U.S. Proposes Easier Path to Debt Relief for Defrauded Students

June 13, 2016

Student-loan borrowers who are defrauded by their colleges could soon find it easier to get their debt forgiven and to sue their colleges for wrongdoing, under a proposed rule that the Education Department is set to issue on Thursday.

The draft rule, which was prompted by the abrupt collapse of Corinthian Colleges, in 2014, and closure a year later, would allow groups of students — not just individuals — to have their federal loans discharged in cases of fraud, and would ban the use of mandatory-arbitration clauses that can force borrowers to settle claims against their colleges out of court.

The rule would also require colleges that engage in misconduct or show signs of financial distress to post letters of credit to the Department of Education, and to disclose their problems to current and prospective students. For-profit colleges with low loan-repayment rates would have to issue warnings to students, too.

The Obama administration’s goals are twofold: to provide relief to students who attend shoddy colleges, and to protect the taxpayers who help finance those institutions through the federal student-aid program. After Corinthian’s collapse, thousands of students filed "borrower defense to repayment" claims seeking to have their federal loans forgiven by the federal government. But because Corinthian went bankrupt, the government will recover none of that money.

"We won’t sit idly by while dodgy schools leave students with piles of debt and taxpayers holding the bag," the secretary of education, John B. King Jr., told reporters on Monday in a conference call.

In the two years since Corinthian’s collapse, more than 23,000 borrowers who attended Corinthian and other for-profit colleges have filed "borrower defense" claims with the department. As of late March, 2,048 of those borrowers had been granted forgiveness totaling $42.3 million.

Student and consumer groups welcomed the proposal on Monday, saying a group-claims process would provide relief to many more students than the current, individualized approach. And they praised the ban on forced-arbitration clauses, saying students should not be forced to sign away their rights to sue their institution.

"Today’s proposed rule is about justice: compensating the victims of past misdeeds, and making it more difficult for disreputable colleges to escape responsibility," said Robert M. Shireman and Tariq Habash of the Century Foundation, which recently released a report detailing how for-profit colleges use enrollment clauses, including mandatory-arbitration requirements, to limit students’ rights.

‘Complex and Burdensome’

For-profit colleges, which are the target of the proposed rule, were, not surprisingly, less than thrilled about it. Steve Gunderson, president and chief executive of the Career Education Colleges and Universities, formerly the Association of Private Sector Colleges and Universities, called the rule "complex and burdensome," part of an "ideological" agenda to crush the sector.

The regulation, he warned, "will cause millions of students to lose access to higher education and leave American taxpayers on the hook for billions of dollars."

“We won't sit idly by while dodgy schools leave students with piles of debt and taxpayers holding the bag.”
The federal rule that allows borrowers to seek loan discharges in cases of fraud isn’t new; it’s been on the books since 1995. But it was rarely used before the Corinthian collapse, and the department has had no process for evaluating group claims.

A chief complaint about the rule has been that it treats borrowers differently, depending on where they live. Because the regulation requires borrowers to prove a cause of action under state law, students in states with strong consumer-protection laws or aggressive attorneys general have been more likely to obtain relief than those in states with weak laws or lax regulators.

Monday’s proposed rule would create a federal standard for reviewing claims, providing a clearer and more consistent path to debt relief.

The proposal 'will cause millions of students to lose access to higher education and leave American taxpayers on the hook for billions of dollars.'
It would also create several new "triggers" that would require colleges to post letters of credit worth at least 10 percent of the amount of federal student aid they received in the prior year. The triggers include a major state or federal lawsuit, a "substantial number" of borrower-defense claims, a default on a college’s debt, and an action by an accreditor that could lead to a loss of accreditation.

Publication of the draft rule comes three months after a panel of negotiators convened by the Education Department disbanded, unable to reach consensus on a rule. One of the sticking points in their negotiations was mandatory arbitration: Student and consumer groups were pushing for a comprehensive ban, but the department’s own negotiators were leaning toward allowing it in some cases.

Once the proposed rule is published, there will be a 45-day public-comment period. The administration aims to publish a final rule by November 1, so that it can take effect in July 2017.

Kelly Field is a senior reporter covering federal higher-education policy. Contact her at Or follow her on Twitter @kfieldCHE.