For-Profit Schools Facing Aid Crunch

A changing lending environment is hurting for-profit colleges but may help students by compelling them to use often-overlooked federal loans

by Jane Porter

Don't let those 30-second commercial spots offering a better life in 18 months fool you. The for-profit colleges making those promises may be easy to get into, but footing the bill for many of them just got a whole lot harder. In January, Sallie Mae (SLM), the largest student lender, pulled out of the subprime market, a development that leaves many prospective students with fewer options to help pay their tuition bills, and the colleges themselves in a financial bind.

On Jan. 23, in announcing a $1.6 billion loss for the fourth quarter of 2007, the Reston (Va.)-based Sallie Mae—formally SLM Corp.—said it won't make loans to students unlikely to graduate or attending schools with low graduation rates. Many of these borrowers have credit histories that put them in the subprime category, and they are a prime source of students for the for-profit schools.

The move by Sallie Mae is just the latest retrenchment on the educational lending landscape since financial markets were roiled by the collapse of the subprime mortgage sector and last year's revision in student loan rates. "Eight months ago, as long as the applicant was breathing, [lenders] approved everything," says Harris Miller, head of the Career College Assn., which represents 1,200 for-profit colleges. "Now, everyone is looking at every loan and every piece of paper with a flyspeck."

Colleges Forced to Adapt

Sallie Mae's withdrawal from subprime student lending comes at a difficult time for the industry. Last year, Congress approved a dramatic reduction in student loan rates, and an investigation by New York State Attorney General Andrew Cuomo into the relationship between lenders and schools is ongoing. Subprime lending has simply become too much of a risk for lenders like Sallie Mae to bear. "What we have learned very well over the last couple of years is that students who go to schools that have low graduation records, those loans simply do not perform as well," says Sallie Mae spokesperson Tom Joyce. "The lose-lose is when you lend to a student who…doesn't graduate and ends up with a private loan they cannot repay."

Tightening lending standards on the part of Sallie Mae, College Loan Corp., Student Loan Xpress (CIT), and other lenders is bad news for for-profit colleges, which attract many low-income students with less-than-perfect credit scores. Nowhere is this truer than at Corinthian Colleges (COCO), where in 2007 private loans accounted for 13% of revenue. At Corinthian, 90% of these private loans came from Sallie Mae—three-quarters of them for subprime borrowers.

What's more, average tuition at for-profit two-year schools is more than four times what in-state students pay at public two-year colleges—$11,961 vs. $2,645—one reason many students seek private loans. With Sallie Mae out of the picture, schools like Corinthian will have to adapt. "They will either have to retreat on price or they will have to figure out how to recruit students who can clear that hurdle of affording without having to go into subprime lending," says David Hawkins, director of public policy and research at the National Association for College Admission Counseling.