mortgage lending process. In fact, some are calling for the elimination of all underwriting standards from the prospective legislation so as not to deter private market participation. In other words, things such as down-payment requirements, minimum debt-to-income levels and even credit scores would not be linked to the financings that are ultimately to be guaranteed by taxpayers like you and me.

I don’t know about you, but I can’t figure out how the direction in which we seem to be headed is all that different from the miserable path we’ve taken before.

This story is an Op/Ed contribution to Credit.com and does not necessarily represent the views of the company or its affiliates.

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