Lending

Invest in Gen Y

Careful underwriting and due diligence can make private student loans a valuable asset.

January 24, 2014
KEYWORDS gen Y , student loans
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If Gen Y represents the future of your loan portfolio, wouldn’t it be wise to offer the types of products and services these younger members need? One of the Gen Y products to consider is private student loans.

Some lenders would contend that private student loans are too risky and not profitable enough to warrant consideration. If other loan options are more profitable and less risky, they say, why even consider private student loans, especially when it could be a year or more before realizing significant returns? And after considering the rising risk of default, these lenders pass on the idea.

But where some lenders see problems, others see potential. They contend that private student loans perform well and are loans that college-age members—and their parents—desperately need. And, when it comes to credit union philosophy and balance sheet performance, many credit unions say it’s important to step into the gap and find ways to make these loans responsibly.

A changing landscape

A major turning point for student lending took place in 2010 when the Health Care and Education Reconciliation Act terminated the Federal Family Education Loan Program (FFELP). This program allowed financial institutions to originate and hold federal loans guaranteed by the U.S. government.

Another significant regulatory change occurred in 2007, when the government phased out the loan securitization market. Private student loans had been highly securitized. Without a secondary market, many of the existing lenders either reduced their origination volume or simply left the market entirely. Suddenly, lenders that had accounted for an estimated $20 billion in private student loans annually were no longer making those loans.

In addition, many states were passing similar legislation, including New York’s Student Lending, Accountability, Transparency, and Enforcement (SLATE) Act. The wave of new legislation and regulation prompted a lot of lenders to pull back even further from their relationships with college financial aid offices.

Market share

Credit unions have only a sliver of the private student loan market—$2.3 billion of the entire $150 billion in private student loans outstanding, or about 1.5% as of midyear 2013. About 600 credit unions, or approximately 9.1% of all credit unions, have private student loans on their books, according to Mike Schenk, CUNA’s vice president of economics and statistics.

Total (private and federal) student loans outstanding in the U.S. is estimated to be about $1.1 trillion, and approximately $850 billion of that are federal loans guaranteed by the U.S. government. The government provides these guaranteed loans, which aren’t initially underwritten, based on need. Federal student loans sometimes require significant restructuring based on the borrower’s income and ability to repay. Delinquency and charge-offs on these loans can be cause for concern.

Comparing federal loans to private loans is like comparing apples to oranges. Students receive private student loans after they reach the limit on federal loans, and these loans go through rigorous underwriting. The majority of private loans are co-signed, typically by parents, and most have variable rates.

Because of these significant differences, private loans are performing much better than their federal counterparts, industry experts say.

“Private student loans, when underwritten correctly, will perform quite well and are an excellent way to build relationships with Gen Y,” says Vince Passione, CEO of LendKey, a CUNA Strategic Services alliance provider. LendKey manages a private student loan portfolio for credit unions in excess of $500 million.

NEXT: Loan performance 

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