In November 2013, the CFPB sent a letter to private student loan servicers asking them for information about their practices for handling extra payments from borrowers (i.e., payments in excess of the minimum amount due).  In a letter dated February 3, 2014, Rohit Chopra, the CFPB’s Student Loan Ombudsman, presented the CFPB’s findings based on the responses it received to that information request. 

It appears that the CFPB received responses from six servicers.  Mr. Chopra did not indicate how many servicers received the information request but his blog post about the responses indicated that “many of them responded.” 

To introduce the findings, Mr. Chopra provided “background” describing the “mismatched incentives” that borrowers, loan holders and servicers may have in the repayment process.  His discussion of these “incentives” appears to suggest that servicers have deliberately created obstacles for borrowers seeking to have extra payments allocated to their student loans with the highest interest rates.  

The CFPB found the following: 

  • Many respondents are acting to improve their communications with borrowers about payment processing.
  • Most respondents could not honor payment allocation instructions provided through third-party online bill pay systems because the instructions may not be transmitted to a servicer that receives electronic batch payments.
  • Most online servicing platforms allow borrowers to target excess payments to a specific loan.
  • None of the respondents indicated that they send targeted communications to borrowers who send excess payments without instructions.
  • Respondents were generally unable to accommodate borrower payment allocation instructions in advance of specific payments made by a third party, such as Department of Defense payments  made on behalf of servicemembers.
  • Respondents generally apply excess payments according to the standard methodology programmed into their servicing platforms.  The CFPB indicates that some servicers (presumably some of the respondents) have recently changed their standard methodology to apply excess payments toward the loan with the highest interest rate.  In what seems like a thinly veiled warning, Mr. Chopra states that “for servicers that do not accept standing instructions or transparently communicate a simple prepayment method, such [a methodology change] may help servicers ensure compliance with the Truth-in-Lending Act’s prohibition on private loan prepayment penalties.” 

In his letter, Mr. Chopra stated that in addition to providing the information the CFPB had requested, servicers asked “for a perspective on an appropriate standard allocation policy when borrowers have both fixed and variable rate loans.”  By way of “perspective,” Mr. Chopra indicated that the CFPB’s “preliminary analysis suggests that applying excess funds toward the loan with the highest current interest rate will save the borrower interest in the short run and also over the life of the loan.”  He further stated in his letter that early analysis by the CFPB and Department of Education in connection with their joint report on private student loans suggests that “index rates would have to increase suddenly and dramatically (in an historically aberrant fashion) for it to be economically worthwhile for a borrower to be better off directing excess payments to a variable rate loan with a comparatively-lower current interest rate, holding all else equal.” 

Interestingly, there is no discussion as to whether other features of a loan, such as the availability of alternative payment options in the event of default, should be considered in payment allocation.