Loans for Students Who Lack Credit History

Loans for Students Who Lack Credit History

By JANE J. KIM
April 18, 2006;PageD3

As more college students come to rely on private student loans, one lender is gearing a new product at students who lack a credit history and aren't able to get a relative to serve as a co-signer on the loan.

MyRichUncle, a private student lender owned by MRU Holdings Inc. of New York, plans to launch a "preprime" student loan in coming weeks. The new loans will carry a variable interest rate of about 11% to 12%, which is some five percentage points above that on loans to students with solid credit histories or those who have credit-worthy co-borrowers. Federal student loans typically carry lower interest rates and fees, but limit how much students can borrow. The loan comes at a time when students are being hit hard by the double whammy of rising interest rates and skyrocketing tuition costs that are outpacing the federal government's assistance programs.

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Because many students applying to college are just embarking on their financial life, evaluating them on traditional credit measures is more difficult, which is why most students often turn to a relative to guarantee that loan. For those students who can't get a co-signer, lenders will often turn them down for a private loan. Because students aren't necessarily "subprime" borrowers, the rates on MyRichUncle's preprime loan are likely to be lower than credit-card rates or even rates on private loans where lenders use traditional credit methods to evaluate borrowers, the company notes.

MyRichUncle says it will evaluate applicants for its preprime loan and set rates by analyzing information similar to what students report on a college application, like grades, schools attended, their proposed future occupation and any academic and work history. The company's model is based on the premise that students' success in school is indicative of their willingness and ability to repay their loans.

The company's launch comes at a time when private student loans, offered by lenders such as SLM Corp.'s Sallie Mae and Citigroup Inc.'s Citibank, are growing faster than any other kind of student aid, driven in part by the rise in college tuition that is outpacing the growth in how much students can borrow under federal lending programs.

Last fall, the College Board reported that college tuition and fees rose from a year ago at twice the rate of inflation. The amount borrowed outside federal programs now makes up 18% of higher-education borrowing, with the total rising to $13.8 billion from $10.4 billion a year earlier. The federal loan program is growing at 8% a year, compared with an annual growth rate of 35% in the private loan market, says Mark Kantrowitz, a Pittsburgh-based financial-aid expert who serves as an adviser for MyRichUncle.

The majority of private loans are awarded based on a borrower's credit history. MyRichUncle President Raza Khan -- who estimates the size of the "preprime" market to be about $35 billion -- says that lenders typically turn away about 70% of applicants who apply for a private loan.

For borrowers, private loans often carry higher rates and fees than federal loans, although such loans are generally more flexible in what they are allowed to cover (such as computers and study abroad) and still are cheaper than credit-card debt. As many as a quarter of students may be relying on credit-card debt to finance their education, the College Board says.

Starting July 1, rates on the government's popular Stafford loans will change from a variable rate to a fixed rate of 6.8%, while rates on the Parent Loans for Undergraduate Students, or PLUS loans, will also be fixed at 8.5%. By contrast, rates on private student loans, which are variable, tend to be pegged to banks' prime rate, which is currently 7.75%, or pegged to the three-month Libor rate, currently 5.07%, plus 2.75%, for a current total of 7.82%, Mr. Kantrowitz says.

Private lenders often allow borrowers to defer making repayments until after graduation, but interest costs accrue during this period. Some federal Stafford loans are subsidized, which means the government pays the interest costs while a student is in school.

MyRichUncle was started in 2001 to serve the educational-lending market. Since 2005, it has made more than 2,000 loans and currently has about $17 million in outstanding loans. MyRichUncle says that its preprime loan will be funded by a group of European investors and investment funds that have committed $100 million to back the loans.

Many private-education lenders will offer a discount on the loan rate, so it is worth shopping around. Some will offer a 0.25% discount on the interest rate if borrowers sign up to have their payments automatically debited from their bank accounts.

Write to Jane J. Kim at