Gainful Employment and Student Loans

The Federal Trade Commission says it is prepared to hold for-profit universities and vocational schools accountable to their students.

A new draft, not yet law, has emerged from discussions on the negotiated rulemaking on Program Integrity. The new rule is focusing on how to define “gainful employment,” with the intent of making sure that consumers (students) are not given a false impression of the benefits of an education.  With that is a concrete provision to link the income of graduates with debt loads. The FTC, along with the Department of Education, are working to make sure that people are not graduating with more debt than they can reasonably afford on the income earned from their new degrees.

The idea is that debt service for recent graduates should not exceed 8 percent of income. There are a few caveats:

Repayment is calculated based on average salary. If Shaquille O’Neal is among your graduates (Univ. of Phoenix, MBA, 2005), then his salary could be counted. I say could be, because it would only count if you had a major offering in basketball. Graduates must be working in the field that they studied. Culinary students working in record shops are not relevant. MBA’s working in professional basketball – not relevant.

For example, if recent nurse assistant graduates earn an average of $30,000, then schools would be penalized if those graduates had an average debt load that was above $17,500 (assuming a 6.8 percent interest rate on unsubsidized Stafford loans) or $19,300 for subsidized Stafford loans (4.5 percent in 2010-11).

Schools were to demonstrate at least a 75 percent repayment rate on loans among graduates.

The rule only applies to graduates, and only to those students from a select set of institutions. Nonetheless, these for-profit and vocational schools are important.  The University of Phoenix is the largest college in the United States.  A recent estimates finds that it has approximately 500,000 students.  Even so, most of the students at these schools will not be impacted by the rulemaking.  Very few of them graduate. The University of Phoenix has a 16 percent graduation rate, according to the Department of Education.

Schools that can’t meet the debt repayment calculation have alternatives to satisfy the gainful employment rule.  Initial conversations indicated if schools could demonstrate a 70 percent graduation rate and a 70 percent placement rate, then they would satisfy the gainful employment criteria.

That language was removed. As well, the loan repayment rate guideline was increased to 90 percent.

The FTC has standing here because it regulates trade.  Their argument is that for-profit and vocational schools need to communicate the risks and rewards associating with their products. Under 16 CFR 254, the FTC protects consumers from deceptive advertising to vocational training institutions.

The Request for Comments was posted in the Federal Register.  Comments were due in October.

The rulemaking would not be effective until 2011.

The WSJ quotes analysts at Signal Hill and Credit Suisse about this rulemaking’s impact on the traded shares of some of the for-profit schools.  The market is noticing – shares of  U. of Phoenix parent Apollo (APOL), ITT Education (ESI), Career Education Corp. (CECO) are all dropping.  One analyst adds that Strayer’s cohort default rate suggests that it might be impacted as well.