# Chapter VII Special Considerations for Direct Loan Schools

## A. Background

Schools that participate in the Federal Direct Loan program have similar
requirements as those that participate in FFEL. However, because there
are differences in the process, the following information may be helpful
to reviewers. Since the case management process includes gathering all
relevant information pertaining to the school, reviewers are to contact
the school's client account manager to gather information pertaining to
Direct Loan participation at the school prior to the program review.

## B. School Origination Options

Reviewers should determine the origination option in which the school
participates. There are three school origination options: Standard
Origination, Origination Option 1, and Origination Option 2. These
options define which loan processing functions a school performs and
which functions ED\'s Loan Origination Center (LOC) performs. The
origination option of the school is available on PEPS. A brief
explanation regarding each option follows.

Any school approved by ED to participate in the Direct Loan Program may
participate as a **Standard Origination** school. At this level,
responsibility and control are shared between the school and the LOC.

-   **Origination Option 1** schools perform more loan processing
    functions than Standard Origination schools, but the LOC still
    controls certain functions.

-   **Origination Option 2** schools have the most responsibility, but
    can choose to have the LOC do certain loan processing functions for
    them.

The main difference between Option 1 and Option 2 schools is that Option
1 schools may process prom notes, and Option 2 schools may process both
prom notes and draw down cash.

The following chart shows how responsibility for processing Direct Loans
is divided between schools and the LOC for each school origination
option:

+--------------------------------+-----------+-----------+-----------+
| **Responsibility**             | *         | **Or      | **Or      |
|                                | *Standard | igination | igination |
|                                | Orig      | Option    | Option    |
|                                | ination** | 1**       | 2**       |
+--------------------------------+-----------+-----------+-----------+
| Create loan origination        | -         | -         | -         |
| records                        |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Transmit loan origination      | -         | -         | -         |
| records to LOC                 |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Prepare promissory note        | **LOC**   | -         | -         |
+--------------------------------+-----------+-----------+-----------+
| Obtain completed/signed        | **LOC**   | -         | -         |
| promissory note                |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Send promissory note to LOC    | **N/A**   | -         | -         |
+--------------------------------+-----------+-----------+-----------+
| Calculate need for Direct Loan | **LOC**   | **LOC**   | -         |
| funds                          |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Request Direct Loan funds from | **LOC**   | **LOC**   | -         |
| GAPS                           |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Receive funds from GAPS        | -         | -         | -         |
+--------------------------------+-----------+-----------+-----------+
| Disburse loan funds to         | -         | -         | -         |
| borrowers                      |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Create disbursement records    | -         | -         | -         |
+--------------------------------+-----------+-----------+-----------+
| Transmit disbursement records  | -         | -         | -         |
| to LOC                         |           |           |           |
+--------------------------------+-----------+-----------+-----------+
| Perform reconciliation         | -         | -         | -         |
+--------------------------------+-----------+-----------+-----------+
| **Legend:**                    |           |           |           |
|                                |           |           |           |
| -   **= school\'s              |           |           |           |
|     responsibility**           |           |           |           |
|                                |           |           |           |
| **LOC = LOC\'s                 |           |           |           |
| responsibility**               |           |           |           |
|                                |           |           |           |
| **N/A = not applicable**       |           |           |           |
+--------------------------------+-----------+-----------+-----------+

## C. School Responsibilities

Schools are responsible for assuring that only students and parents who
are eligible to borrow Direct Loans receive funds from the program.
There are numerous borrower eligibility requirements outlined in 34 CFR
685.200, 34 CFR 685.300 (b) and 34 CFR 668, Subpart C. These
requirements are similar to the eligibility requirements for other Title
IV programs. Although the list is not all-inclusive, reviewers should be
aware of the following school responsibilities. These responsibilities
will be explained in further detail in this section:

a.  Originating Direct Loans (34 CFR 685.301)

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a.  Drawing down and disbursing Direct Loan proceeds (34 CFR 685.303
    (b), 34 CFR 685.303(c), and 34 CFR 668.164)

b.  Counseling students (34 CFR 685.304 (a) and 34 CFR 685.304 (b))

c.  Reconciling school-based Direct Loan records with records in ED\'s
    Direct Loan database (34 CFR 668.21 (b))

d.  Carrying out administrative and fiscal management functions (34 CFR
    668 Subparts B, K and L; 34 CFR 685.309)

e.  Reporting changes in borrower enrollment status to ED (34 CFR
    685.309 (b))

f.  Implementing a quality assurance system, as established by ED (34
    CFR 685.300 (b)(9))

For a complete listing of school functions see 34 CFR 685.300.

## D. Review Procedures

To become the official and legally binding obligation between the
borrower and ED, a note must be executed by the borrower and funds
disbursed to the borrower. A loan must also be "booked." There are three
components needed to book a loan:

-   the LOC accepts a loan origination record;

-   the LOC accepts a promissory note; and

-   the LOC accepts a disbursement record.

### 1. Loan Origination 

Procedure: Reviewers should check loan origination information for each
Federal Direct Loan recipient in the sample (34 CFR 685.301).

Regardless of their origination option, all Direct Loan schools are
responsible for originating loans. The Direct Loan origination process
is similar to the loan certification process in the FFEL Program. In
both cases, schools provide loan data on the eligibility of borrowers to
receive loans.

Schools originate a Direct Loan by first creating a loan origination
record (LOR) and then \"originating\" it in the software. This stamps
the LOR with the important \"origination date.\" (Note: It is possible
to create an LOR and save it, but not originate it.) The process of
originating a Direct Loan, as opposed to simply creating it, can be
likened to the actual certification of an FFEL program loan. The loan
origination record is the foundation for any Direct Loan. Without it, no
other processing can take place.

Schools (or their third party servicers) send loan origination records
directly to the LOC. When a loan origination record is accepted by the
LOC, two events occur:

a.  The LOC sends a disclosure statement to the borrower. (Schools can
    request ED to authorize them to print and distribute disclosure
    statements to borrowers, rather than having the LOC do it).

```{=html}
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```
g.  Depending upon the school\'s origination option, either the school
    or the LOC prints promissory notes and collects the signed notes
    from borrowers.

-   The LOC prints and collects signed promissory notes for Standard
    Origination schools.

-   Origination Option 1 schools and Origination Option 2 schools have
    the authority to print and collect signed promissory notes, although
    they can allow the LOC to do it for them. If these schools collect
    signed promissory notes from borrowers, they must forward the notes
    to the LOC.

When the LOC accepts a completed and signed promissory note, whether it
comes from a borrower or a school, it sends an acknowledgement to the
school.

***Helpful Hints for Origination:***

The Direct Loan Software contains useful information regarding the
origination and disbursement information for each Direct Loan student.
If the school is an EDExpress user, reviewers may find it helpful to
have the school print information from the origination and disbursement
tabs for each Direct Loan student in the sample. This will show the
borrower information, promissory note information, and the loan
information for **each** loan (the student may have Sub, Unsub, and/or
PLUS).

There is also a report that can be run from the Direct Loan Software
called the Origination Report. The report can be printed using the
\"multiple student\" option on the software. The SSN of every Direct
Loan student in the sample can be entered into the software to receive
origination information for **each** Direct Loan originated.

Reviewers should be aware that many schools do not use EDExpress, nor is
it required. If the school is not an EDExpress user, reviewers should
ask the school to provide the origination information for each student
in the sample from whatever system the school uses. This information
should include the loan information for **each** loan borrowed by the
student.

### 2. Drawdowns and Disbursements

Procedure: Reviewers should check disbursement information for each
Federal Direct Loan recipient in the sample (34 CFR 685.303 (b), 34 CFR
685.303(c), and 34 CFR 668.164).

When a school is ready to receive Direct Loan funds, it (or the LOC on
the school\'s behalf), makes a drawdown request to ED\'s Grant
Administration and Payment System (GAPS). The large percentage of Direct
Loan schools are Option 2 and thus make their own drawdowns. The
following is the process for all schools:

-   Origination Option 2 schools have the authority to make their own
    drawdown requests. Requests are made on the basis of estimates for
    disbursing Direct Loan funds. Requests for funds do not have to be
    borrower-specific.

-   The LOC must make drawdown requests for Standard Origination schools
    and Origination Option 1 schools. The requests must be
    borrower-specific.

Before disbursing any funds, schools must verify that:

-   a signed, completed promissory note has been returned by the
    borrower;

-   the borrower remains eligible to receive Direct Loan funds; and

-   the borrower is eligible to receive the amount of Direct Loan funds
    disbursed.

For a disbursement to be made, a valid, completed promissory note
(signed, dated, any changes initialed and dated) must be on file at the
school or the LOC. If a valid, completed promissory note is not on file,
the school may be liable for any disbursements. Reviewers should be
aware about the use of the Master Promissory Note (MPN), since
multi-year schools may have the student sign one note for their entire
borrowing career. Under the multi-year feature many students will be
able to obtain additional loans without having to sign a new MPN for
each academic year. Multi-year schools can accept a promissory note from
a previous year or a previous Direct Loan school. Single-year schools
can only accept a promissory note from the current academic year at that
school. Reviewers should be aware that there are differences between
multi-year and single-year schools. For more information regarding the
use of MPN, please refer to 34 CFR 685.102, Dear Colleague GEN-98-25, 34
CFR 685.402 (f), Dear Partner Letter GEN 00-03, and Direct Loan
Bulletins DLB 00-05 and 00-11.

Standard Origination schools and Origination Option 1 schools must
disburse funds to specific borrowers for whom drawdown requests were
made. If a school doesn\'t disburse funds to the intended borrower, the
funds must be returned to ED.

Origination Option 2 schools should time their requests for funding on
the basis of when they expect to disburse funds. These schools may
disburse available Direct Loan funds to any eligible borrower.

All schools must send their disbursement records to the LOC within 30
days of the disbursement date. In addition, if Direct Loan funds are not
disbursed within three business days of the date they were received from
ED, a school must either return the funds promptly, or if the school
meets the criteria for excess-cash tolerances in 34 CFR 668.166(b),
within seven days.

***Helpful hints for Disbursement:***

Again, remember that many schools do not use EDExpress. Some schools may
use their own system or private vendors. Other schools may use a
combination of EDExpress and their own system. In these cases, reviewers
should ask the school to provide them with the Origination and
Disbursement information from their own system that would be found on
the Origination and Disbursement Tabs of the Direct Loan Software (if
the school were an EDExpress user). This information should include the
disbursement information for **each** loan borrowed by the student.

For schools that do use EDExpress, reviewers may find it useful to have
the school print out the disbursement screen of the Direct Loan Software
for each Direct Loan recipient in the sample. This screen will show the
anticipated disbursements and the actual disbursements for each loan.

Reviewers may also request a \"List-Actual Disbursement\" report from
the Direct Loan software. This report can be produced for single
students or multiple student records. This report will provide reviewers
with a disbursement history for all students in the sample.

*Other Reports in EDExpress that may be helpful for reviewers:*

-   ***Measurement-Booked Status Report*** - This report can be run from
    the EDExpress Software. It contains a list of disbursement
    transactions with status flags for origination, promissory note, and
    disbursements.

### 3. Loan Counseling

Procedure: Reviewers should check to ensure that loan counseling
requirements have been met (34 CFR 685.304 (a) and 34 CFR 685.304 (b)).

Schools participating in the Direct Loan Program are required to conduct
entrance loan counseling and exit loan counseling for students.
Reviewers should ensure that these requirements are met at a Direct Loan
School just as they need to be met at an FFEL school. Since many
processes are becoming electronic, loan counseling is not necessarily a
paper process. Both FFEL and Direct Loan schools can access web-based
programs provided by FFEL lenders or the Direct Loan Program to conduct
loan counseling.

### 4. Reconciliation 

Procedure: Reviewers should check to ensure that the school has
reconciled Direct Loan funds (34 CFR 668.24 (b)).

Reconciliation is a process by which a school verifies that its Direct
Loan records match the LOC\'s.

**Monthly reconciliation:** There is a monthly reconciliation process
using a Direct Loan School Account Statement (DLSAS). The DLSAS is
similar to a bank statement. It contains cash and loan record
information that schools can use to compare the information in their
databases with the information that the LOC has. The LOC sends the DLSAS
to each school on a monthly basis. Since reviewers will ultimately be
reviewing the past two academic years at a school, they should request
the latest DLSAS from the school for the current academic year to
determine if the school is current in the reconciliation requirements.
The school has completed its monthly reconciliation when:

-   All differences between the DLSAS and the school\'s internal records
    (Direct Loan System and business office system) have been resolved
    or documented.

-   Timing issues have been identified and will be tracked for
    reconciliation in the next month\'s DLSAS.

-   Any necessary corrective actions have been taken to ensure that all
    the prior month\'s issues will reconcile in the following month.

-   All reconciliation efforts have been documented for future reference
    and review.

If the report shows the school is not in balance, reviewers should take
a closer look at the monthly reconciliation process by reviewing the
reconciliation history at the school to determine what process and
procedures are in place at the school for monthly reconciliation
requirements. Reviewers can also refer to Appendix P for more detailed
information and helpful tools about the reconciliation process.

Schools may be receiving DLSAS reports for up to three academic years
each month. The concurrent reconciliation efforts may result in
overlapping cash detail data, such as when a drawdown has been split
between award years. These multiple-year reconciliation efforts will
sometimes reveal global issues at the school that need to be resolved.

*If reviewers determine that Direct Loan reconciliation is an issue that
needs to be included as a finding, please refer to Program Review Item
\# 27.*

**Year-end closeout:** There is also an annual reconciliation process,
which is called the \"year-end closeout.\" It is similar to monthly
reconciliation because the main purpose is for schools to match their
internal records with the LOC\'s. However, instead of focusing on a
single month, it addresses the entire academic year. Closing out is the
process of reconciling all school information at the LOC and of bringing
all ending cash balances to \$0.

The year-end closeout process is complete when:

-   The school and the LOC each show a cash balance of \$0, indicating
    that the school has accounted for all Direct Loan funds received
    from ED.

-   All LOC transaction records match up to all school Direct Loan
    System transactions and business office transactions.

-   All actual disbursement records are booked at the LOC, so that the
    DLSAS reflects a \$0 unbooked balance.

Reviewers can determine if the school has reconciled prior award years
by reviewing a copy of the school\'s 732-LOS file. This file provides
ED\'s official ending cash balance for the school as of the date of the
report, based on the LOC\'s records. The 732-LOS file is sent by the LOC
to the school and comes as two text files-a summary file and a loan
detail file. The chief distinction between the DLSAS and the 732-LOS is
that the DLSAS contains data for a specific month, while the 732-LOS
contains year-to-date cumulative data. If this file indicates that the
school is in balance, this would be a good indicator that reconciliation
is not a major problem.

If the report is not in balance, reviewers should take a closer look at
the monthly reconciliation process by reviewing the reconciliation
history at the school to determine what process and procedures are in
place at the school for monthly reconciliation requirements.

Reviewers can also refer to Appendix P for more detailed information and
helpful tools about the DL reconciliation process.

*If reviewers determine that Direct Loan reconciliation is an issue that
needs to be included as a finding, please refer to Program Review Item
\# 27.*

### 5. Administration, Fiscal Control and Fund Accounting 

Procedure: Reviewers should check to ensure that the school is in
compliance with requirements for administrative capability, fiscal
responsibility, and fund accounting can be found in 34 CFR 668, Subparts
B, K, & L and 34 CFR 685.309. Reviewers should consider these
requirements when conducting the fiscal portion of the review.

The fiscal responsibility requirements for Direct Loans are similar to
that of all other Title IV programs. Some of the highlights of the
requirements related to maintaining and accounting for funds at Direct
Loan schools are as follows:

**Maintaining and Accounting for Funds -** All Direct Loan schools must
maintain a bank account into which ED transfers or the school deposits
Direct Loan funds. The account must be Federally insured or secured by
collateral of value reasonably equivalent to the amount of Direct Loan
funds in the account.

-   A school is not required to maintain a separate account for Direct
    Loan funds unless ED specifies otherwise.

-   Although Direct Loan funds may be kept in the same account with
    other Title IV funds, ED recommends that a separate account be
    established for Direct Loan funds. This separation of funds will
    help the school\'s cash management of Direct Loans. Reference: 34
    CFR 668.163(a)(1)

**Interest-Bearing or Investment Account -** Except in certain
instances, the account in which Direct Loan Program funds are deposited
must be an interest-bearing account or an investment account. Please
refer to 34 CFR 668.163(c) for specific requirements.

As with other Title IV programs, Direct Loan schools must maintain their
financial records in accordance with the record-keeping requirements in
the Title IV General Provision regulations (34 CFR 668.24).

**Excess Cash -** Excess cash is any amount of Direct Loan funds that a
school does not disburse to students or parents by the end of the third
business day after the school received the funds from ED. Unless a
tolerance applies, a school must promptly return to ED any amount of
excess cash in its bank account. Reference: 34 CFR 668.166

**Tolerances -** If a school draws down Direct Loan funds in excess of
its immediate cash needs, the school may maintain the excess cash
balance in its bank account only under the following situations:

-   During peak enrollment periods, a school may maintain excess cash in
    amounts of less than 3 percent of the school\'s total prior-year
    drawdowns.

-   For periods other than peak enrollment, a school may maintain excess
    cash in amounts of less than 1 percent of the school\'s total
    prior-year drawdowns.

For both these tolerances, a school must eliminate the excess cash
balance by disbursing funds to students or parents within seven calendar
days.

-   This means the school has a maximum of 10 calendar days to eliminate
    excess cash that qualifies under tolerance rules: the three business
    days plus the seven calendar days.

Note: Standard Origination schools and Origination Option 1 schools
receive funds that are borrower specific. These schools cannot disburse
funds to any borrower other than the borrower for whom the funds were
intended.

**Idle Cash -** Cash that has been disbursed becomes idle cash if and
when it is returned to the school\'s Title IV account(s). This return
may be due to a refund or other circumstances. For example, a student
might receive a disbursement, but later decides to return all or a
portion of the loan proceeds to the school.

A school may maintain idle cash in its Federal bank account for up to
seven calendar days to disburse it to, or on behalf of, the student. An
Origination Option 2 school also may disburse idle cash to other
borrowers. Provisions concerning excess cash in 34 CFR 668.166(b) do not
apply to idle cash.

**Returning Direct Loan Funds -** When Direct Loan funds are returned by
a school to comply with the HEA or applicable regulations (for example,
dealing with excess cash or a refund) the loan fee and any interest that
has accrued on all or the appropriate portion of the funds is refunded
to the borrower.

When funds are returned as a payment by a school, and it is more than
120 days after they were disbursed, the borrower still must pay the loan
fee and interest on the amount.

*Reviewers should refer to Program Review Item #11 for further
information regarding Return of Title IV (including Direct Loan funds).*

### 6. Reporting Changes in Borrower Enrollment Status to ED 

Procedure: Reviewers should check to ensure that the school has complied
with the reporting requirements for the Student Status Confirmation
Report (SSCR).

Federal law requires all Title IV schools-including Direct Loan schools-
to verify and/or complete and return any Student Status Confirmation
Report (SSCR) that ED sends it (34 CFR 685.309 (b)).

Within 30 calendar days of the date the SSCR Roster File is placed in a
school\'s Title IV WAN electronic mailbox, the school must review the
data, make any needed changes, and send NSLDS an SSCR Submittal File
through Title IV WAN.

See Program Review Item 33 for more information regarding SSCR Reporting
for both FFEL and Direct Loan Schools.

### 7. Implementing a Quality Assurance System

Procedure: Reviewers should ensure that the school has a quality
assurance system with both a qualitative and quantitative assessment.

Schools must develop and maintain a Direct Loan quality assurance
system. The quality assurance (QA) component of the Direct Loan Program
is a requirement of all institutions participating in the program. QA is
included in the statute authorizing the Direct Loan Program, as well as
in the regulations, 34 CFR 685.300 (b) (9), as part of the Program
Participation Agreement.

The quality assurance component of the Direct Loan Program is being
revisited and new guidance will be provided to schools in the near
future. In the meantime, reviewers should ensure that Direct Loan
institutions have a quality assurance component that includes a
qualitative and quantitative assessment.

## E. Other References for Direct Loans

[Direct Loan
Bulletins](http://www.ifap.ed.gov/IFAPWebApp/currentDLBulletinsListPag.jsp?p2=c)

[Federal Direct Loan
Regulations](http://www.ifap.ed.gov/IFAPWebApp/currentRegCompsYear2Pag.jsp?p1=31-DEC-1999&p2=c&p3=685&p4=WILLIAM+D.+FORD+FEDERAL+DIRECT+LOAN+PROGRAM)

[Cash Management
Regulations](http://www.ifap.ed.gov/IFAPWebApp/currentRegCompsYear3Pag.jsp?p1=31-DEC-1999&p2=c&p3=668&p4=STUDENT ASSISTANCE GENERAL PROVISIONS&p5=Cash Management&p6=K)

[2001-2002 Student Financial Aid Handbook, FFEL and Direct Loan
Section](http://ifap.ed.gov/sfahandbooks/0102Vol8DLFFEL.html)

Direct Loans School Guide (A Better Way to Borrow), Available from the
Direct Loan Staff or SFA Publications,

[Electronic Version of Direct Loan School
Guides](http://www.ifap.ed.gov/IFAPWebApp/currentDLSGuidesYearPag.jsp?p1=1998-1999&p2=c)

Appendix C (for Direct Loan sample Interview Questions)

[EDExpress Software](http://www.sfadownload.ed.gov/)

<http://lo-online.ed.gov./>

#