More colleges replace banks for student aid

Tufts University expects to earn at least $1 million this year by lending tuition money to its graduate students, and Simmons College will make nearly that much -- both among the growing number of colleges playing the role of banks to their own students.

As tuition rises, colleges are increasingly seizing on a 1965 law that allows schools to act as lenders, charging students about the same interest rate as banks would. Although there aren't any official statistics, it is estimated that about 70 schools nationwide are now acting as lenders, many of them new to the practice in the last few years.

As their numbers grow, so does the criticism that schools like Tufts and Simmons don't belong in the business of lending money. School leaders say the arrangement saves money for both students and colleges, but to some it presents a conflict of interest: Nonprofit colleges are essentially profiting from higher tuition, since the more money students need to take out loans, the more the colleges earn from their payments.

''It seems to me they've crossed the line from being an institution of higher education to being a business entity seeking loan volume," said Eileen K. O'Leary, associate vice president for finance at Stonehill College and chairwoman of the National Direct Student Loan Coalition, a group that advocates a rival lending program.

Officials at colleges that have decided to participate in the school-as-lender program couldn't see it more differently.

''We are in fact taking money away from the banks and giving it to our students," said Humberto F. Gonalves, vice president for finance and treasurer at Simmons, which is in its fourth year of lending to its graduate students. ''It's a modern version of Robin Hood, almost."

For student borrowers, the loans aren't much different from bank loans, and can be somewhat cheaper. At Tufts, students borrowing directly from the college don't have to pay the usual 3 percent ''origination fee," and they get discounts for making their payments on time. And critics have not shown any link between the loans and higher tuition.

As the practice becomes more widespread, however, some members of Congress are debating whether the program should be changed, or even abolished.

Congress first allowed schools to become lenders in 1965, when local banks often refused to loan money to students from far away with no credit history. But banks became increasingly eager to make student loans themselves, and in 1979 the program was limited for the most part to graduate students.

Few schools had the cash on hand to lend to their students, and so the program wasn't very popular. But in the last few years, loan companies have started enticing colleges with favorable deals. A university doesn't even have to put up its own money up front -- it can borrow the cash from a bank. The loans are the same federally guaranteed loans that banks offer, and college finance officers report receiving dozens of phone calls from counterparts at other schools who want to know how it's done.

This is how it works: The university makes a loan to a graduate student, either with its own money or borrowed funds. At some point, the school sells the loan to a bank, which pays a premium for it and then eventually collects from the student. This premium is what provides the bulk of the school's profit.

Graduate students are not required to get their loans from the school, but many are attracted by the ease and the discounts. Since Tufts began its lender program last year, about three-quarters of the school's 4,000 graduate students have signed up.

''If this creates a little more competition in the marketplace, that's a wonderful outcome for students," said Tom McGurty, vice president for finance and treasurer.

Tufts is lending about $40 million this year and earning 2.5 percent in premiums, about $1 million, by selling the loans. All of it goes into need-based financial aid, McGurty said. (Specific deals differ, and many schools earn a higher percentage. Simmons earns $950,000 on a loan volume of about $12 million.)

Most schools, like Tufts, say they use these profits to bolster their financial aid programs for needy students. Opponents say there's no way to tell that the money really gets used for aid, rather than just replacing aid money so schools can spend more elsewhere on campus.

''There is no hard evidence that the school-as-lender program has resulted in an increase of aid for students," said John Dean, special counsel for the Consumer Bankers Association, which represents banks that make student loans, and has lobbied against the school-as-lender program.

McGurty counters that the aid budget at Tufts has grown much more than the revenue from the lending program, though he declined to specify how much.

Many of the most vocal critics, such as Dean and O'Leary, come from sectors that would benefit from dismantling the school-as-lender program. Banks would make more money if the practice were banned. O'Leary's coalition represents the direct loan, in which the government is the lender and earns the interest. Some schools that have started lending to students have left the federal direct loan program, although the two are not mutually exclusive.

US Representantive Dale E. Kildee, a Michigan Democrat, became alarmed when Michigan State University dropped out of the direct-lending program in part to make its own loans, because Kildee says direct lending saves the government money. Kildee asked the General Accounting Office to investigate whether schools may be misusing school-as-lender regulations, and the results are expected soon. He said he thinks the practice amounts to a conflict of interest and should be severely restricted or stopped.

As the law stands now, some of the schools' profit must be used on need-based aid, but the premiums they earn from selling the loans to a bank can be used on anything. Simmons says most of its premiums go toward need-based aid, but some go into scholarships used to lure top students. Republicans introduced a bill last year that would have required all profits to be used on need-based aid only, but the bill was not taken up by Congress and lawmakers will have to start over again next year.

''The question of how the money is used is critical," said Brian K. Fitzgerald, staff director of the Advisory Committee on Student Financial Assistance. ''The farther off of need-based aid you get, the more you open institutions up to the charges of simple profiteering."

Marcella Bombardieri can be reached at bombardieri@globe.com.