A federal law requires that student-loan guarantors collect and deposit into their federal reserve funds a federal default fee of 1 percent of the new loan amount of Federal Stafford and PLUS loans. Among other things, this fee supports valuable services to help student-loan borrowers who experience difficulty making their payments to avoid the significant expense and serious consequences of default on their loans.
In addition, revenue from this fee is needed to fund student benefits contained in the legislation, including an overall reduction in fees charged to student-loan borrowers.
Here are answers to your questions about the federal default fee.
Why is a federal default fee
necessary?
What is the
authority for the federal default fee?
How is the federal default fee assessed?
Why does the fee have to be collected
from me?
Can I be assessed other loan fees?
How is the federal default fee used?
How does USA Funds prevent loan defaults?
How do the costs of a loan-default
compare with the costs of the federal default fee?
Why should I want USA Funds to guarantee my loans?
Why is a federal default fee necessary?
A guarantee fee or insurance premium, now known as the federal default fee, has been a long-standing and integral component of the Federal Family Education Loan Program, and its predecessor, the Guaranteed Student Loan Program, going back to the program’s inception in the 1960s. The federal default fee is used by the guarantor of a loan to maintain reserve funds to reimburse lenders in the event a student- or parent-borrower defaults (fails to repay a loan).
Based on this assurance that a lender will be partially reimbursed if a borrower fails to repay a loan, lenders are willing to make loans on favorable terms to college students, who otherwise would not meet the creditworthiness standards to receive these loans.
Budget experts at the U.S. Department of Education and the U.S. Office of Management and Budget have recognized the importance of this fee to the solvency of guarantor reserves and ultimately to the long-term stability of the FFELP, which is the largest single source of federal student aid for higher education.
top^
What is the authority for the federal default fee?
Section 8014 of the Deficit Reduction Act of 2005, which President Bush signed into law on Feb. 8, 2006, requires “the collection, and the deposit into the Federal Student Loan Reserve Fund . . . of a federal default fee of an amount equal to 1.0 percent of the principal amount of the loan.”
top^
How is the federal default fee assessed?
Typically, the federal default fee is deducted from your loan proceeds. For example, if you take out a $1,000 Stafford loan and you are charged a 1-percent federal default fee, you will receive $990 ($1,000 minus 1 percent). The lender collects the $10 fee and remits it to the guarantor’s federal reserve fund. You still must repay the full $1,000, plus interest and other loan costs.
top^
Why does the fee have to be collected from me?
The legislation specifies that the fee be collected and deposited into the guarantor’s Federal Reserve Fund. The language of the bill, however, states that the “fee shall be collected either by deduction from the proceeds of the loan or by payment from other non-federal sources.” So the legislation would permit a lender to subsidize (buy down) the fee, or a guarantor to subsidize the fee from a guarantor’s nonfederal operating funds, or permit the fee to be deducted from the proceeds of your loan.
top^
Can I be assessed other loan fees?
In addition to the federal default fee, federal law requires a Stafford-loan-origination fee, effective July 1, 2008, through June 30, 2009, of up to 1 percent to be paid to the federal government. Although the origination fee is collected by the lender, it is remitted to the federal government to offset the government’s costs of administering the student-loan program. Neither lenders nor guarantors receive any benefit from origination fees. Some lenders may pay some or all of a borrower’s origination fees.
top^
How is the federal default fee used?
Federal default fee revenues are part of a guarantor’s federal reserve funds. Although managed by guarantors, these funds are owned by the federal government. Federal law restricts the use of these funds to two purposes:
- Payments to lenders in the event a student- or
parent-borrower defaults or qualifies for loan discharge.
- Payments to support successful efforts by the guarantor to prevent borrowers from defaulting on their student loans.
top^
How does USA Funds prevent loan defaults?
USA Funds provides a variety of tools to prevent loan defaults. For example:
- Even before a student takes out a loan for college,
USA Funds provides information pamphlets, Web-based resources and loan
counseling to advise students about their obligations to repay their loans and
to provide useful information about managing and repaying their college debt.
- USA Funds offers colleges and universities, free of
charge, a financial-literacy program, USA Funds Life Skills®
, to help students
understand how to better manage their time and money, so that they can
graduate on time, with a minimum amount of debt and are prepared to
successfully repay their loans.
- If a borrower who is paying back a loan falls 60 days
or more behind in the required payments, the lender is required to contact USA Funds and seek its assistance in resolving the payment problems. USA Funds pays for hundreds of default-prevention specialists who contact borrowers who have payment problems, advise them of the options for resolving their past-due accounts and assist them in establishing a payment plan or requesting delayed or reduced payments. USA Funds’ default-prevention efforts have a success rate of better than 91 percent in preventing loan defaults and annually avert more than $16.7 billion in potential defaults. These efforts saved student- and parent-borrowers an estimated $5.5 billion in additional loan costs.
top^
How do the costs of a loan-default compare with the costs of the federal default fee?
Borrowers who default on their loans are assessed collection costs, accrue additional interest and are subject to other penalties, such as the loss of eligibility for additional federal student aid, adverse credit reports, the possibility of wage garnishment, seizure of federal and state income-tax refunds and benefit payments, the loss of professional licenses and potential civil lawsuits.
A good rule of thumb is that borrowers who default increase their loan costs by one-third. Thus, a borrower who defaults on a $5,000 loan balance typically would end up having to pay $6,650 to resolve the default. That’s a $1,650 additional cost due to default. For comparison, a 1-percent Federal Default Fee on $5,000 in Federal Stafford loans would cost the borrower $50. That’s a $50 charge compared with a potential cost of $1,650 for a loan default. So, the average cost of a loan default is 30-times greater than the cost of a 1-percent federal default fee.
By supporting guarantor default-prevention activities that save borrowers significant costs, the federal default fee truly is a cost-effective form of insurance against loan default.
top^
Why should I want USA Funds to guarantee my loans?
USA Funds provides valuable services to you and your career school, college or university. For example:
- We work with lenders to pay loan fees for borrowers
at many schools nationwide.
- Our strong default-prevention programs can help you
avoid the serious financial costs and damage to your credit that loan default
can incur.
- Our publications and Web features guide you through
the financial-aid process and help you if you encounter trouble repaying your
loans.
- We support hundreds of telephone representatives who
are available to answer your questions and assist you with your loan account.
- Our financial-literacy program offers training to
help you manage your time and money wisely, so you complete your degree on
time and leave school with a minimal amount of debt and with the preparation
necessary to successfully repay your student loans.
- USA Funds supports services that reduce paperwork and administrative burdens on you and your school and ensure that your loan dollars are delivered quickly and accurately to your school.
top^