Federal regulators offered new guidance for some private student loans on Thursday
Five federal regulatory agencies (Office of the Comptroller of the Currency, Board of Governors of the Federal Reserve System. Federal Deposit Insurance Corporation, National Credit Union Administration, Consumer Financial Protection Bureau) issued new guidance regarding private student loans with graduated repayment on Thursday, January 29th.
Understanding graduated repayment
Graduated repayment means making lower monthly payments at first, and the payments gradually increase over time (ideally along with your income). The regulatory agencies recognize that “students leaving higher education programs may prefer more flexibility to transition into the labor market because of a number of factors, such as competitive job markets, traditionally low entry-level salaries, and higher student debt loads.”
With graduated repayment terms it is easier to keep borrowers’ income levels balanced with loan repayment requirements, and you also have the flexibility to repay the debt sooner if your income increases rapidly. Furthermore, some evidence suggests graduated repayment may increase the probability of full repayment of student loans over the long run.
Principles for Private Student Loans with Graduated Repayment Terms
The new regulatory guidance notes that financial institutions should consider the following principles in their policies and procedures for underwriting private student loans with graduated repayment terms.
Ensure timely repayment — All private student loans should have defined repayment periods and encourage repayment throughout the life of the loan. Graduated repayment terms should be appropriately calibrated according to reasonable industry and market standards based on the amount of debt. Lenders should avoid negative amortization or balloon payments.
Avoid payment shock — Loan repayment terms should include monthly payments that a borrower can meet throughout the life of the loan. Graduated increases in monthly payments should begin relatively early and phase in the amortization of the principal balance to limit “payment shock” for the borrower.
Align payment terms with a borrower’s income — Graduated repayment terms should always make reasonable assumptions about the ability to repay of the borrower and cosigner. Lender underwriting should include an assessment of a borrower’s and a cosigner’s ability to repay the highest payment over the term of the loan. Avoid structuring loans in a manner that could mask delinquencies or defer losses.
Provide borrowers with clear disclosures — Financial institutions should always give borrowers disclosures in compliance with all applicable laws and regulations. Disclosures that clearly communicate the timing and the amount of payments improves borrowers’ understanding of the terms and features of their loans.
Comply with all applicable federal and state consumer laws and regulations and reporting standards — Private student loans with graduated repayment terms must also meet all relevant consumer protection laws. Applicable consumer protection laws include, but are not limited to, the Electronic Fund Transfer Act, the Equal Credit Opportunity Act, the Dodd–Frank Wall Street Reform and Consumer Protection Act, the Truth in Lending Act, and all regulations relating to those laws.
Contact borrowers before reset dates — The federal guidance also states that financial institutions should develop processes for contacting borrowers before the repayment period begins as well as prior to each payment reset date. Advance contacts help in making student loan debt a priority for borrowers and assists borrowers in being prepared for payment increases or other issues.