SoFi, a young fintech firm in California, has a new idea that addresses an old problem: short of a student loan consolidation that stretches out payments for years into the future, the prospects for refinancing school debt are fairly limited. Moreover, those options are generally supplied by public mechanisms and not from private investors. It is possible to refinance some private student loans, but for the most part the most common route to getting out of that debt is through some kind of home equity loan.
Enter a new company that is providing an interesting student loan refinance product, albeit for only a few types of graduates from about seventy different schools.
What SoFi is not is a new financial product for the un-banked or under-banked. SoFi is a new non-bank product for people that are currently banked, who have most likely never been formerly banked, and who are well on their way to becoming thoroughly banked. Most fintech seems to take business where banks fear to tread, but that’s not the case here.
Since its pilot at Stanford in 2011, SoFi has launched loan funds at 79 schools. The company has placed about $90 million in debt so far, and were it not for a shortage of capital supply, it could meet demand for an additional $40 million. Nonetheless, they certainly have some momentum. Last fall, SoFi raised $77 million in their second round of venture capital funding.
How it works: SoFi arranges for willing alumni of a school to set aside dollars to help recent graduates (and a few undergrads) to lower debt service on their loans, both for Federal loans as well as for private loans. Currently, SoFi is offering debt with a loan term of 15 years at interest rates of between 5.99 and 6.49 percent. The rates are not risk-based. They drop if you set up an automatic payment. For the most part, though, the underwriting says “yes” or “no” rather than “yes, at this price.” Currently, the average loan size of a SoFi refinance is approximately $100,000.
Given current regulations, SoFi can only partner with investors whose personal balance sheets meet the SEC’s bar for status as an accredited investor. Accredited investors are generally very well-off – one possible means of qualifying is to have $1 million in liquid (not equity in your home or business) assets. For those investors, SoFi provides something akin to investment in a preferred stock. There’s the chance to earn a stream of payments of approximately 2 to 6 percent and then another entry into an equity position in the company itself.
Whether or not such a return represents enough of a risk premium is still to be seen, but for now the portfolio is performing. In fact, SoFi says that it is yet to experience any defaults.
Of course, a judgment of the secret sauce inside those results is probably going to trend favorably because of the kinds of students that get loans from SoFi. At this point in time, SoFi is mainly limited to ex-MBAs who have found employment. They do have a few arrangements with law schools and there is room to refi for a recent college graduate. That kind of approach makes sense when you understand who runs SoFi. Four of its five founders came from the Stanford Graduate School of Business.
So while it could be possible, it is probably not going to be the norm that SoFi makes a loan to a newly minted graduate with a bachelor’s in French Renaissance literature. That guy you met in the coffee house with the clove cigarettes? He’s probably not getting a refinance, either.
Were they to have defaults, SoFi would be presented with an opportunity to demonstrate its commitment to providing the kinds of consumer protections that are part of the standard Federal Student loan program. While the company does say that it would be open to an income-based repayment plan or to other similar kinds of accommodations, there is no current example out there to test that commitment.
Now, as a private entity, they are under no obligation to take everyone. That is where they differ from the US Department of Education.
“When the alumni say that they want to step up,” says SoFi’s Arden Grady, “it’s a good sign. We would invest anywhere the alumni would be willing to invest.”
But there is a clear caveat in their perspective.
“The government will invest in schools where the students have up to a 24 percent default rate,” says Grady. “We are going to pay attention to that. If that is the case that alumni from that school want to invest, we may to try to redirect them.”
Reflective of an Obvious Problem
Kids strike a bargain with a school when they decide to pursue a post-secondary degree. They put faith in the school that they will be taught skills – either ones that are immediately applicable to a particular job or at least ones that will provide the kind of broad-based tools for reasoning that might apply widely across a range of job functions.
For the most part, though, schools are immune to the job prospects of their graduates.
Then there is the issue of access to loan debt. Anyone, save for a sliver of felons, can qualify for a student loan.
It is a one-two punch that results in a society where tons of young people are trying to pay down $25,000 in student loans by brewing coffee.
Even though all kinds of news makes it painfully obvious that too many students are actually hurt by their decision to go to school, most folks in academia seem willfully resistant to moving away from that approach. I remember when I was studying a liberal art back in the 90s. All kinds of professors told me that my ability to discuss the German Reformation would prove absolutely invaluable when I wanted to get an upper-management position in a big corporation.
Even now, the assumption surrounding the decision to get a degree in history or classics seems to assume that an education that moves away from hard skills is always successful in teaching people to think. Thinking remains important, of course. But that defense built in a vacuum, because by its own construct it lacks much in the way of a measurable outcome. We know if your training as a nurse practitioner paid off, even before you apply for a job, because there are known skills and knowledge areas to test for. On the other hand, it is difficult to make some kind of broad assessment of how well a school improves the compositions of hundreds of English majors.
After a new governor of a large Southern state announced that he wants to re-direct public higher education toward a renewed focus on jobs, academia roared back. Here is an example of that response:
“The reality is that nobody has a clear sense of what good jobs will require 10, 20, or 30 years down the road. A strong, diverse and challenging liberal arts education like the one we provide at Chapel Hill is the best possible resource for dealing with the reality of uncertain futures and the changing economy, society and world.”
In other words, that professor is banking that a person that waits tables through their 20s will be equally qualified as a person who has worked their way through a field like human resources or mid-level management for ten years. Never mind that it turns out that the most important predictor of lifetime earnings is the salary of a graduate’s first job – the people that speak for schools believe that your career prospects are de facto enhanced if you choose to pursue an education that doesn’t give lip service to that aim. To make that even more galling, when those students struggle well into their 30s, it hurts everyone. Still, it is important to mention that not every professor teaching courses in a field that veers away from job training has a disregard for their students. Indeed, I know a professor that prefers to teach photojournalism to students that want to be investment bankers than to those that are aiming at a career in print journalism. She isn’t alone, either.
Education policy is gently but firmly steering the system closer to the day when schools will have some accountability for how well their students do in the workplace. For now, though, that force is almost exclusively upon the lowest-performing institutions. The agreed-upon measurement is the “gainful employment” tool. The gainful employment rule met with substantial push-back when it proposed that access to federal Title IV monies by linked to a ratio of debt payments and income. Specifically, the rule would have said that schools would lose out on being able to offer Pell Grant and federal student loans if too many of their graduates face debt-to-income ratios above a certain cut-off point.
SoFi will not solve any of these systemic problems, although its management would argue that it is at least moving the bar toward making alumni (and thus their schools) more aware of the finances of their recent grads. If that does happen, then buzz on campus might challenge some of the soft thinking inside the administration building. I think the connection is only illustrative of a gap in how a prudent investor might respond to a widespread system that lacks accountability. A critic might argue that SoFi is cherry-picking. But that is itself a suspect opinion. If you can critique an entity for taking away a force for cross-subsidization, then you are looking past the need to address all of those young people that continue to experience real downsides.