Archived Information

DEPARTMENT OF EDUCATION

Testimony from Acting Deputy Secretary Marshall S. Smith
to the Subcommittee
on Postsecondary Education, Training and Life-Long Learning
United States House of Representatives Committee
on Education and the Workforce
on The William D. Ford Direct Loan Consolidation Program
September 18, 1997

Mr. Chairman and Distinguished Members of the Committee:

Thank you for inviting me to be here today. I am pleased to have the opportunity to clarify for the committee the problems we and our contractor, Electronic Data Systems (EDS), have experienced in administrating the loan consolidation process of the William D. Ford Direct Loan Program and the steps taken to address those problems.

I will not attempt to minimize these problems today. The stories we heard in testimony this morning are the types of experiences that have led the Department to its recent actions. On behalf of the Secretary, I would like to apologize to David Whelan, Angela Jamison, and others like them for the unacceptable quality of service they received. We are very aware of these problems and deeply committed to solving them.

That is why, on August 26, 1997, we told EDS to temporarily delay the last phase of the consolidation process while it took immediate action to correct deficiencies in its current process. With new controls in place and the approval of Price Waterhouse, the independent quality control unit on this project, EDS began last week to phase-in production of loan funding and booking, the final stage of loan consolidation. We also told EDS to temporarily stop accepting new loan applications effective August 27, 1997 so it can eliminate the backlog of applications that have accumulated since it took over this contract last fall.

Consolidation is the process of combining several loans into a single loan. Most borrowers consolidate their loans after they complete their education. The origination of a new single loan is not affected by the problems of consolidation. The direct loan program continues to run smoothly for today's students.

We deeply regret the inconvenience the temporary delay has caused to borrowers from these actions, but believe that this is ultimately the best way to ensure quality service to all borrowers wishing to consolidate their loans into direct student loans.

Addressing Borrowers' Concerns

Borrowers are our top priority: we are committed to ensuring that no additional borrowers are harmed. To this end, we are working with EDS to take several important steps:

Let me now turn to how we are addressing the problems of consolidating loans at EDS.

EDS is implementing a plan it developed with the Department and Price Waterhouse to complete the consolidation process for the applications it received prior to August 27. The plan includes EDS accepting new applications no later than December 1, and sooner if Price Waterhouse certifies that EDS has met certain performance criteria.

Today, I will describe the actions the Department has taken to address the problems with the loan consolidation system. I will also discuss steps the Department is taking to improve and modernize its student aid programs. First, however, I would like to put these problems in perspective.

The Department's Student Aid Responsibilities

Each year, the Department promptly and efficiently delivers financial aid to millions of America's students. Despite the challenges facing the direct loan consolidation program, the student aid system as a whole is stronger than it has been in years. For example:

Since its inception in 1994, the direct loan program has provided a simpler, more automated, and more accountable system for borrowers and participating institutions. In just three years, students and schools have witnessed the development of an improved level of customer service in financial aid delivery.

The success of the Department's efforts is reflected by the rapid growth of the program. The number of schools actively participating in the program has increased from 104 in the first year to roughly 1300 today, and their volume represents approximately one-third of the $30 billion market in new student loans. To give you a point of comparison: nearly nine years after the break-up of AT&T, it had not yet lost one-third of the market share it had as a monopoly.

The growth is particularly impressive in light of the fact that the future of the program has been debated continuously, dissuading some schools from joining the program. The program has distributed $9.5 billion in new student loans this year because of the excellent service it provides to students and schools.

Furthermore, competition from the direct loan program has forced FFEL lenders and servicers to improve their customer service as well. As the Advisory Committee on Student Financial Assistance wrote in its August 1996 report, "Competition from the federal direct lending program since its inception three years ago has improved the FFEL program significantly."

Direct Loan Consolidation

Nonetheless, it is true that the loan consolidation program is facing serious challenges. Of the 142,856 borrowers who have applied to have their loans consolidated through the direct loan program, EDS has consolidated the loans of 53,711 of them. The applications of 84,078 borrowers are still pending and 5,067 borrowers withdrew their application or failed to submit a promissory note after repeated reminders.

Table 1.
Status of Consolidation Applications
Received by EDS

Applications Received 142,856
Applications in Process 84,078
Applications Withdrawn 5,067
Completed Consolidations 53,711

As background, our first direct loan contractor, Computer Data Systems Inc. (CDSI), initiated its loan consolidation process in March 1995. The CDSI process was personal computer-based and relied heavily on manual procedures. When the contract came up for renewal, EDS, a leading private-sector firm with an international reputation for managing large computer systems, was awarded the competitive contract based upon its proposal for a technologically sophisticated, client-based process that would provide lower cost and a greater capacity for increased volume.

EDS was required to pass a rigorous systems testing process developed by the Department and approved by Price Waterhouse. After all required phases of testing were successfully completed with approval from Price Waterhouse, the Department allowed EDS to assume direct loan consolidation operations on September 16, 1996.

Despite extensive testing and review, EDS experienced systems problems in part because of some processes incorporated into the system to reduce the need for manual intervention that created some new, undetected problem areas.

Consolidating student loans is like consolidating several mortgages on a home, hundreds of times a day. Every consolidation may involve multiple parties, including the consolidator, the borrower, credit bureaus, guaranty agencies, and an average of three lenders. Erroneous, incomplete or late information from any of these parties delays the consolidation. And because loan balances are constantly changing due to the accrual of interest and borrower payments, a lag in the reporting of two pieces of information can become a real obstacle to timely and accurate loan consolidation.

Compounding these obstacles was the sheer volume of loan consolidation applications EDS received. Based upon our experience in the first two years of the program and comparisons with Sallie Mae, the largest private loan consolidator, we anticipated roughly seven thousand consolidation applications per month. In fact, since September 1996, EDS has received roughly twelve thousand applications per month. This volume made it very difficult to trouble-shoot and fine-tune the system while also processing consolidations.

On August 26, 1997, EDS temporarily delayed the final, funding and booking phase of the consolidation process while it took immediate action to correct deficiencies in its processes. EDS also temporarily stopped accepting new loan consolidation applications so it could eliminate the backlog of applications that accumulated since it began consolidating loans last fall. EDS continues to process the applications it has already received and has already resumed the last phase of the consolidation process for some loans.

Most borrowers with only direct loans are not affected by the temporary suspension because their loans are already included in a single payment, and thus may be seen as self-consolidating. Likewise, borrowers with only FFEL loans could consolidate with a private lender, although the terms of consolidation may not be as beneficial. Borrowers who temporarily cannot apply to consolidate all their loans include those who have both direct and FFEL loans and FFEL borrowers who are unable to secure a satisfactory repayment plan from a FFEL lender.

The Department has faced this problem head-on. As I have previously emphasized, we are deploying every available resource to mitigate the effect on borrowers of the loan consolidation delays. We are also taking decisive action to remedy the problems at EDS.

We increased our staff working on-site with EDS in Montgomery, Alabama. The team included senior Department and Price Waterhouse staff and expert consultants with extensive banking experience that have been added to the EDS staff. Together, we are developing and implementing three plans: (1) to improve the direct loan consolidation process immediately and complete the pending applications; (2) to remedy errors made in previous consolidations, and (3) to re-engineer the process to increase capacity and improve timeliness and accuracy over the long-term.

First, working with the Department, EDS developed and implemented a plan, reviewed by Price Waterhouse, to establish new procedures to improve the timeliness and accuracy of the loan consolidation process immediately and complete the pending applications. EDS began implementing this plan on September 12. New procedures include:

EDS is now using these new procedures to consolidate applications currently in the system. In addition, EDS will be required to commit additional resources to the project if Price Waterhouse and the Department determine on October 6 that it has not met its weekly production targets.

EDS is also preparing for an anticipated surge of loan consolidation applications after EDS begins processing new applications. EDS has assured us that the new procedures will allow them to handle those loans in a timely and accurate manner. In order to resume accepting new applications, EDS will have to meet six key performance indicators:

Second, by the end of the month EDS will finish a separate plan to correct inaccurately consolidated loans. EDS will undergo 100 percent validation for all loans. The plan will be reviewed by the Department and Price Waterhouse before it is implemented. It is of the utmost importance to us to rectify these errors and ensure future accuracy.

Finally, both EDS and Price Waterhouse have submitted long-term plans to fully re-engineer the loan consolidation process. These proposals are expected to lead to substantial improvements in the loan consolidation system's capacity, accuracy, and timeliness. EDS will implement a re- designed process by April 1998.

Modernization

Over the last few years, the Department has undertaken a variety of steps to modernize its student financial assistance systems and integrate the stovepipe data systems that have developed over many years. While the Department has made significant strides in improving and modernizing the management and delivery of student financial assistance, we clearly have much further to go. The Secretary and I are personally committed to dramatically changing the way we do business to provide better service and ensure that we never again face the situation we did this summer with loan consolidation.

To that end, the Department is establishing a Student Financial Assistance Modernization Board. The board will advise the Secretary on a wide range of student aid management issues. The Deputy Secretary will chair the board. Its membership will consist of key officials from the Department, Office of Management and Budget, and National Economic Council and senior federal officials with expertise in contracting, procurement, and information technology, and the Board will draw upon expertise in the private sector and the higher education community.

The establishment of the board is a significant step toward further improvement in the Department's management practices. The board will play a major role in reviewing and shaping the Department's management and modernization initiatives and will make recommendations regarding changes in contracting procedures, information technology plans, organizational structure and the alignment of personnel and functions, programmatic and administrative simplification, and a business plan with performance targets and timelines using best industry practices and new information technology.

We support the fundamental elements of a Performance Based Organization (PBO) for the delivery of student financial aid: a performance-driven organization with greater management flexibility and greater accountability for results. I will ask the Modernization Board to review immediately the elements and suitability of a PBO for the delivery of student financial assistance. A PBO would have a Chief Operating Officer who would report to the Secretary. It would be given greater contracting and personnel flexibility than the Department currently enjoys and would be responsible for managing the delivery of student aid against a set of performance measures.

But we all know that it is easier to support the creation of a PBO than to create one. Many federal agencies have considered them for years, but not one has been created within in the federal government to date. We will be looking closely at what changes in law and regulations are needed to create a successful PBO and will be making recommendations to Congress.

Conclusion

In conclusion, our top priority is minimizing the impact on students of the difficulties facing the direct loan consolidation program. We are doing everything in our power to expedite the applications of borrowers who have already applied for direct loan consolidation and to prevent them from suffering from the temporary suspension of consolidations. At the same time, we are committed to changing the direct loan consolidation process to ensure that future applicants will be better served. I believe the course of action that we are undertaking is sensible, responsible, and will accomplish these goals.

My colleague and I would be happy to answer any questions you may have.

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