House Democrats introduced legislation Friday to protect borrowers who pay their student loans on time from being placed in default when the co-signer dies or declares bankruptcy.
These “auto defaults” force borrowers to either immediately repay the loan balance or ruin their credit, endangering their chances of getting a job, renting an apartment or buying a car. The practice happens in the private student-loan market, where banks and other financial firms provide education financing.
Eight congressional Democrats, led by Rep. Rick Larsen (D-Wash.), want borrowers to be given at least 90 days following the death or bankruptcy of a co-signer to petition lenders to release them from the contract or find a new co-signer.
The bill seeks to make the criteria for the co-signer release more clear, transparent and easily accessible through the lender’s Web site. It also would prevent lenders from reporting auto defaults to credit bureaus and prevent the companies from listing such black marks on a borrower’s report.
“Students who have invested in their education by taking out loans and pursuing degrees should be treated fairly every step of the way, including by private lenders,” Larsen said. “And students should not be hit with marred credit records that could haunt them for years because of circumstances they can’t control.”
The troubling trend of auto defaults was brought to light last month by the Consumer Financial Protection Bureau in its mid-year report on student-loan complaints.
The consumer bureau highlighted grievances that have emerged with more than 90 percent of private loans now being co-signed. Of the 2,300 complaints about private student loans submitted to the bureau in the past five months, a key concern was the triggering of a default by the death or bankruptcy of a co-signer, even if the loan was being paid on time.
Private loans often require borrowers to have someone else co-sign the agreement to ensure repayment. The arrangement can lead to a lower interest rate for borrowers because co-signers are obligated to repay the loan if the borrower does not.
Lenders will usually release a co-signer from the loan agreement if the borrower has made consistent on-time payments. But some lenders and loan servicers — the middlemen who accept and apply payments to the debt — have borrowers jump through additional hoops to get such a release, according the report.
Servicers and lenders ask for proof of graduation, transcripts, employment or salary, and even conduct credit checks. Consumers have complained that lenders have inexplicably changed the requirement for the releases.