The writing is on the wall that student loans are about to change, and it might not be for the better. The overblown - and sometimes inaccurate - media coverage on the civil, criminal, and Congressional investigations into improper relationships between schools and lenders may bring more transparency to the student loan process, but could have harmful, unintended consequences. The alleged scandals and marketing tactics in the student loan industry are remarkably similar to two other industries that have had their own share of news headlines lately: the pharmaceutical and mortgage industries. If those two industries are any indication of where student loan direct-to-consumer (DTC) marketing is headed, students and families could be in for a bumpy ride.

Empowering the Consumer

Advocates of DTC marketing say that it empowers consumers because it delivers information directly to them, without filtration or tampering. MyRichUncle President Raza Khan has argued for some time that financial aid administrators hinder student loan market competition, harming students by restricting the benefits of a free market.

Many others agree that in a capitalistic economy the best way for students and parents to get the best loan products is to allow the market to work unfettered. In other words, remove financial aid administrators who are "stifling" competition through preferred lender lists and student loan counseling, and allow the lenders to compete and solicit directly to the prospective borrowers.

Proponents of DTC marketing contend that consumers are responsible for their decisions and the consequences of those decisions.

Drug makers have taken to that idea whole-heartedly, spending an estimated $4.1 billion on DTC advertising each year. A recent article in The New England Journal of Medicine found that from 1997 to 2005 DTC advertising increased by almost 300 percent. Over that same period of time, drug research and development increased by only 100 percent.

Doctors and pharmaceutical companies have taken a beating in the last several months as several studies have highlighted the "cozy connections between physicians and [drug] sales reps," according to the Chicago Tribune.

Many have alleged that doctors are prescribing medications based on their relationships with drug companies and not based on the best interests of the patient. The Chicago Tribune reports that "many good doctors resented being portrayed as naïve and shallow." The Tribune goes on to say that in recent years it’s not the sales reps that are the hardest drug pushers, it’s the patients.

Doctors are finding that as pharmaceutical DTC marketing continues to grow, more patients are seeking drugs "that aren’t needed or are more expensive than equally effective drug or lifestyle changes," reports the Tribune. In short, the drug company’s DTC marketing pushes products that patients might not need and normalizes prescriptions for conditions that could be handled by less extreme means.

The issues raised by DTC in the pharmaceutical industry raise a host of questions for the student loan industry. Will students and families be lured into student loans - especially private loans - before exhausting other forms of financial aid? Will student loan DTC marketing normalize the idea of excessive student loan debt? And, will students and families be more likely to choose more costly loan products because of their advertising? If the student loan industry follows the pharmaceutical industry, then the answers to these questions will be "Yes."

Those who argue that financial aid administrators should not help students choose their loans say that DTC marketing is the solution, but the idea that students would benefit without any assistance from the financial aid office fails to account for the complexities of the student loan market place and assumes a certain level of financial knowledge among borrowers.

Consumer Mistakes, Consumer Problems

Other industries have shown that the premise that student borrowers can and should choose their loan products without help from a neutral, third party assistance is a mistake. Take the mortgage industry, which has been engulfed in scandals recently. State attorneys general and state and federal legislatures have been examining the predatory lending tactics used by some lenders that give out "subprime" loans to borrowers who cannot afford them.

A February, 2006 article in Mortgage Banking found that as the mortgage industry has become increasingly competitive, lenders are turning to "innovative, strategic ways to market" their products. The same article urges mortgage lenders to "avoid getting desperate because that will produce more fraud."

But many experts fear it is too late for some consumers in the mortgage industry. DTC marketing has led many people to take out mortgage loans they could not afford. The result is a shocking 21 percent mortgage default rate nationwide, according to The Journal News. It’s not showing any signs of subsiding soon. The Wall Street Journal recently reported that defaults on subprime mortgages have risen 35 percent nationally in the first quarter of 2007 from just a year earlier.

Should the consumers be blamed for their own financial messes? Certainly they share a portion of the blame, but others feel that slick, DTC marketing tactics are also to blame. "It’s the superficial belief that a failure to take personal responsibility is at the root of most, if not all, consumer problems," according to a May 8, Kansas City Star article. The article goes on to claim that the personal responsibility argument can only go so far, much like "the farcical deceit of snake-oil salesmen that it’s your responsibility to not allow me to cheat you." "It comes down to, what kind of society do we want?" said consumer lawyer Dale Irwin in the same article. "Do we want a society that says, ‘If you get screwed, it’s your own fault’? That’s a blame the victim mentality."

Not all subprime lenders, just as not all student lenders, are bad. In fact, the majority of the student lenders are offering loan products that benefit students, and even offer below-market rates through borrower benefits. But as competition stiffens and student loan subsidies are cut, it is conceivable that the student loan industry could be heading down the same path as the mortgage industry, specifically in regards to its DTC marketing.

Remove Financial Aid Administrators, Solve the Problem?

Would students and families benefit if preferred lender lists were done away with altogether? Again, we can examine the mortgage industry for an answer.

The Journal News reports that while many families could have qualified for low-interest, conventional mortgage loans, they were gullible and enticed to agree to complex, subprime loans that became increasingly unaffordable over time.

Unfortunately, these practices have had the greatest negative impact on low-income borrowers. Consumer advocates decry the fact that while a home loan is the most complicated transaction a consumer may ever experience, there is almost no intermediary or advising available for consumers. If a mortgage is the most complicated transaction for consumers, a student loan could be the second most complicated.

Eliminating preferred lender lists or removing financial aid administrators from the student loan process would end the possibility of any unethical relationships between schools and lenders, but would do little to address the needs that families have when trying to choose the best student loan provider. In fact, most schools began compiling preferred lender lists in response to student and family requests for help.

It seems as if it would only be a matter of time before the student loan industry began receiving the same criticism as the mortgage industry for not providing enough counseling and assistance.

Regulating DTC Marketing Is Difficult

The pharmaceutical industry has shown that attempts by Congress to limit DTC marketing is usually met with stiff resistance. A May 2, article in The New England Journal of Medicine found that there is wide precedent that courts view advertising as a form of free speech. In 1980 the Supreme Court developed a set of criteria called the "Central Hudson Test," which is still used today to determine whether a ban on any DTC marketing is even permissible.

According to the article’s author, the "Central Hudson Test" is used by courts to determine whether DTC marketing can be banned or regulated. The test examines whether:

• Advertising is misleading
• Banning it directly advances a substantial government interest (e.g. preserving public health)
• The government’s interest could be met through a less restrictive route

The court has used those criteria throughout the years to uphold alcohol, tobacco, medical, pharmaceutical, and lending DTC marketing.

If the Student Loan Sunshine Act - which passed overwhelmingly in the House - is any indication, Congress believes that student loan DTC marketing can be regulated by requiring explicit and clear disclosures to students and parents.

But even disclosures can be misleading. In the case of predatory mortgage lending, The Wall Street Journal pointed out in a May 8, article how difficult it can be to control the type of information that is disseminated by lenders. For example, Congress recently considered federal laws currently used in North Carolina to protect prospective home buyers from predatory lending. However, an extensive review found that even after several years, the North Carolina law did not shield borrowers from "unsavory practices as much as proponents had hoped." In fact, after the state statute was passed, lenders adapted and found ways to replace their products and marketing in ways that legislators did not expect, according to The Wall Street Journal.

Alternative forms of advertising used by companies can complicate regulating DTC, because DTC marketing regulations do not distinguish between Internet advertising and other forms of advertising.

Recently, NASFAA found several examples of lenders using bloggers to inform and direct borrowers towards certain loan products. The bloggers generally set up their own sites and make it almost impossible for a reader to see that the blogger is affiliated with a lender. Other sites distribute loan information without clearly identifying that they are being funded by a specific lender, and may link students toward certain products or services of that lender. NASFAA found several sites that provided general information about student loans, but only directed users to a specific lender’s products or on closer inspection turned out to be a lender sponsoring the site inconspicuously.

Direct marketing also occurs on financial aid group Web sites that are hosted on popular Web sites like Google and Yahoo. Even though these group sites are created by individuals in an attempt to bring students together to discuss financial aid information, lenders also post on these sites to direct students to their loan products. How Congress could regulate these types of DTC marketing is unclear.

Legislative attempts have also been made to better guard consumer privacy from DTC marketers, but the process for consumers to have their names removed from all DTC marketing lists is cumbersome and difficult.

DTC marketers obtain consumer information in a variety of ways, but most often companies buy or "rent" lists of consumers from other companies with which the consumer does business. A February, 2007 U.S. News and World Report article found that one loan provider clearly states in their privacy statement that they "share customer information with outside companies that perform services for us or provide various financial products." These lenders share account details such as the size of a borrower’s loans, monthly payment amounts, and payment history, according to the article.

Unlike the national "do not call" list that consumers can use to stop receiving phone solicitations, there is no national "do not mail" or "e-mail" list that borrowers can use to avoid DTC marketing. Besides having to review all privacy policies from companies with which they do business, borrowers would also need to contact each individual credit bureau. While the credit bureaus do not share specific account information, they may sell lists based on certain criteria. For example, they could sell a list to a loan provider containing individuals that make over $40,000 a year, or who have recently taken out unsecured debt, or who pays their bills on time.

Borrowers would also need to contact the Direct Marketing Association’s Mail Preference Service, which maintains large lists of consumers from which companies can tap to find potential customers. Consumers that wish to opt-out of those lists would be required to pay a $1 opt-out charge, and then opt-out again every five years.

Downright Dirty Tactics

Then there are the downright dirty marketing techniques used by some loan providers to mislead students into action that could be detrimental to their financial futures. These are the lenders that send information to students marked "Confidential," "Open immediately," "Final Notice," and "Urgent."

Several schools sent NASFAA examples of mailings that their students had received and brought into the student aid office. Most of these mailings attempt to lead students and parents away from the financial aid office completely, steering them from federal student loans and other forms of financial aid.

For example, one solicitation promises students up to $40,000 a year, underscoring that the money would go directly to the borrower without having "to fill out any federal forms." Another private loan provider is sending out information to parents letting them know that "funds are now available to parents without all the complexity and restrictions associated with traditional student loan sources."

Other lenders mislead students and parents with inaccurate information. One student received a solicitation to consolidate immediately because of the "student loan tax" recently proposed in the President’s budget and in H.R. 5 that "would cause lenders to discontinue their rate reductions" that the borrower could be receiving on their current loans.

Another borrower received a letter from an unidentifiable lender with the notice, "REBATE ELIGIBLITY NOTIFICATION" printed on the outside. Inside the notice asked the student to "contact us immediately regarding your Federal Student Loans. Our records indicate that you may be eligible for a rebate up to $2,000."

These solicitations are often sent in disguise to resemble actual loan documents or worse, to look like government issued letters. These lenders use phrases like "from the Student Loan Department" or "Department of Student Finance" to try and confuse students. Others utilize a slightly altered, Department of Education insignia to draw students’ attention.

According to U.S. News & World Report, the Federal Student Aid Ombudsman has received about 100 complaints about inappropriate DTC marketing materials that suggest that the lenders are affiliated with the federal government. Those complaints are forwarded to the Federal Trade Commission, which reports it has received almost 600 complaints about deceptive DTC marketing practices by student lenders since 2000.

While these types of DTC marketing tactics are not the way most student loan providers do business, the few that do could do irreparable damage to students and families who lack the financial know-how to choose the best student loan.

Keeping Financial Aid Administrators In The Loop

Student loan DTC marketing shows no signs of diminishing any time soon. Attempting to regulate unscrupulous and misleading DTC marketing may be an important first step, if it can be done successfully, but as other industries have shown, the best method to help borrowers is to keep a neutral, third party involved. Critics of the pharmaceutical companies are frustrated by the fact that patients are too eager to try drugs that may not be right for them or cost too much. Mortgage industry critics bemoan the fact that there are few neutral parties to help borrowers sift through loan product solicitations. In the student aid field, that neutral party has always been the financial aid administrator on campus.

Recent headlines have called into question the neutrality of a few student aid administrators, but the majority of the 12,000 professionals in this field have a well-earned reputation for scrupulous honesty. In addition, current legislation, such as the Sunshine Act, as well as the industry’s intensified efforts to promote unquestionable ethics, may address many of those concerns.

Calls to sever the relationships between financial aid administrators from the student loan process and their ability to help and advise students on loan products will have serious effects for students and families who will be left to sort out good student loan products from the bad. As in the mortgage industry, those who are most likely to suffer are those who need help the most: the low-income families that are unfamiliar with financing and student financial aid.

By Justin Draeger
NASFAA Assistant Director for Communications

Posted 06/05/07 to www.NASFAA.org. Redistribution to non-NASFAA institutions is prohibited. Please submit Web Site questions or comments to Web@NASFAA.org.