Guaranty Agencies: A Middleman in College Access Clothing
What do an appendix, plica semilunaris, and student-loan guaranty agency all have in common? They're all vestigial structures whose original purpose is no longer necessary. But unlike the first two examples, guaranty agencies are desperate to show -- despite all evidence to the contrary -- that they are still relevant.
As parts of a system known for its complexity and confusion (the Federal Family Education Loan Program, otherwise known as FFEL), guaranty agencies are the ultimate amorphous entity, branching out into numerous roles that are completely unrelated to their original purposes.
Soon after Congress created the FFEL program in 1965, it authorized the involvement of guaranty agencies (many of which were already in existence in the states), to encourage lenders to offer student loans by providing default insurance. Congress also gave the guarantors important oversight responsibilities, such as ensuring that only eligible students obtain federal loans, and that lenders make a concerted effort to keep delinquent borrowers from defaulting.
While it made sense for guaranty agencies to occupy these roles at a time when technological limitations made it difficult for solely the federal government to oversee FFEL, the program's current setup and recent oversight failures make it clear that guaranty agencies should not be the ones to carry out these functions.
Consider loan guarantees. Currently, all FFEL loans must be certified by one of the 35 guaranty agencies. If a loan defaults, the guaranty agency reimburses the lender for 97 percent of its loss. The agency then takes control of the loan and attempts to either get the borrower to begin making payments or start collection proceedings -- both of which result in compensation for the guarantor. But if neither effort is successful, the guaranty agency is reimbursed for nearly all of its losses by the U.S. Department of Education. Guaranty agencies can thus serve as little more than a pass-through of federal funds from the Department to the lender -- a middleman at its finest.
The oversight role, meanwhile, has been completely undermined by overly close ties between lenders and guaranty agencies. Take the relationship between Sallie Mae and USA Funds, the nation's largest guarantor. As The Chronicle of Higher Education outlined in a recent article, the two companies have a contractual relationship, in which USA Funds pays the lending giant a quarter of a billion dollars each year to handle nearly all of its guarantor functions - essentially putting Sallie Mae in charge of monitoring itself.
This problem of incestuous lender/guarantor relationships is far from novel. In 1993, for instance, the U.S. General Accounting Office (GAO) raised red flags about these types of relationships, warning that "many guarantee agencies have expanded their operations to activities that create serious conflicts of interest with their stewardship responsibilities in the program."
Given the superfluity of their guarantees and the ineffectiveness of their oversight, it's not surprising to see guaranty agencies stretching into other areas to show their relevance. In fact, guaranty agencies successfully lobbied Congress to insert a provision into a 2006 budget reconciliation bill that explicitly required them to take steps to promote college access -- a role completely unrelated to loan guarantees. Under that law, guarantors are to "promote and publicize information" for low-income students and those from traditionally underserved populations "on how to plan, prepare, and pay for college."
Now, guaranty agencies are using these college access activities to justify their continued existence -- and at least some members of Congress seem to be buying it. In June, caucuses representing black, Hispanic, and Asian American lawmakers sponsored a briefing touting guaranty agencies for their role in "enhancing higher education access and success for minority students."
In a letter to lawmakers announcing the briefing, the leaders of these groups praised guarantors for "support[ing] programs that promote higher education preparedness, access and success for students who are members of ethnic minority groups, including scholarships, early awareness programs, symposiums for minority-serving institutions, research to promote college access for minority students and Spanish-language college planning materials."
The real purpose of the event, which was co-hosted by USA Funds and Texas-based guarantor TG, was to show the damage that would occur to college access efforts if the FFEL program was eliminated, as the presumptive Democratic presidential nominee Barack Obama has proposed. Speaking at the briefing, Marshall Grigsby, a USA Funds board member and former top aide to Rep. William Clay (D-MO), warned that if FFEL is abolished, guaranty agencies "will disappear" and take all the positive college access benefits with them.
While we strongly support efforts to increase college access, we aren't convinced that guaranty agencies are the most appropriate entities to fulfill this purpose. For one, there is no accountability for how taxpayer dollars are spent on these efforts. Congress has put in place no standards for measuring success or effectiveness. And, there is no way to gauge how much federal money guaranty agencies are spending on this purpose.
If, however, guarantors really want to move in this direction, then perhaps it's time to shift the agencies' reimbursement and incentive structure accordingly. Rather than funneling billions of dollars through them as middlemen, Congress should provide guaranty agencies with a simple block grant to help run counseling and education services. In exchange, the Department would take on the reimbursement and oversight roles, functions it already handles or should handle. Collection activities, meanwhile, could be handed over to the same agencies that have already won the competitive bidding on the Direct Student Loan servicing contract. Using a block grant over the current haphazard system would also allow provide a way for overseeing the effectiveness of these efforts.
While these changes might decrease the number of guaranty agencies, that's not a bad thing, particularly for taxpayers. Like the appendix, these agencies have served their purpose, and are unlikely to be missed.