US credit crunch hits education as banks abandon student loans

How will I finance college?
Suzy Jagger in New York
One of America’s leading banking associations has given warning that the United States faces a growing educational apartheid as some lenders withdraw from student loans amid new evidence that the credit crisis has spread across all types of borrowing.

In the past fortnight, some banks, including HSBC, have pulled out of the $85 billion (£42 billion) a year US student loans market, fuelling anxiety that the turmoil that hit debt markets on Wall Street last summer is spilling over into the wider economy and making credit more difficult to secure for ordinary American households.

In the US, many undergraduates take out a federal guaranteed loan and top up their financial needs with a private loan from lenders such as Bank of America, JPMorgan Chase and Citi-group. In the academic year 2005-06, $17 billion in private student loans was used to finance higher education.

Banks have become reluctant to offer private student loans because worsening credit conditions have meant that they cannot package up the loans and sell them on.

Although the brightest students who win places at America’s rich Ivy League universities will be affected less because of generous bursaries - which do not have to be repaid – less able students applying to other institutions are expected to face difficulty in securing private loans to fund their study. At one end of the field is Harvard University, with $34 billion of endowments, and at the other are many community colleges and low-tier universities with limited resources.

Joe Belew, president of the Consumer Bankers’ Association, said: “Some of the banks are getting out. Part of the reason is that Congress has cut the fees they could charge, making some loans pretty much unprofitable. But part of the reason is that they can’t securitise the debt. The problems they have had with mortgage-backed debt – it’s the same thing at play in student lending.

“We have talked to some of the banks about this. It’s a painful decision to pull out because of the nature of the clientele – everyone wants to be in the business of helping people get ahead, but at the end of the day you still have to deliver value to shareholders. At the moment, it’s a fine line between hanging in there and pulling out. It’s a murky situation.

“If the overall market is contracting, then those students with poor credit scores or without the rich uncle co-signers [loan guarantor] may have real problems funding themselves.”

Last week, Iowa Student Loan said that it would soon stop offering private loans altogether. The group, which made 29,000 student loans last year, said: “This is really a reaction to the economy’s recent situation, the sub-prime market in particular.”

Within the past fortnight, Montana Higher Education Student Assistance Corp said that a lack of appetite for buying debt such as student loans had led to its interest costs to finance such borrowing rising by a tenth, or $3.4 million, since the beginning of February.

Several members of Congress have urged the Bush Administration to stabilise the market after the National Association of Independent Colleges and Universities gave warning that student loans have become far harder and costlier to obtain since the credit crisis.

Last October, as the credit crisis on Wall Street was gathering pace, Washington introduced legislation limiting the returns that banks could extract from student loans.

Concern over funding for students is also spreading to Ivy League institutions. The University of Pennsylvania’s head of financial aid, William Schilling, has just written to banks demanding assurances they will continue to offer student loans.

Speaking to The Times, Dr Schilling said: “We want the banks to tell us whether they will continue to offer [federal] loans and private loans for the next academic year. The key thing is not just whether they will lend at all, but what the terms will be.”

Dr Schilling said that although some of the loans are guaranteed by Washington and are therefore “very low risk”, the market for them “has just gone away”.