The federal government offers several types of student loans to promote higher education access. Most students receive these loans through the Federal Family Education Loan (FFEL) program, in which the federal government provides subsidies and insurance against default losses to for- and non-profit lenders to encourage them to make student loans. The insurance on FFEL loans is handled by guaranty agencies, which are public or private nonprofit entities that perform a number of functions within the FFEL program. These activities include:

• Reimbursing private lenders for losses they incur on FFEL loans when borrowers default;
• Providing assistance to borrowers who are having trouble repaying their FFEL loans;
• Acting as the federal government's collection service for FFEL loans that borrowers fail to repay;
• Working with borrowers to rehabilitate their defaulted loans to bring them back into repayment;
• Serving as a designated guarantor for a state; 1
• Providing "loans of last resort" to student borrowers that are unable to find a private lender willing to make FFEL loans.

There are currently 34 distinct agencies that serve as guarantors. While there is no such thing as a "standard" guaranty agency, they can be classified into three different types. In its most basic form, a guaranty agency is a standalone entity that performs administrative FFEL functions. The National Student Loan Program, which serves Nebraska, is an example of this type of guaranty agency. More commonly, a guaranty agency serves a dual role as both a federal guaranty agency and as a state higher education authority. The North Carolina State Education Assistance Authority (NCSEAA), for example, is one agency that operates in this dual role. NCSEAA carries out all the typical FFEL activities of a guaranty agency, but it also administers state grant and college savings programs. While these agencies do not always offer loans themselves, they may work closely with a non-profit lender in the state to offer specific loan products to state residents.

In their third form, guaranty agencies not only perform all of their FFEL activities, but also offer all the services typically provided by FFEL lenders. These agencies, such as the Pennsylvania Higher Education Assistance Association (PHEAA), disburse and service federal loans just like a private for-profit lender.

Guaranty Agency History

Guaranty agencies predate even the earliest version of the FFEL program. In the 1950s a handful of states opened agencies to help postsecondary students obtain affordable loans. The Massachusetts Higher Education Assistance Authority (today known as American Student Assistance), the first such agency, was established in 1957. Using a combination of state government and private funds, these early versions of guaranty agencies provided private lenders with default insurance on loans made to postsecondary students in their respective states.

In the 1960s, Congress tried to expand on the existing state-run loan programs by establishing a subsidized federal loan program for postsecondary students. This new program offered subsidies and incentives to states so they would create their own loan programs, which would be administered by guaranty agencies. The new Federal Insured Student Loan (FISL) program would provide a federal guarantee on loans issued by private companies in states that did not yet have loan programs or guaranty agencies. Because Congress wanted states to take the lead in establishing loan programs, it expected that FISL would phase out as more loan programs and guaranty agencies were established.

The state-centered federal loan program Congress envisioned, however, never fully materialized. Many states were unable to successfully establish their own guaranty agencies, and those that did often faced funding problems that threatened the viability of their programs. As a result, far more students relied on the stopgap FISL program than initially planned, overwhelming its administrative capacity and funding.

Congress revamped the federal loan program in the 1970s, converting it into the Guaranteed Student Loan (GSL) program. The GSL was later renamed the Federal Family Education Loan (FFEL) program in the 1990s. Under the GSL, Congress increased federal subsidies to states and guaranty agencies, and all but eliminated the need for state and guaranty agency funds to support the program. For example, the federal government now offered to reimburse guaranty agencies to cover the full cost of the default insurance provided to private lenders. When a guaranty agency paid a lender for a default loss, the agency could file a claim with the Department of Education for reimbursement. This arrangement, however, eventually proved problematic.

In the late 1980s, the Kansas-based guaranty agency Higher Education Assistance Foundation (HEAF) became financially insolvent when a large percentage of its guaranteed loan portfolio went into default. It did not have sufficient funds to pay lenders for default losses on federal GSLs and therefore could not submit claims to the federal government for reimbursement.

HEAF's insolvency exposed a major flaw in the guaranty agency role - only guaranty agencies could pass federal funds through to lenders under the GSL program - and threatened to undermine the entire GSL program. Because the Department of Education did not reimburse lenders directly for default costs on federal loans, there was concern among loan companies that they would not receive their promised insurance. To maintain confidence in the program, the federal government agreed to pay any lender for default losses on GSLs, regardless of a guaranty agency's financial status. This meant that the guaranty agency's role would be largely administrative, as opposed to risk-sharing, in the federal student loan program.

Over time, guaranty agencies have taken on other roles within the FFEL program besides administering default insurance for private lenders. For example, Congress added a borrower assistance role for guaranty agencies as part of the 1998 reauthorization of the Higher Education Act. This created a system whereby guaranty agencies receive incentive payments, called default aversion fees, for assisting struggling borrowers in managing their federal student loans. The federal government also charges the agencies penalty fees if a borrower who received assistance later fails to repay his or her loan on time.

1. 1. Each state selects an agency as its designated guarantor, which is then charged with encouraging lender and school participation and overseeing the FFEL program for that state. Because there are fewer guarantors than states and territories, there are six agencies that serve as the designated guarantor in multiple locations.