A Private Student Loan System Should Not Mirror the Federal Family Education Loan Program

Shifting student loans from the current government-as-lender model to the private market would be beneficial. As I recently reported, this shift would reduce malinvestment—educational spending that doesn’t justify its costs—while increasing accountability for colleges, improving incentives for both students and institutions, and fostering more informed decision-making through price differences.

But privatization is a broad bucket. For example, Mark Kantrowitz argues that some privatization plans, like those in Project 2025, “proposes reviving the old Federal Family Education Loan (FFEL) program.” I don’t think that is quite accurate. I was a contributor and know most of the people who worked on the education chapter, and I don’t think any of them would hold out FFEL as an ideal. But either way, there are lots of people who think privatization means FFEL.

But for privatization advocates like me, privatizing student loans isn’t worth pursuing if it means reestablishing FFEL. The biggest red flags to watch for are loan guarantees, interest rate subsidies, price fixing, and a lack of competition. FFEL, for instance, wasn’t lacking in competition, but it was guilty of overly generous loan guarantees and interest rate subsidies, which drove that competition to unhealthy extremes. The basic point is that privatization and FFEL should not be treated as one and the same. Indeed, in my recent paper on privatizing student loans, I include a subsection titled “Don’t Resurrect the Federal Family Education Loan Program,” which concludes with the following warning: “FFEL provides almost a perfect road map of mistakes to avoid when designing a private lending system.”

Fortunately, Kantrowitz doesn’t stop at FFEL but rather lays out the pros and cons of moving to private lending. He lists six costs, and each one is worth responding to.

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The first cost:

Reduced Access for Higher-Risk Borrowers: Private lenders may restrict access for borrowers with poor credit or those attending less-selective institutions, potentially requiring creditworthy cosigners or charging higher interest rates and fees.

This is likely correct as it relates to high-risk borrowers, but to a large extent, that is a feature, not a bug. Unfortunately, government lending often entails making loans that should not be made. A lazy student attending a low-performing college and majoring in a field with high unemployment can get the exact same loan as a hard-working student attending a top-performing college and majoring in a field with plentiful jobs. In contrast, private lending would offer a better loan to the less risky student. Would poor credit or attendance at a less selective college be considered high risk? It is possible, but that can also be addressed by importing the concept of income-driven repayment from government loans into private loans. Under income-driven repayment, the borrower’s payments are, say, 10 percent of their income, which essentially uses the student’s future earnings as collateral for the loan. With collateral, lenders won’t care nearly as much about credit history or the selectivity of a college, focusing more on earnings relative to debt.

The second cost:

Fewer Repayment Options: Many private lenders do not offer flexible repayment plans like income-driven repayment and graduated repayment. They may also offer fewer deferment and forbearance options.

I don’t think this is likely to be the case. Other private lending markets offer a vast range of plans. Mortgages are typically available ranging from 15 to 30 years, and some offer fixed interest rates while others offer variable rates. A private student lending market would likely witness similar diversity.

The third cost:

Elimination of Loan Forgiveness Programs: Borrowers would likely lose access to forgiveness and discharge benefits. They will be expected to repay their student loans in full.

Again, this is a feature, not a bug. It’s not really a loan if borrowers aren’t expected to repay in full. From a policy perspective, forgiveness tends to disproportionately subsidize low-economic return education, which is a wasteful policy we should stop.

The fourth cost:

Higher Costs for the Federal Government: Selling federal loans to private entities would require financial incentives, such as guarantees or subsidies, to make the loans attractive to private lenders.

This is only the case if there are loan guarantees or subsidies, both of which should be avoided like the plague in any privatization plan. One of the main benefits of private lending is moving away from indiscriminate lending, much of which finances malinvestment, to lenders that only have an incentive to make loans that facilitate worthwhile investments. Loan guarantees and subsidies sabotage that feature of private lending and should, therefore, be avoided.

[RELATED: Don’t Let Colleges Keep Ducking Accountability on Student Loans]

The fifth cost:

Administrative Challenges: Transitioning to privatization would be logistically complex, akin to the disruptions caused by the pandemic-era payment pause.

For new borrowers, I think the private system would be better. Both the old and the new system would entail setting up an account at a financial institution, but private institutions tend to operate more smoothly and have better customer service (e.g., the recent FAFSA fiasco was a government operation). However, Kantrowitz might have a point if the existing student loan portfolio is sold off since that would entail changes for those already in repayment. But this also isn’t new. Before I paid off my student loans, my loan was transferred around three times to a new servicing company. However, the extent of the administrative hassle on my end was updating the payment address. Annoying? Yes. Insurmountable challenge? No.

The sixth cost:

Decentralized Borrowing: Borrowers would lose access to a unified system like the NextGen student loan servicing platform, making loan management more fragmented.

This is true for borrowers who take out loans from different lenders. But most would consolidate, and even for those that don’t, sending payments to multiple lenders isn’t that different from sending payments to a few different utilities, which most Americans manage to do each month.

Overall, moving to private lending would vastly improve student loans. But not everything should be considered privatization. For example, a resurrected FFEL is more accurately thought of as cosplaying as privatization rather than being the real deal.

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