Federal Student Loans: Key Weaknesses Limit Education's Management of Contractors
Released: 2015-11-18T00:00:00

Letter

Background

Under the Direct Loan program, FSA issues several types of loans to students and their parents, including Subsidized, Unsubsidized, and PLUS Loans. The federal government sets limits on the interest rate, loan origination fees and other charges, and annual and aggregate amounts that can be borrowed. There are several repayment plans available to borrowers, including a range of income-driven repayment plans. In addition to being in repayment status, loans may be in: (1) deferment: a period during which repayment of a loan is temporarily suspended—such as while a student with undergraduate loans pursues additional higher education, or in (2) forbearance: a temporary postponement, extension, or reduction of loan payments for up to 12 months that is authorized when a borrower cannot make scheduled payments for certain reasons, such as financial hardship. Interest continues to accrue on loans in forbearance, while the government pays the interest on subsidized loans in deferment. While loans are in repayment, deferment, or forbearance status, they are serviced by contracted service providers.

Management of Defaulted Student Loan Information System Upgrade

In 2003, FSA entered into a 5-year, performance-based contract known as Common Services for Borrowers to improve the management of student loans following disbursement. The contractor was the sole loan servicer for the Direct Loan program and was also expected to modernize and integrate four separate information systems, including for loan servicing and debt collection. However, the contractor experienced significant software development delays and FSA canceled the systems integration effort in May 2007. FSA then began exploring options for upgrading the defaulted loan information system in 2009, and invited six firms, including the original system contractor, to submit proposals. The original contractor subsequently offered to upgrade the system at no additional cost to the government. In June 2010, FSA canceled the request for proposals and modified the original contract to include the upgrade.

Beginning in 2009, FSA entered into performance-based contracts with additional loan servicers. These contracts were awarded as part of FSA’s strategy to improve servicing performance by fostering competition among vendors. Currently, FSA has contracts with four Title IV Additional Servicers (TIVAS) and six not-for-profit (NFP) servicers. Loan servicing includes such activities as communicating with borrowers about the status of their loans, counseling borrowers on selecting repayment plans, and processing payments.

In administering the Direct Loan program, FSA uses numerous tools and activities to oversee the performance of its contractors, including loan servicers and others that provide services in support of student loan administration. FSA issues instructions and guidance to servicers to manage the program that range from guidance on day-to-day operations to contractual changes servicers must implement. In addition to providing written communications, FSA meets with servicers to discuss program operations and policy. FSA also conducts various monitoring activities, including monitoring selected calls between servicers and Direct Loan borrowers to ensure both acceptable customer service and servicer compliance with statutory, regulatory, and contractual requirements.

Lack of FSA Guidance and Instructions to Servicers Results in Inconsistent and Inefficient Services to Borrowers

Some FSA guidance and instructions to servicers is inadequate, resulting in inconsistent and inefficient services to borrowers. While FSA has taken some steps to provide more Direct Loan program guidance and instructions to servicers, six out of the seven servicers we interviewed reported various issues resulting from absent, unclear, and inconsistent guidance and instructions from FSA. As a result, borrowers are likely to have different experiences with the Direct Loan program.

FSA has made some effort to respond to servicers’ concerns about its program instructions. For example, in a white paper to FSA, three servicers suggested ways FSA could improve how it provides instructions on program changes. In response to these suggestions, FSA officials told us that they are planning to implement training on the current process for providing instructions in November 2015, and that they now discuss each new instruction with servicers, including any instruction that needs clarification. In addition, FSA officials said they recently put a number of processes in place to assist servicers with implementing a new income driven repayment plan, including job aid documentation to help servicers with their development of training and systems. Nevertheless, we identified a number of inconsistencies caused by a lack of guidance and instructions, such as the following:

One servicer we interviewed reported that there is a lack of instructions from FSA for some aspects of the Direct Loan program, such as how to apply borrower over- or underpayments to a borrower’s balance. This servicer stated that it is clear how they should generally apply borrower payments to student loan balances; however, if borrowers do not provide specific instructions on how to apply a payment that is over or under the monthly payment amount, servicers then have to decide how to apply this to the borrowers’ balances. For example, according to this servicer, if a borrower has multiple loans, some servicers spread an overpayment amount evenly across all loans, but other servicers target the higher interest loans first. This servicer also said that FSA has not communicated with them on how to standardize application of such payments. FSA officials stated that they are in the process of working with the Consumer Financial Protection Bureau on establishing a consistent approach for the application of over-and underpayments, but they do not know when this will be finalized. They added that any related requirements for servicers would likely be included when they recompete servicer contracts in early 2016.

A servicer reported that FSA does not provide sufficient guidance on all documentation that is allowable for income-driven repayment plans, and as a result, each servicer is left to interpret what some of their borrowers submit for proof of income. For example, some servicers treat retirement benefits as income, while others do not. This could potentially cause similarly situated borrowers in the same income-driven repayment plan to have different monthly payment amounts or prevent some from qualifying, depending on who services the loan. FSA officials acknowledged that due to difficulties in deciphering alternative income documentation, servicers could interpret income differently. They also stated that it is difficult to craft guidance that would address the range of these issues. In addition, officials told us that they have finalized a new income-driven application protocol that further outlines processing rules and guidelines. However, this protocol does not provide additional guidance on how servicers should interpret income documentation.

Three of the servicers we interviewed said FSA has not provided clarification on industry guidance for credit reporting that FSA has directed them to follow. For example, because the industry guidance does not account for specific aspects of the Direct Loan program, it is unclear how servicers should handle credit reporting for unique, program-specific borrower statuses, such as borrowers who had poor credit reports filed right before they were approved to postpone or reduce their payments. As a result, some servicers removed bad credit reports for some borrower statuses while others did not. FSA officials said they were aware of issues with inconsistent credit reporting, and were coordinating with other federal agencies on a review to better understand the impact of student lending on a consumer’s credit score, and that it will be the basis for issuing guidance to create consistency in credit reporting. However, FSA officials could not tell us when this review will be completed. They said that when the review is finished, they expect to implement the new guidance next year.

FSA is not consistently sharing all clarifications on Direct Loan program instructions with all servicers. Servicers told us that when they ask follow up questions about instructions from FSA, FSA does not routinely share its responses with all servicers, resulting in different servicers potentially receiving different information about the same instructions. For example, one servicer we interviewed expressed concern with the lack of clarity in FSA instructions to address differences across servicers on how interest is applied to loans. According to FSA officials and one servicer that we spoke with, FSA has taken some action to address this lack of consistent instructions, including implementing a new directive to standardize the treatment of interest, developing test scenarios for servicers to use to ensure requirements are consistently implemented, and forming a work group of servicers and FSA staff on this issue. However, this same servicer also pointed out that despite these efforts, additional FSA guidance is in process and still outstanding, and FSA continues not to share questions and answers or clarifications on this issue. FSA officials stated that due to the complexity of the program not all guidance was applicable to all servicers, however they plan to move toward a more consistent process when they recompete servicer contracts in early 2016.

Servicers expressed the need to further standardize certain aspects of the Direct Loan program and offered several suggestions for improving program servicing consistency through better guidance and instructions. For example, five out of the seven servicers we interviewed stated that overall, they would like FSA to provide more information and clarity on FSA’s instructions. Four servicers also expressed the need for a common manual for Direct Loan servicers, similar to the one that exists for the Federal Family Education Loan (FFEL) Program—a program under which loans were provided by nonfederal lenders and repayment guaranteed by the federal government that would describe and help clarify current student loan requirements. While FSA and servicers share information about the Direct Loan program with borrowers in multiple ways – including online and by email and mail – there is no single manual like this that servicers and borrowers have access to. One higher education association representing financial aid professionals said such a manual should be made widely circulated so borrowers can confirm information on the Direct Loan program themselves. FSA officials told us that when they begin the process of re-competing the contracts for Direct Loan servicing next year, they will evaluate the need for a common manual.

One of FSA’s strategic goals is to “develop efficient processes and effective capabilities that are among the best in the private and public sectors,” and federal internal control standards state that information should be communicated to those who need it, in a form and within a timeframe that enables them to carry out their responsibilities. Without clear, sufficient, and transparent guidance and instructions to ensure that the Direct Loan program is executed more efficiently and effectively among servicers, borrowers may continue to have inconsistent experiences with the program.

FSA’s Monitoring of Calls between Servicers and Borrowers Has Methodological Weaknesses and Is Poorly Documented

Key weaknesses limit FSA’s ability to monitor servicers’ interaction with borrowers and ensure servicers provide accurate information and good customer service. FSA’s Strategic Plan includes a goal to provide superior service and information to borrowers, including taking a data- driven approach to better understanding customers and enhancing customer-facing processes to improve the customer experience. As part of its oversight of Direct Loan servicers, FSA monitors a sample of live and recorded telephone calls between servicers and borrowers, with the stated aim of ensuring exceptional customer service with the greatest accuracy. FSA officials told us they began call monitoring in 2004, but until recently, the agency only monitored incoming calls, which are calls that servicers receive from borrowers. It also did not include any calls from a subcontractor one large servicer was using, even though the subcontractor made most of that servicer’s calls to delinquent borrowers. In January 2015, in response to a report from Education’s Office of Inspector General, FSA began monitoring incoming calls to all subcontractors, and soon afterward began monitoring outbound calls from servicers and subcontractors.

However, we found that FSA’s approach to call monitoring contains notable methodological weaknesses. Our analysis of FSA’s monthly reports since it started reporting on outbound calls in March 2015 through July 2015 shows that, of all calls FSA monitored, outbound calls constituted an average of only 9 percent. FSA officials told us they do not know how many outbound calls servicers make, but noted they are far more prevalent than inbound calls. They added that some outbound calls result in a servicer leaving a message rather than having direct contact with a borrower. However, one servicer told us it participates in over 60 times more outbound calls than inbound calls, and all seven servicers we spoke to said outbound calls were a primary method of contacting borrowers in delinquency and approaching default. Therefore, by focusing its efforts primarily on inbound calls, FSA may not be focusing its call monitoring on the most frequent and critical types of calls.

In addition, FSA relies on servicers to select recorded calls for its review but has not developed a rigorous methodology that would produce a consistent process among servicers. FSA officials told us that, in the aggregate, approximately 60 percent of the calls they review are live, while the other 40 percent are recorded, though the percentages vary by servicer. For recorded calls, the only guidance FSA provides servicers is that calls should be random; the office does not further delineate how it wishes servicers to select calls to ensure they follow a comparable process. Specifically, FSA’s Monitoring Procedures guide states that FSA will review a sample “taken from randomly provided recorded calls,” without defining additional parameters, such as whether to draw a random sample from all calls or to ensure the sample includes calls on specific topics. FSA officials confirmed that they do not have specific methods for how servicers should select calls to send, nor do they verify the servicers’ call selection process to ensure both its integrity and that calls are being selected in a consistent manner over time and across servicers. The Office of Management and Budget’s (OMB) best practices for conducting data collection state that agencies should ensure sample designs will yield the data required to meet the data collection effort’s objectives — in this case, ensuring servicers provide exceptional customer service to borrowers with the greatest accuracy. Without a more rigorous methodology and verification process, FSA cannot ensure it reviews a good representation of calls between borrowers and servicers, or that its review is comparable across servicers and across time. FSA officials said they are in the process of implementing more detailed guidance to servicers on selecting recorded calls for review, and they hope to finalize it before the end of the year. According to the draft guidance, servicers will provide a large sample of calls from which FSA will select a subsample. If implemented, this method of selection could provide greater consistency than the current process. However, FSA plans to instruct servicers to include only half as many outbound calls as inbound calls in their sample.

Furthermore, the results of FSA’s call monitoring are poorly documented, limiting their usefulness for management purposes. Standards for Internal Control in the Federal Government state that information should be recorded and communicated to management and others who need it, in a form and within a timeframe that enables them to carry out their internal control and other responsibilities. However, although FSA began call monitoring in 2004, it did not summarize the results of its call reviews until September 2014. When we asked FSA officials why there was no earlier documentation of call monitoring results, they said they had always shared results verbally with individual servicers and have only recently begun further formalizing the process, including providing written feedback to individual servicers starting in June 2015. We examined the 11 monthly summary reports, from September 2014 through July 2015, that were available at the time of our review. These reports are used for FSA management purposes and summarize results from all servicers, and we found they lacked some key information. For example, one month’s summary did not include the total number of calls monitored or the number of calls that did not pass the review. Furthermore, report information sometimes appeared inaccurate or conflicted from month to month. For example, the January 2015 report notes that 10 percent of calls that did not pass review had forbearance issues (such as the representative not properly qualifying a borrower for forbearance), and noted that this is a decrease from previous months. However, the November 2014 and December 2014 reports do not list forbearance as a reason calls did not pass the review, and as a consequence, any decrease cannot be confirmed through FSA’s reports.

In addition, the monthly summary reports do not capture the full extent of specific problems, because they only focus on issues that surface in calls that do not pass the review. FSA officials said the database used to record its call monitoring results automatically designates a call as having failed the review when the reviewer notes four or more errors. These errors can range from breaches of etiquette — such as the customer service representative not conducting the call in a pleasant manner — to issues of accuracy, such as the representative providing incorrect information about repayment options. Because the monthly summary reports only note the reasons for calls that fail the review, they do not reflect issues that occur in calls with 3 or fewer errors. For example, if a customer service representative fails to answer all of a borrower’s questions, but does not compound this problem with 3 additional errors in the same call, the summary report does not capture this information. Standards for Internal Control in the Federal Government state that internal control monitoring should assess the quality of performance over time. Because not all errors identified in call monitoring are captured in FSA’s monthly reports, the reports do not reflect the actual prevalence of particular problems in the calls the agency monitors, and consequently, are insufficient for FSA to analyze the results of its call monitoring over time to inform its management activities. FSA officials said they are aware of the issues with the summary reports and are working to improve their accuracy, consistency, and utility for managers.

FSA’s monitoring of servicer phone calls is designed to assist the agency in meeting its goal of providing superior service and information to borrowers, by providing a direct opportunity to monitor how servicers interact with borrowers. However, without a systematic approach to conducting reviews of both inbound and outbound calls and documenting the results of all call reviews, FSA is missing opportunities to target its oversight and improve services to borrowers.

FSA Has Taken Some Steps to Improve Oversight of Loan Rehabilitation

FSA has taken some steps to improve its oversight of loan rehabilitation in response to our March 2014 report. In March 2014, we found that, because of limited planning and oversight, FSA was unable to provide most borrowers who completed loan rehabilitation with timely benefits for more than a year following the October 2011 upgrade of its defaulted loan information system. As a result, borrowers who made a good faith effort to rehabilitate their loans experienced delays in having the defaults removed from their credit reports and reinstating their federal student aid eligibility.

As of March 2014, FSA reported that the original information system, which had been in place since 1989, had become costly to maintain and many manual workarounds had been developed over the years to address emerging requirements. FSA officials said it was also necessary to upgrade the system to handle the increased loan volume that the office was responsible for servicing. However, we found that in moving forward with the upgrade, FSA did not conduct appropriate levels of oversight to ensure successful completion of the work. Specifically, Education’s own Departmental Directive: Contract Monitoring for Program Officials identified several risk factors that indicated greater contract oversight may be needed, and we found three were applicable to the system upgrade, as shown in table 1.

Despite these risks, in March 2014, we reported that FSA did not have plans in place for monitoring the upgrade, and we found limited evidence of oversight conducted. For example, FSA had not updated its monitoring plan for the system contract until about a year after the upgrade work began and performance problems, such as missed deadlines, had occurred. FSA officials also acknowledged that they had not documented many of their monitoring activities. Moreover, we found FSA’s testing of the new information system, which began in February 2011, was insufficient to detect problems associated with loan rehabilitation. For example, FSA had not learned until shortly after the launch that the system did not recognize when borrowers had made nine on-time payments in 10 months because it had not tested this function. Officials explained that testing in a 7-month time frame did not allow loan rehabilitation to be fully tested.

As a result of the system challenges, no loan rehabilitations were processed from September 2011 through March 2012, and FSA officials said they needed until January 2013 to clear the resulting backlog (see fig. 1).

As we previously reported, soon after the upgrade began, FSA worked with the contractor to identify and correct the problems and took some steps to hold the contractor accountable and assist borrowers.

Efforts to hold the contractor accountable. While the system upgrade was completed at no additional cost to the government, the contractor also provided other services under the contract, such as loan servicing and providing FSA with access to its data centers. In September 2011, FSA began assessing the contractor financial penalties due to implementation delays. In February 2012, when the problems were still not resolved, FSA notified the contractor via a cure notice that it could default on the contract unless adequate progress was made on the upgrade issues. In November 2013, FSA reported withholding approximately $14 million from total payments to the contractor for other services provided under the contract.

Efforts to assist borrowers. FSA established procedures in November 2011 to assist eligible borrowers by removing defaults from their credit reports or reinstating their eligibility for student aid. However, borrowers had to contact the department or their collection agency to receive the assistance.

As we reported in March 2014, when FSA’s upgraded information system began processing loan rehabilitations in April 2012, the system still did not always recognize that eligible accounts had satisfied the requirements for loan rehabilitation. As a result, FSA had to implement system workarounds and begin manually processing loan rehabilitations. While FSA officials reported they stopped using manual processing in September 2013, they acknowledged that the system still required workarounds and a substantial amount of development work was needed to address remaining issues. At the time of our March 2014 report, FSA expected the work to be completed under a new contract, which was awarded in September 2013.

To strengthen FSA’s oversight of the defaulted student loan information system contract, in our March 2014 report we recommended that FSA take steps to ensure that the final monitoring plan for the new contract identified risks and the oversight activities planned to address them. FSA agreed with the recommendation and reported that it has developed a contract monitoring plan that tracks explicit deliverables related to key risk areas and is using a management approach that includes risk monitoring and mitigation strategies. FSA also reported working with an independent verification and validation service to ensure that the new system contractor establishes the appropriate controls and processes. While these are positive steps, Education’s Office of Inspector General recently reported ongoing concerns regarding Education’s oversight of the system contract. For example, the Inspector General found that FSA did not update its plan for correcting the defaulted loan information system deficiencies until more than 9 months after the new contract work began, a delay that raises questions about the level of oversight FSA is providing. Accordingly, we will continue to monitor how FSA builds upon and sustains these efforts over time to ensure it is providing appropriate levels of contract oversight.

In March 2014, we also found that FSA lacked data and related performance measures to inform its management and oversight of loan rehabilitation. According to FSA’s Fiscal Year 2011-2015 Strategic Plan, Education needs to be able to collect, analyze, and use customer data to achieve its goals of providing superior service and information to students and ensuring program integrity and safeguarding taxpayers’ interests. Even though FSA was able to track the number of loans being rehabilitated during the system transition, it had not developed performance data to assess the number or extent of individual borrower delays, or the extent to which borrowers who rehabilitate their loans stay out of default. To address this issue, we recommended that FSA develop an approach for tracking loan rehabilitation performance. FSA agreed with the recommendation and reported that it had developed reports to track whether eligible borrowers had actually completed the loan rehabilitation process, and a June 2015 analysis showed all loans were being rehabilitated successfully within one week of becoming eligible. While this is a positive step, we are awaiting additional information from FSA regarding its methodology and the steps it has taken to ensure they fully address rehabilitation process issues.

Conclusions

Education’s Office of Federal Student Aid faces challenges in the management of the Direct Loan program that affect its ability to function effectively as a performance-based organization. If the agency fails to strengthen its instructions and guidance to servicers, there will continue to be areas of inconsistent implementation, and differences between servicers could have financial consequences that hurt borrowers or risk the integrity of the program. Furthermore, without a robust, systematic process for monitoring and documenting calls between borrowers and servicers, FSA may miss opportunities to ensure program integrity and improve services to borrowers.

Recommendations

To strengthen management of the Direct Loan Program and ensure good customer service for borrowers, we recommend the Secretary of Education direct the Office of Federal Student Aid’s Chief Operating Officer to take the following three actions: 1. Review its methods of providing instructions and guidance to servicers, identifying areas to improve clarity and sufficiency, and ensure consistent delivery of instructions and guidance to ensure program integrity and improve service to borrowers. For example, the Department could consider implementing a detailed, common servicing manual for the Direct Loan program. 2. Implement a more rigorous methodology for selecting recorded calls between servicers and borrowers to review, including a clearer definition of the sample servicers should select, a sample that targets more critical and more frequent types of calls, and a verification process to ensure integrity of the call selection process. 3. Better document call monitoring results to allow analysis of trends over time and facilitate the sharing of complete and consistent information from these efforts with FSA management.

Chairman Meadows and Chairwoman Foxx, Ranking Members Connolly and Hinojosa, this completes my prepared statement. I would be pleased to respond to any questions that you may have at this time.

GAO Contacts and Staff Acknowledgments

If you or your staff have any questions about this testimony, please contact me at (617) 788-0534 or emreyarrasm@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of this statement. Key contributors to this testimony were Kris Nguyen (Assistant Director), Kristy Kennedy, Timothy Shaw, Mark Ward, and Rebecca Woiwode. Providing legal or technical assistance were James Bennett, Jessica Botsford, Jean McSween, and Charlie Willson. For contributors to our report on defaulted loan rehabilitation, see GAO-14-256.

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