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United States Government Accountability Office: 
GAO: 

Report to Congressional Committees: 

January 2014: 

Federal Student Loans: 

Borrower Interest Rates Cannot Be Set in Advance to Precisely and 
Consistently Balance Federal Revenues and Costs: 

GAO-14-234: 

GAO Highlights: 

Highlights of GAO-14-234, a report to congressional committees. 

Why GAO Did This Study: 

Federal student loans issued under the Direct Loan program play a key 
role in ensuring access to higher education for millions of students. 
The costs of the program to the government include administrative 
costs like loan servicing. They also include subsidy costs, which are 
the estimated long-term costs to the government of providing loans, 
such as the government's cost of borrowing and defaults on loans. Some 
have questioned whether borrower interest rates can be more precisely 
set to cover these costs without generating excess federal income. The 
Bipartisan Student Loan Certainty Act of 2013 required GAO to provide 
information on issues related to the cost of federal student loans.
This report addresses (1) how the costs of administering the Direct 
Loan program have varied in recent years, (2) how estimated subsidy 
costs have varied in recent years, and (3) how changes in different 
variables influence the overall cost of the program and the borrower 
interest rate needed to cover those costs. 

GAO reviewed Direct Loan administrative cost data and analyzed subsidy 
cost data from Education for fiscal years 2007 through 2012, which are 
presented in nominal dollars throughout the report. In addition, GAO 
worked with Education to illustrate how changes in variables such as 
government borrowing costs could affect Direct Loan subsidy costs. GAO 
also examined whether borrower rates could be set so the government 
could cover Direct Loan costs without generating excess revenue (known 
as a breakeven analysis). GAO reviewed relevant federal laws, 
guidance, and reports; and interviewed Education and other agency 
officials. 

What GAO Found: 

Total Direct Loan administrative costs grew from $314 million to $864 
million from fiscal years 2007 to 2012, but federal costs per borrower 
have generally remained steady or fallen. The increase in total 
administrative costs largely results from an increase of over 300 
percent in the number of Direct Loans during that same time period. 
One key factor contributing to this loan volume increase was a law 
that ended student loan originations under a federally guaranteed loan 
program resulting in new originations being made under the Direct Loan 
program. Loan servicing—-which includes activities like counseling 
borrowers on selecting repayment plans, processing payments, and 
collecting on loans in delinquent status—-is the largest category of 
administrative costs, comprising 63 percent of total Direct Loan 
administrative costs in fiscal year 2012. While total administrative 
costs have increased, costs per borrower and other unit costs have 
remained steady or declined. For example, the servicing cost per 
borrower has remained roughly $25 over the six-year period we 
examined. However, a number of factors, including a new payment 
structure for loan servicing contracts to reward servicers for keeping 
more borrowers in repayment status, have created some uncertainty 
about the servicing cost per borrower in coming years. 

Separate from administrative costs, estimated subsidy costs vary by 
loan cohort—-a group of loans made in a single fiscal year—-and change 
over time. Based on the Department of Education's (Education) recent 
estimates, the government would generate subsidy income for the 2007 
to 2012 Direct Loan cohorts as a group. However, estimates will 
change, because current subsidy cost estimates for these cohorts are 
based predominantly on assumptions about future revenue and costs. 
Actual subsidy costs will not be known until all cash flows have been 
recorded, generally after loans have been repaid. This may be as many 
as 40 years from when the loans were originally disbursed, because 
many borrowers do not begin repayment until after leaving school, and 
some face economic hardships that extend their payment periods. 
Subsidy cost estimates fluctuate over time due to the incorporation of 
updated data on actual loan performance and the government's cost of 
borrowing, as well as revised assumptions about future revenue and 
costs, through the annual reestimate process. As a result, there can 
be wide variations in the estimated subsidy costs for a given cohort 
over time. For example, the 2008 loan cohort was estimated to generate 
$9.09 of subsidy income per $100 of loan disbursements in one year, 
but in the next year that same cohort had an estimated subsidy cost of 
24 cents per $100 of loan disbursements, a swing of $9.33. Volatility 
in subsidy cost estimates for a given cohort is generally expected to 
decrease over time as more actual loan performance data become 
available. 

Because Direct Loan costs fluctuate with changes in certain variables, 
borrower interest rates cannot be set in advance to balance government 
revenue with costs consistently over the life of the loans. In a 
simulation of how loan costs respond to changes in selected variables, 
the costs were highly sensitive to changes in the government's cost of 
borrowing. This, coupled with cost estimates regularly updated to 
reflect loan performance data, means the total costs associated with 
Direct Loans are in flux until updates are recorded through the end of 
the loans' life cycle, which takes several decades. Therefore, the 
borrower interest rates that would generate revenue to exactly cover 
total loan costs—known as breaking even—would change over time. To 
determine whether or not a set of conditions that would break even for 
one cohort would also break even for another cohort under different 
circumstances, GAO used data forecasted for future years to experiment 
with certain aspects of the borrower interest rate for two separate 
cohort years. 

* GAO selected cohort years 2014 and 2019 because economic conditions 
may be different several years apart. 

* For these cohorts, the following three aspects of the borrower 
interest rate were altered: the index (the base market rate that 
student loan interest rates are pegged to), the mark-up rate (the 
percentage-point increase over the base rate that students are 
charged), and the differences in the mark-up rates among loan types, 
including undergraduate, graduate student, and parent loans. 

* GAO looked at how these changes to the borrower rates would affect 
total government costs, taking into account both administrative and 
subsidy costs. 

* Changing the index and mark-up rates helped achieve a breakeven 
point based on current cost estimates for the 2014 cohort; however, 
cost estimates for this cohort will change as updated data become 
available over the life of the loans. 

* When GAO applied the same index and mark-up rates that temporarily 
resulted in a breakeven point for the 2014 cohort to the 2019 cohort, 
it resulted in a net cost to the government. 

* The difference in outcome for these two cohorts is because Direct 
Loan costs are sensitive to variables, such as government borrowing 
costs, that are projected to look very different for 2019 than they 
did for 2014. 

* As illustrated in the simulation, the borrower interest rates that 
are needed to cover costs at one point in time may not be effective at 
another point in time and cannot be precisely determined in advance to 
enable the government to break even consistently. 

Available information on Direct Loan costs illustrates the 
difficulties of accurately predicting what these program costs will 
be, and how much borrowers should ultimately be charged to achieve a 
particular outcome. Specifically, fluctuations in the actual and 
expected costs of the student loan program over time make it 
challenging to target a particular borrower interest rate that would 
consistently break even. Making frequent changes to the borrower 
interest rate could help program costs more closely match revenues in 
the short term, but it could confuse potential borrowers and 
complicate efforts to make the program transparent to students. 

What GAO Recommends: 

GAO does not make recommendations in this report. The Department of 
Education agreed with our findings. 

View [hyperlink, http://www.gao.gov/products/ 

[hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-14-234]. For more 
information, contact Melissa Emrey-Arras at (617) 788-0534 or 
emreyarrasm@gao.gov. 

[End of section] 

Contents: 

Letter: 

Background: 

Total Direct Loan Administrative Costs Grew from $314 Million to $864 
Million in Recent Years, but Costs per Borrower Have Generally 
Remained Steady or Fallen: 

Estimated Subsidy Costs Differ across Loan Cohorts and Fluctuate over 
Time: 

Because Direct Loan Costs Are Sensitive to Certain Variables, Borrower 
Interest Rates Cannot Be Set in Advance to Consistently Balance 
Government Revenue with Costs: 

Concluding Observations: 

Agency Comments and Our Evaluation: 

Appendix I: Objectives, Scope, and Methodology: 

Appendix II: Technical Appendix: 

Appendix III: Comments from the Department of Education: 

Appendix IV: GAO Contacts and Staff Acknowledgments: 

Tables: 

Table 1: Interest Rates on Direct Loans: 

Table 2: Selected Direct Loan Administrative Costs and Subsidy 
Elements: 

Table 3: Key Differences in CBO and Education Subsidy Cost 
Calculations under the Federal Credit Reform Act: 

Table 4: Selected Student Aid Administration Unit Costs, Fiscal Years 
2007 to 2012: 

Table 5: Direct Loan Subsidy Cost Components: 

Table 6. Sensitivity Factors of Variables under Favorable and Less-
Favorable Scenarios: 

Table 7: Variable Rates Used in Sensitivity Scenarios: 

Table 8: Scenarios for Breakeven Analysis: 

Table 9: Data for Figure 1, Direct Loan Full Administrative Costs by 
Category, Fiscal Year 2007-Fiscal Year 2012 (dollars in millions): 

Table 10: Data for Figure 2, Number of Outstanding Direct Loans by 
Loan Type (in millions) and Direct Loan Full Administrative Costs, 
Fiscal Year 2007 - Fiscal Year 2012: 

Table 11: Data for Figure 3, Current Subsidy Rates Broken out by Cost 
Component, Direct Loans 2007-2012: 

Table 12. Data for Figure 4, Comparison of Borrower and Discount 
Rates, 2007-2012: 

Table 13: Data for Figure 5, Original and Reestimated Subsidy Rates, 
Direct Loans, 2007-2012 Cohorts: 

Table 14: Cost Effects of Variables in "Less Favorable" Scenario: 

Table 15: Cost Effects of Variables in the "Favorable" Scenario: 

Table 16: Loan Parameters to Break Even for 2014 Have Different 
Effects for 2019: 

Figures: 

Figure 1: Total Direct Loan Program Administrative Costs by Category, 
Fiscal Year 2007 to Fiscal Year 2012: 

Figure 2: Number of Outstanding Direct Loans by Loan Type and Direct 
Loan Program Administrative Costs, Fiscal Year 2007 to Fiscal Year 
2012: 

Figure 3: Current Subsidy Rates Broken out by Cost Component, Direct 
Loans, 2007-2012: 

Figure 4: Comparison of Borrower Interest Rates and Government Cost of 
Borrowing, 2007-2012: 

Figure 5: Original and Reestimated Subsidy Rates, Direct Loans, 2007-
2012 Cohorts: 

Figure 6. Loan Parameters to Break Even in 2014 Could Have Different 
Effects in 2019: 

[End of section] 

United States Government Accountability Office: 
GAO:
441 G St. N.W. 
Washington, DC 20548: 

January 31, 2014: 

The Honorable Tom Harkin: 
Chairman: 
The Honorable Lamar Alexander: 
Ranking Member: 
Committee on Health, Education, Labor, and Pensions: 
United States Senate: 

The Honorable John Kline: 
Chairman: 
The Honorable George Miller: 
Ranking Member: 
Committee on Education and the Workforce: 
House of Representatives: 

Federal student loans play a key role in ensuring access to 
postsecondary education for millions of students each year. In the 
2012-2013 award year, the U.S. Department of Education (Education) 
reported disbursing more than $94 billion in student loans to nearly 
17 million student borrowers and their parents under the William D. 
Ford Federal Direct Loan (Direct Loan) Program.[Footnote 1] In recent 
years, the interest rates that borrowers paid on these loans were set 
at levels fixed through statute. However, interest rates on certain 
Direct Loans were set to double in July of 2013, contributing to 
concerns about the burden of rising student loan debt on borrowers. 
[Footnote 2] In response, Congress enacted the Bipartisan Student Loan 
Certainty Act of 2013, which tied borrower interest rates on Direct 
Loans issued on or after July 1 to the interest rate on the 10-year 
Treasury note. Borrower interest rates are now equal to the 10-year 
Treasury note rate plus a mark-up that depends on the borrower and 
loan type. There are also caps on borrower interest rates, which 
protect borrowers when interest rates are high. However, questions 
remain about how much students and their parents should be charged to 
borrow money from the government to finance students' education. Some 
policy makers and higher education experts maintain that the interest 
rate charged to borrowers should cover--but not exceed--federal 
program costs, which comprise administrative and subsidy costs. 
Administrative costs include costs such as processing loan 
applications and servicing existing loans. Subsidy costs represent the 
estimated long-term cost of extending credit over the life of a loan, 
excluding administrative costs.[Footnote 3] A clear understanding of 
both administrative costs and subsidy costs is necessary to understand 
the implications of setting borrower interest rates to achieve 
particular policy goals. 

The Bipartisan Student Loan Certainty Act of 2013 required that GAO 
examine a variety of issues related to the cost of federal student 
loans to the federal government.[Footnote 4] This report addresses (1) 
how the costs of administering the Direct Loan program have varied in 
recent years, (2) how estimated subsidy costs associated with the 
Direct Loan program have varied in recent years, and (3) how changes 
in different variables influence the overall cost of the Direct Loan 
program and the borrower interest rate needed to cover those costs. 

In conducting this work, we reviewed Education data on Direct Loan 
administrative costs and analyzed Education data on subsidy costs from 
fiscal years 2007 through 2012, the most recent years available. 
[Footnote 5] We assessed the reliability of Education's administrative 
cost data and data related to subsidy costs estimates by (1) reviewing 
existing information about the data and the systems that produced 
them, and (2) interviewing agency officials knowledgeable about the 
data. We determined that the data were sufficiently reliable for the 
purposes of this report. To address our first research question, we 
reviewed Education data on Direct Loan administrative costs from 
fiscal years 2007 through 2012 to evaluate trends in costs for recent 
years. Education officials noted that they calculate certain 
administrative costs for all loan programs, and do not track Direct 
Loan costs separately because doing so has not been necessary for 
management purposes. As Direct Loan administrative appropriations make 
up the large majority of funds appropriated to Education's 
administrative account, we determined that these data were sufficient 
to illustrate Direct Loan administrative cost trends. For our second 
research question, we analyzed data from Education subsidy cost 
estimates and reestimates for the 2007-2012 Direct Loan cohorts, in 
order to understand trends in cost estimates. For our third research 
question, we worked with Education officials to alter key variables in 
the agency's subsidy cost estimate to illustrate how changes in 
certain variables, such as risk of default, could affect the overall 
cost of the Direct Loan program. We used reported data from fiscal 
years 2007 through 2012 to illustrate a range of possible government 
costs. See appendix I for more detail on these analyses. Throughout 
the report, cost figures are reported in nominal dollars. In addition 
to our various analyses, we interviewed officials at Education and the 
Congressional Budget Office (CBO) regarding key issues related to 
Direct Loan administrative and subsidy costs.[Footnote 6] We also 
reviewed relevant federal laws and guidance, as well as past GAO 
reports for the purposes of all of our research questions. 

We conducted this performance audit from August 2013 to January 2014 
in accordance with generally accepted government auditing standards. 
Those standards require that we plan and perform the audit to obtain 
sufficient, appropriate evidence to provide a reasonable basis for our 
findings and conclusions based on our audit objectives. We believe 
that the evidence obtained provides a reasonable basis for our 
findings and conclusions based on our audit objectives. 

Background: 

Under the Direct Loan program, Education issues three main types of 
loans--Subsidized Stafford, Unsubsidized Stafford, and PLUS Loans. 
[Footnote 7] Subsidized Stafford Loans are available only to 
undergraduate student borrowers with demonstrated financial need. 
[Footnote 8] The government subsidizes these loans by not charging 
borrowers for the interest that accrues while they are still in school 
and during a 6-month grace period after leaving school.[Footnote 9] 
Unsubsidized Stafford Loans are available to both undergraduate and 
graduate student borrowers, irrespective of financial need. Borrowers 
are responsible for paying all interest from disbursement to final 
payoff of the loan. Finally, PLUS Loans are available to graduate 
students and parents of dependent undergraduates, who must pay all 
interest on these loans as well.[Footnote 10] 

Borrower interest rates on Direct Loans changed with the passage of 
the Bipartisan Student Loan Certainty Act of 2013, which tied rates to 
the 10-year Treasury note rate and placed a cap on borrower rates. 
[Footnote 11] These rates and caps vary by loan type and borrower 
characteristics, as seen in table 1 below. Undergraduate student 
borrowers pay the lowest interest rate, with graduate student and 
parent borrowers paying somewhat higher rates. 

Side bar: 

Borrower Rate: The interest rate charged to federal student loan 
recipients. 

[End of side bar] 

Table 1: Interest Rates on Direct Loans: 

Loan type (borrower): Subsidized Stafford (undergraduate); 
Percent charged over the 10-year Treasury note rate: 2.05%; 
Award Year 2013-14 borrower interest rate[A]: 3.86%; 
Interest rate cap: 8.25%. 

Loan type (borrower): Unsubsidized Stafford (undergraduate); 
Percent charged over the 10-year Treasury note rate: 2.05%; 
Award Year 2013-14 borrower interest rate[A]: 3.86%; 
Interest rate cap: 8.25%. 

Loan type (borrower): Unsubsidized Stafford (graduate); 
Percent charged over the 10-year Treasury note rate: 3.6%; 
Award Year 2013-14 borrower interest rate[A]: 5.41%; 
Interest rate cap: 9.5%. 

Loan type (borrower): PLUS (graduate or parent); 
Percent charged over the 10-year Treasury note rate: 4.6%; 
Award Year 2013-14 borrower interest rate[A]: 6.41%; 
Interest rate cap: 10.5%. 

Source: 20 U.S.C. § 1087e(b) and GAO analysis of interest rate 
information. 

[A] An award year is the school year for which federal financial aid 
is used to fund a borrower's education. The 10-year Treasury note rate 
for the 2013-2014 award year is 1.81%. 

[End of table] 

There are a variety of repayment plan options available to eligible 
student loan borrowers. Under the standard repayment plan, borrowers 
typically repay loans over a period of up to 10 years. Key features of 
other plans are extended repayment periods and repayment amounts that 
are linked to borrowers' income. For instance, under the income-
contingent repayment plan, repayment amounts are calculated annually 
based on the borrower's adjusted gross income, family size, and total 
Direct Loan amount. Repayment periods under these plans may be up to 
25 years. By extending their repayment periods, borrowers may lower 
their monthly payments, but may pay more in interest over time. 

Types of Direct Loan Costs: 

The Direct Loan program has two main categories of costs: 
administrative costs and subsidy costs. See table 2 below for selected 
elements of these two types of costs. Some subsidy elements (like 
government borrowing costs) raise subsidy costs, while others (like 
borrower principal repayments) lower them.[Footnote 12] 

Table 2: Selected Direct Loan Administrative Costs and Subsidy 
Elements: 

Administrative costs: Processing loan applications; 
Subsidy elements and impact on net costs: Government borrowing costs; 
Going up. 

Administrative costs: Originating and disbursing loans; 
Subsidy elements and impact on net costs: Defaulted loans[A]; Going up. 

Administrative costs: Servicing outstanding loans; 
Subsidy elements and impact on net costs: Loan forgiveness; Going up. 

Administrative costs: School oversight and monitoring; 
Subsidy elements and impact on net costs: Borrower principal 
repayments; Going down. 

Administrative costs: Collecting on defaulted loans; 
Subsidy elements and impact on net costs: Borrower interest payments; 
Going down. 

Administrative costs: Collecting on defaulted loans; 
Subsidy elements and impact on net costs: Borrower fees for new loans; 
Going down. 

Administrative costs: Collecting on defaulted loans; 
Subsidy elements and impact on net costs: Recoveries on defaulted 
loans; Going down. 

Source: GAO analysis of administrative and subsidy cost categories. 

[A] For defaulted loans, the government has strong collection powers 
and tools such as tax refund offsets and wage garnishments. Loans are 
only discharged under limited conditions, such as if a borrower dies, 
becomes totally and permanently disabled, or, in rare circumstances, 
declares bankruptcy. (For loans to be discharged through bankruptcy, a 
bankruptcy court must find that repaying the loans would impose undue 
hardship. This must be done at an adversary proceeding at which 
creditors may be present to challenge the request.) 

[End of table] 

The funding for Direct Loan administration is generally discretionary, 
meaning that Congress periodically appropriates the level of funding 
it deems appropriate. The funding for subsidy costs, on the other 
hand, is mandatory, meaning that funds are not appropriated annually. 
Instead, Congress has enacted permanent statutory authority to 
appropriate funding for loans to eligible borrowers. 

Direct Loan Administrative Costs: 

The majority of the Direct Loan program's administrative costs are 
funded by discretionary appropriations to Education's Student Aid 
Administration account.[Footnote 13] The Student Aid Administration 
account provides funds to administer the Direct Loan program as well 
as other federal student aid programs including the Federal Family 
Education Loan Program.[Footnote 14] Administrative costs support 
activities such as educating students and families about how to obtain 
loans; processing loan applications; disbursing loans; administering 
existing guaranteed loans; servicing loan accounts; and taking action 
to prevent fraud, waste, and abuse. Costs to manage and collect 
payments on defaulted loans are also included in administrative 
costs.[Footnote 15] 

Side bar: 

Administrative Costs: Loan program expenses that are excluded from 
subsidy cost calculations, such as costs related to processing loan 
applications or servicing existing loans. 

[End of side bar] 

Education uses an activity-based costing model that tracks 
administrative cost by processes, such as application processing or 
loan servicing. In the model, Education calculates the full 
administrative cost of each process by first identifying its direct 
costs (or costs that can be tied to that specific process) and then 
allocating additional indirect costs, such as rent, equipment, and 
maintenance, to each process based on formulas intended to reflect how 
many indirect resources each process uses. Costs that include direct 
and indirect costs are called full costs. Education uses both full and 
direct costs to generate costs per unit, such as cost per application 
processed or borrower serviced. 

Direct Loan Subsidy Costs: 

As required by the Federal Credit Reform Act of 1990 (FCRA), Education 
estimates loan subsidy costs annually for inclusion in the President's 
budget.[Footnote 16] For Direct Loans, subsidy costs represent the 
estimated long-term cost to the government of extending credit over 
the life of the loan, excluding administration costs. Subsidy cost 
estimates that are recorded in a given year are calculated based on 
the net present value of lifetime estimated cash flows to and from the 
government that result from providing these loans to borrowers. 
[Footnote 17] For Direct Loans, cash flows from the government include 
loan disbursements and cash flows to the government include repayments 
of loan principal, interest and fee payments, and recoveries on 
defaulted loans. 

Text box: 

The Federal Credit Reform Act of 1990 (FCRA) was intended to improve 
the measurement of the budgetary costs of federal credit programs. 
Prior to the implementation of FCRA, credit programs were reported in 
the budget on a cash basis. Thus, loan guarantees appeared to be free 
in the budget year of the guarantee, while direct loans appeared to be 
as costly as grants. As a result, costs were distorted and credit 
programs could not be compared meaningfully with other non-credit 
programs and with each other. FCRA recognized that the true cost of a 
loan or guarantee is not captured by its cash flows in any one year, 
but by the net value of its cash flows over the life of the loan. This 
value is known as the "subsidy cost"--that is, the estimated long-term 
cost to the government of a direct loan or loan guarantee, calculated 
in current dollars, excluding administrative costs. Administrative 
costs remain on a cash basis and are excluded from subsidy 
calculations. 

[End of text box] 

Subsidy costs are influenced by a variety of variables, including 
government borrowing costs, the interest rate charged to student loan 
recipients, how quickly those recipients repay their loans, and how 
many ultimately default. A positive subsidy cost estimate indicates 
that the government anticipates a net cost, while a negative subsidy 
cost estimate indicates that the government anticipates generating net 
subsidy income, not counting administrative costs. To determine the 
overall cost of the Direct Loan program, both subsidy and 
administrative costs must be considered. For the government to break 
even on Direct Loans, net subsidy income should be equal to 
administrative costs. 

Side bar: 

Subsidy Cost: The estimated long-term cost to the government of 
providing a loan, expressed in current dollars, and excluding 
administrative costs. 

[End of side bar] 

Education calculates subsidy costs separately for each group of loans 
made in a particular fiscal year--referred to as a loan cohort. To 
estimate subsidy costs, Education has developed a Student Loan Model 
that contains a variety of assumptions. These assumptions are 
reflected through variables such as how quickly borrowers will repay 
their loans (and, thus, how much interest the government will 
collect), how many borrowers will default, and how successful default 
collection activities will be. 

Education annually reestimates subsidy costs for each loan cohort 
until all loans in the cohort have been repaid, which may take 
decades. Reestimates take into account actual loan performance as well 
as changes in assumptions about future performance, such as how many 
borrowers will default, or how many will participate in extended 
repayment plans. Reestimates may result in increases or decreases in 
subsidy cost estimates. 

Side bar: 

Loan Cohort: A group of loans made in a particular fiscal year. 

[End of side bar] 

In addition to Education's subsidy cost estimates, CBO also estimates 
subsidy costs to identify the financial impact of legislation and 
inform budget projections, among other purposes. CBO and Education 
both estimate subsidy costs for the Direct Loan program following the 
requirements of FCRA; however, they use different estimation 
methodologies and assumptions.[Footnote 18] Officials from both 
organizations pointed to a number of key areas where their assumptions 
differed. See table 3 for examples of key differences. Officials cited 
a number of reasons for differences in these particular assumptions, 
including differences in economic forecasts and professional judgment 
when developing forecasting methodologies. Because of such 
differences, CBO and Education's cost estimates for the program are 
not comparable. 

Table 3: Examples of Key Differences in CBO and Education Subsidy Cost 
Calculations under the Federal Credit Reform Act: 

Methodological differences: Treatment of consolidation loans; 
Education approach: Consolidation loans are treated as a payoff of the 
existing loan and a creation of a new loan; 
CBO approach: Consolidation loans are treated as a modification of an 
existing loan, with no new loan created. 

Methodological differences: Calculating net present value of future 
cash flows; 
Education approach: The interest rate (discount rate) used to 
calculate the net present value of future cash flows for each cohort 
is updated when the loan cohort is 90% disbursed, and is locked 
thereafter; 
CBO approach: The interest rate used to calculate the net present 
value of future cash flows for each cohort is reestimated annually, 
and not locked. 

Methodological differences: Timing of net present value calculations 
(i.e., discount timing); 
Education approach: The net present value of cash flows is calculated 
at the beginning of each fiscal year; 
CBO approach: The net present value of cash flows is calculated at the 
end of each fiscal year. 

Methodological differences: Treatment of certain contractor payments; 
Education approach: Payments to private collection agencies for default 
collection activities and payments to loan servicers when paying off a 
loan for consolidation, are included in the subsidy calculations; 
CBO approach: These payments are excluded from the subsidy 
calculations. 

Methodological differences: Borrower interest rates; 
Education and CBO use different models to forecast student loan 
borrower interest rates. 

Source: GAO analysis of information on Education and CBO subsidy cost 
calculation methodologies. 

[End of table] 

Total Direct Loan Administrative Costs Grew from $314 Million to $864 
Million in Recent Years, but Costs per Borrower Have Generally 
Remained Steady or Fallen: 

Total Direct Loan Administrative Costs Grew by $550 Million from 
Fiscal Years 2007 to 2012, Largely Driven by an Increase in the Number 
of Direct Loans: 

Side bar: 

Direct Costs: Costs that can be tied to a specific output, such as 
loan application processing or loan servicing. 

[End of side bar] 

The Department of Education reported that full administrative costs 
(i.e. costs incorporating both direct and indirect administrative 
costs) for the Direct Loan program increased by $550 million from 
fiscal year 2007 to fiscal year 2012, to total $864 million in fiscal 
year 2012. These Direct Loan administrative costs represent 65 percent 
of the $1.3 billion[Footnote 19] in new budget authority made 
available to the Student Aid Administration account in fiscal year 
2012, while administrative costs for other loan, grant, and loan 
guarantee programs and activities made up the remainder.[Footnote 20] 
Loan servicing, which includes activities related to processing loan 
payments and maintaining borrower information, is the largest category 
of reported administrative costs, comprising 63 percent of total 
administrative costs in fiscal year 2012. Figure 1 below shows total 
Direct Loan Program costs by category from fiscal year 2007 to fiscal 
year 2012. 

Side bar: 

Indirect Costs: Costs not tied to one specific output, including rent, 
equipment, and building maintenance. 

[End of side bar] 

Side bar: 

Full Costs: Total resources used to produce an output, including both 
direct and indirect costs. 

[End of side bar] 

Figure 1: Total Direct Loan Program Administrative Costs by Category, 
Fiscal Year 2007 to Fiscal Year 2012: 

[Refer to PDF for image: combined stacked vertical bar and line graph] 

Fiscal year: 2007; 
Number of outstanding Direct Loans: 
Subsidized Stafford loans: 9 million; 
Unsubsidized Stafford loans: 6 million; 
PLUS loans and Graduate PLUS loans: 1 million; 
Consolidation loans: 4 million; 
Direct Loan full administrative costs: $313,523. 

Fiscal year: 2008; 
Number of outstanding Direct Loans: 
Subsidized Stafford loans: 10 million; 
Unsubsidized Stafford loans: 7 million; 
PLUS loans and Graduate PLUS loans: 1.1 million; 
Consolidation loans: 4 million; 
Direct Loan full administrative costs: $359,876. 

Fiscal year: 2009; 
Number of outstanding Direct Loans: 
Subsidized Stafford loans: 12 million; 
Unsubsidized Stafford loans: 9 million; 
PLUS loans and Graduate PLUS loans: 1.2 million; 
Consolidation loans: 5 million; 
Direct Loan full administrative costs: $403,428. 

Fiscal year: 2010; 
Number of outstanding Direct Loans: 
Subsidized Stafford loans: 19 million; 
Unsubsidized Stafford loans: 16 million; 
PLUS loans and Graduate PLUS loans: 2.5 million; 
Consolidation loans: 5 million; 
Direct Loan full administrative costs: $573,717. 

Fiscal year: 2011; 
Number of outstanding Direct Loans: 
Subsidized Stafford loans: 29 million; 
Unsubsidized Stafford loans: 27 million; 
PLUS loans and Graduate PLUS loans: 4 million; 
Consolidation loans: 6 million; 
Direct Loan full administrative costs: $776,573. 

Fiscal year: 2012; 
Number of outstanding Direct Loans: 
Subsidized Stafford loans: 38 million; 
Unsubsidized Stafford loans: 37 million; 
PLUS loans and Graduate PLUS loans: 5 million; 
Consolidation loans: 9 million; 
Direct Loan full administrative costs: $863,573. 

Source: Department of Education data. 

Note: See appendix II for supporting data. All administrative costs 
are full costs generated by Education's Activity Based Costing model 
for the Direct Loan program. 

[End of figure] 

Total Direct Loan administrative costs reported by the Department of 
Education rose from $314 million to $864 million--a 175 percent 
increase--from fiscal year 2007 to fiscal year 2012. Loan servicing 
costs showed the greatest dollar increase at over $300 million (152 
percent) during that time period. Although other categories--
application processing, school oversight and monitoring, and 
originations and disbursements--showed smaller dollar increases, the 
percentage growth of these categories ranged from about 270 percent to 
about 440 percent. Only default collections, including the management 
and collection of defaulted loans and assistance to defaulted 
borrowers, stayed generally flat in total dollars.[Footnote 21] 

Education officials stated that total administrative costs are largely 
driven by loan volume and the number of borrowers and, therefore, 
costs have increased as the number of Direct Loans has increased. 
[Footnote 22] The reported number of outstanding Direct Loans 
increased over 300 percent, from 19 million to over 88 million, from 
fiscal year 2007 through fiscal year 2012. As shown in figure 2 below, 
the largest loan volume increases were in Subsidized and Unsubsidized 
Stafford loans. 

Figure 2: Number of Outstanding Direct Loans by Loan Type and Direct 
Loan Program Administrative Costs, Fiscal Year 2007 to Fiscal Year 
2012: 

[Refer to PDF for image: stacked vertical bar graph] 

Administrative costs by category: 

Fiscal year: 2007; 
Loan servicing includes activities such as processing payments and 
maintaining borrower information: $214 million; 
Originations and disbursements includes processing originations, 
storing promissory notes, and managing funding levels by student and 
by institution: $38 million; 
Default collections includes the management and collection of 
defaulted loans and assistance to defaulted borrowers: $32 million; 
Application processing includes the collection, processing, and 
management of aid application information: $18 million; 
Monitoring and oversight of institutions such as schools, lenders, and 
servicers: $12 million. 

Fiscal year: 2008; 
Loan servicing includes activities such as processing payments and 
maintaining borrower information: $255 million; 
Originations and disbursements includes processing originations, 
storing promissory notes, and managing funding levels by student and 
by institution: $40 million; 
Default collections includes the management and collection of 
defaulted loans and assistance to defaulted borrowers: $35 million; 
Application processing includes the collection, processing, and 
management of aid application information: $19 million; 
Monitoring and oversight of institutions such as schools, lenders, and 
servicers: $11 million. 

Fiscal year: 2009; 
Loan servicing includes activities such as processing payments and 
maintaining borrower information: $266 million; 
Originations and disbursements includes processing originations, 
storing promissory notes, and managing funding levels by student and 
by institution: $73 million; 
Default collections includes the management and collection of 
defaulted loans and assistance to defaulted borrowers: $36 million; 
Application processing includes the collection, processing, and 
management of aid application information: $20 million; 
Monitoring and oversight of institutions such as schools, lenders, and 
servicers: $8 million. 

Fiscal year: 2010; 
Loan servicing includes activities such as processing payments and 
maintaining borrower information: $349 million; 
Originations and disbursements includes processing originations, 
storing promissory notes, and managing funding levels by student and 
by institution: $97 million; 
Default collections includes the management and collection of 
defaulted loans and assistance to defaulted borrowers: $38 million; 
Application processing includes the collection, processing, and 
management of aid application information: $63 million; 
Monitoring and oversight of institutions such as schools, lenders, and 
servicers: $26 million. 

Fiscal year: 2011; 
Loan servicing includes activities such as processing payments and 
maintaining borrower information: $459 million; 
Originations and disbursements includes processing originations, 
storing promissory notes, and managing funding levels by student and 
by institution: $134 million; 
Default collections includes the management and collection of 
defaulted loans and assistance to defaulted borrowers: $42 million; 
Application processing includes the collection, processing, and 
management of aid application information: $96 million; 
Monitoring and oversight of institutions such as schools, lenders, and 
servicers: $46 million. 

Fiscal year: 2012; 
Loan servicing includes activities such as processing payments and 
maintaining borrower information: $540 million; 
Originations and disbursements includes processing originations, 
storing promissory notes, and managing funding levels by student and 
by institution: $147 million; 
Default collections includes the management and collection of 
defaulted loans and assistance to defaulted borrowers: $34 million; 
Application processing includes the collection, processing, and 
management of aid application information: $95 million; 
Monitoring and oversight of institutions such as schools, lenders, and 
servicers: $47 million. 

Source: Department of Education data. 

Note: See appendix II for supporting data. All administrative costs 
are full costs, i.e. include direct and indirect costs. Cost data were 
generated by Education's Activity Based Costing model for the Direct 
Loan program. 

[End of figure] 

Several factors contributed to the increase in the number of Direct 
Loans. For example, beginning in 2008, changes in the student loan 
market led numerous schools to transition from the Federal Family 
Education Loan program to the Direct Loan program.[Footnote 23] In 
addition, the Student Aid and Fiscal Responsibility Act terminated the 
authority to make or insure new loans under the Federal Family 
Education Loan program after June 30, 2010, with subsequent federal 
student loans originated under the Direct Loan program. Education 
officials also stated that the economic downturn in 2008 coincided 
with an increase in student loan volume as individuals returned to 
school. 

Costs per Borrower and Other Unit Costs Have Generally Remained Stable 
or Fallen: 

While total reported administrative costs increased from fiscal year 
2007 to fiscal year 2012, cost per borrower and other unit cost 
measures remained stable or fell. Unit costs are a measure Education 
uses to track costs such as cost per loan origination, cost per 
borrower serviced, and cost per application processed.[Footnote 24] 
See table 4 for a description of these unit cost measures.[Footnote 
25] According to Education officials, increased loan volume resulted 
in a decrease in many unit costs. For example, total loan servicing 
costs for all programs supported by the Student Aid Administration 
account increased from fiscal year 2007 to fiscal year 2012; however, 
the number of borrowers serviced for these programs also increased 
from 9.7 million in fiscal year 2008 to 29.7 million in fiscal 2012. 
As a result, the annual servicing cost per borrower decreased slightly 
during that time, remaining at roughly $25 per borrower. While the 
overall flat or downward trend persisted over most of the years we 
studied, Education reported a slight increase in unit costs from 
fiscal year 2011 to 2012, attributable to such changes as lower 
volumes of applications and originations. 

Table 4: Selected Student Aid Administration Unit Costs, Fiscal Years 
2007 to 2012: 

Unit cost category: Free Application for Federal Student Aid 
processing[A]; Cost of application processing per application; 
FY 2007: $7.14; 
FY 2008: $6.94; 
FY 2009: $5.14; 
FY 2010: $6.03; 
FY 2011: $6.11; 
FY 2012: $6.19. 

Unit cost category: Direct Loan originations; Cost of loan origination 
per loan; 
FY 2007: [B]; 
FY 2008: [B]; 
FY 2009: $9.20; 
FY 2010: $6.33; 
FY 2011: $4.99; 
FY 2012: $6.11. 

Unit cost category: Direct Loan consolidation originations; Cost of 
loan origination per loan; 
FY 2007: $130.51; 
FY 2008: $123.81; 
FY 2009: 
$69.94; FY 2010: $69.51; 
FY 2011: $51.91; 
FY 2012: $60.67. 

Unit cost category: Direct Loan PLUS originations; Cost of loan 
origination per loan; 
FY 2007: [B]; 
FY 2008: [B]; 
FY 2009: $9.62; 
FY 2010: $6.29; 
FY 2011: $4.51; 
FY 2012: $5.48. 

Unit cost category: Loan servicing[A]; Cost of loan servicing 
activities per borrower; 
FY 2007: $25.64; 
FY 2008: $26.37; 
FY 2009: $27.10; 
FY 2010: $26.43; 
FY 2011: $24.20; 
FY 2012: $25.09. 

Unit cost category: Default collections[A]; Cost of default collections 
per default dollar collected; 
FY 2007: $0.18; 
FY 2008: $0.17; 
FY 2009: $0.17; 
FY 2010: $0.12; 
FY 2011: $0.12; 
FY 2012: $0.13. 

Unit cost category: Oversight and monitoring of schools[A]; 
Cost of oversight activities per school monitored; 
FY 2007: [B]; 
FY 2008: $10,052; 
FY 2009: $6,369; 
FY 2010: $9,671; 
FY 2011: $10,313; 
FY 2012: $10,694. 

Source: Department of Education data. 

Notes: All administrative costs are full costs. FY refers to fiscal 
year. 

[A] This measure includes cost data from the Direct Loan program, 
along with other programs supported by the Student Aid Administration 
account. 

[B] Data not available for this year. 

[End of table] 

Recent changes in loan servicing contracts, combined with other 
factors, have increased uncertainty about what servicing costs per 
borrower will be in coming years. Prior to 2009, all loans were 
serviced under a single contract, referred to as the Common Services 
for Borrowers (CSB) contract. Under the CSB contract, Education paid 
servicers based on loan volume, paying a smaller fee per borrower as 
the number of borrowers serviced increased. In order to accommodate 
increasing loan volume, Education began to contract with additional 
loan servicers in 2009.[Footnote 26] The new contracts use a different 
pricing structure to encourage servicers to keep more borrowers in a 
repayment status.[Footnote 27] For example, under one such contract, 
the servicers receive the highest rate for borrowers who are in-grace, 
in current repayment, or delinquent for 30 days or less, and the 
lowest rate for borrowers who have been delinquent for 270 days or 
more. Education officials stated that under the new contracts, they 
may pay more per borrower but may also keep more borrowers in 
repayment.[Footnote 28] Education also recently reported that the 
large portfolio of Direct Loans originated after the move away from 
the Federal Family Education Loan Program is in the process of 
maturing from the cheaper "in-school" servicing cost status to the 
more expensive "in-repayment" servicing cost status. As a result of 
these changing circumstances--a new servicing payment structure, new 
servicers collectively managing an increasing volume of loans, and the 
maturing of the Direct Loan portfolio--whether future servicing costs 
per borrower will increase or decrease is uncertain, according to 
Education officials. 

Estimated Subsidy Costs Differ across Loan Cohorts and Fluctuate over 
Time: 

Subsidy Costs Vary by Loan Cohort, and Current Estimates Show the 
Government is Expected to Generate Subsidy Income from Recent Cohorts: 

The subsidy costs or income generated from Direct Loans varied between 
the 2007 to 2012 loan cohort years (a cohort being a group of loans 
made in a particular fiscal year). For example, based on Education's 
most recent subsidy cost estimates, the 2008 loan cohort is currently 
estimated to result in the highest subsidy cost to the government, 
with a subsidy cost of about $44.4 million. In contrast, the 2012 loan 
cohort is estimated to generate the most subsidy income--about $23.6 
billion--for the government.[Footnote 29] (See table 5 for subsidy 
cost components and examples of what they include.) 

Side bar: 

Reestimate: Annual recalculation of estimated lifetime loan subsidy 
costs for each cohort, incorporating updated information on actual 
loan performance and revised assumptions about future cash flows. 

[End of side bar] 

As of the end of fiscal year 2013, it is estimated that the government 
will generate about $66 billion in subsidy income from the 2007 to 
2012 loan cohorts as a group.[Footnote 30] However, current estimates 
for this group of loan cohorts are based predominantly on forecasted 
cash flow data derived from assumptions about future loan 
performance.[Footnote 31] As more information on actual cash flows for 
these loans becomes available, subsidy cost estimates will change. As 
a result, it is unclear whether these loan cohorts will ultimately 
generate subsidy income, as currently estimated, or whether they will 
result in subsidy costs to the government. This will not be known with 
certainty until all cash flows have been recorded after loans have 
been repaid or discharged--which may be as many as 40 years from when 
the loans were originally disbursed.[Footnote 32] 

Table 5: Direct Loan Subsidy Cost Components: 

Subsidy cost component: Financing; 
Example(s) of what is included: 
* Government borrowing costs; 
* Borrower scheduled interest payments. 

Subsidy cost component: Fees; 
Example(s) of what is included: 
* Cash flows from fees paid by borrowers for new loans. 

Subsidy cost component: Defaults (net of recoveries); 
Example(s) of what is included: 
* Missed payments due to defaults or delinquency. Recoveries on 
defaults or delinquencies net of payments made to private 
collection agencies for recovering on defaulted payments. 

Subsidy cost component: All other costs; 
Example(s) of what is included: 
* Prepayments and loan consolidations--when borrowers consolidate 
their loans and have a different payment schedule from their previous 
loan agreement[A]; 
* Loan forgiveness. 

Source: GAO analysis of U.S. Department of Education data. 

Note: The subsidy cost estimates are calculated and presented in the 
federal credit supplement, broken out into four components: financing 
costs, fees, defaults (net of recoveries), and "all other" costs. The 
federal credit supplement is part of the President's Budget and 
provides summary information on Federal direct loan programs subject 
to FCRA, including information on subsidy cost estimates. 

[A] At the time of consolidation, Education treats the existing loans 
as paid off early and the newly-consolidated loan takes on the 
characteristics of its new cohort. 

[B] Loans are only discharged under limited conditions, such as if a 
borrower dies, becomes totally and permanently disabled, or, in rare 
circumstances, declares bankruptcy. (For loans to be discharged 
through bankruptcy, a bankruptcy court must find that repaying the 
loans would impose undue hardship. This must be done at an adversary 
proceeding at which creditors may be present to challenge the request.) 

[End of table] 

As seen in figure 3 below, overall subsidy rates--subsidy costs as a 
percentage of loan disbursements--are generally estimated to decrease 
across the 2007 to 2012 loan cohorts. Moreover, later loan cohorts in 
this range are estimated to generate more subsidy income than the 
earlier loan cohorts, as indicated by the increasingly negative 
subsidy rates.[Footnote 33] Our analysis of how the various components 
of subsidy costs differ across cohorts shows that, relative to the 
financing costs, the defaults, fees, and all other costs of the 
subsidy rate were relatively stable across the 2007 to 2012 loan 
cohorts. For example, these costs were estimated to vary between 1 to 
2.4 percentage points across cohorts, while the financing costs were 
estimated to vary almost 19 percentage points across cohorts. 

Figure 3: Current Subsidy Rates Broken out by Cost Component, Direct 
Loans, 2007-2012: 

[Refer to PDF for image: multiple line graph] 

Positive percentage: Subsidy cost to government; 
Negative percentage: Subsidy income to government. 

Cohort year: 2007; 
Overall subsidy rate: -0.3%; 
Financing costs: -8.1%; 
Defaults: 2.8%; 
Fees: -2.4%; 
All other costs: 7.4%. 

Cohort year: 2008; 
Overall subsidy rate: -0.3%; 
Financing costs: -7.5%; 
Defaults: 2.6%; 
Fees: -2.0%; 
All other costs: 6.5%. 

Cohort year: 2009; 
Overall subsidy rate: -13.7%; 
Financing costs: -23.6%; 
Defaults: 2.8%; 
Fees: -1.6%; 
All other costs: 8.6%. 

Cohort year: 2010; 
Overall subsidy rate: -13.6%; 
Financing costs: -22.1%; 
Defaults: 1.7%; 
Fees: -1.5%; 
All other costs: 8.2%. 

Cohort year: 2011; 
Overall subsidy rate: -17.2%; 
Financing costs: -26.4%; 
Defaults: 1.5%; 
Fees: -1.3%; 
All other costs: 8.9%. 

Cohort year: 2012; 
Overall subsidy rate: -16.4%; 
Financing costs: -24.2%; 
Defaults: 1.2%; 
Fees: -1.2%; 
All other costs: 7.7%. 

Source: Department of Education Credit Subsidy Calculator Output 2 
data. 

Note: This figure shows the most recent reestimated subsidy rates for 
the 2007 to 2012 cohorts broken out by the four cost components used 
by Education for budget estimates (financing costs, fees, defaults 
(net of recoveries), and all other costs). See appendix II for 
underlying data. 

[End of figure] 

As seen in figure 3, the financing component of the subsidy cost is 
estimated to generally decrease across cohorts. Financing costs are 
related to the interest payments borrowers make on Direct Loans and 
the government's cost of borrowing to finance its lending. Past GAO 
work has found that the difference, or "spread," between the borrower 
interest rate and government's cost of borrowing was a key factor in 
determining whether there is a positive or negative subsidy for Direct 
Loans.[Footnote 34] As the spread increases, so does the difference 
between the interest payments Education receives from borrowers and 
the interest payments Education makes to Treasury. 

The spread between the borrower interest rate and the government's 
cost of borrowing varies by loan type, because different borrower 
rates are established by law for subsidized Stafford, unsubsidized 
Stafford, and PLUS loans. Figure 4 compares borrowers' rates for the 
various Direct Loan types, including the average borrower rate 
weighted by loan type (or "weighted average"), with the government 
cost of borrowing. Specifically, as seen in figure 4, Direct Loan 
borrower rates decreased for subsidized Stafford loans as a result of 
statutory changes made during this time period.[Footnote 35] 

Figure 4: Comparison of Borrower Interest Rates and Government Cost of 
Borrowing, 2007-2012: 

[Refer to PDF for image: multiple line graph] 

Year: 2007; 
Subsidized Stafford: 6.8%; 
Unsubsidized Stafford: 6.8%; 
PLUS: 7.9%; 
Weighted average: 7.0%; 
Government cost of borrowing: 4.96%. 

Year: 2008; 
Subsidized Stafford: 6%; 
Unsubsidized Stafford: 6.8%; 
PLUS: 7.9%; 
Weighted average: 6.67%; 
Government cost of borrowing: 4.96%. 

Year: 2009; 
Subsidized Stafford: 5.6%; 
Unsubsidized Stafford: 6.8%; 
PLUS: 7.9%; 
Weighted average: 6.54%; 
Government cost of borrowing: 3.11%. 

Year: 2010; 
Subsidized Stafford: 4.5%; 
Unsubsidized Stafford: 6.8%; 
PLUS: 7.9%; 
Weighted average: 6.12%; 
Government cost of borrowing: 3.28%. 

Year: 2011; 
Subsidized Stafford: 3.4%; 
Unsubsidized Stafford: 6.8%; 
PLUS: 7.9%; 
Weighted average: 5.69%; 
Government cost of borrowing: 2.79%. 

Year: 2012; 
Subsidized Stafford: 3.4%; 
Unsubsidized Stafford: 6.8%; 
PLUS: 7.9%; 
Weighted average: 5.90%; 
Government cost of borrowing: 2.88%. 

Source: GAO analysis of U.S. Department of Education data and the 
Budget of the United States Government, fiscal years 2009-2014. 

Note: The weighted average represents the average borrower interest 
rate, weighted by volume for each loan type. Data are provided by loan 
cohort year. See appendix II for underlying data. 

[End of figure] 

The spread between the government's cost of borrowing and the weighted 
average borrower rate (across all Direct Loan types) increased between 
2007 and 2009, when it peaked. During this time, the government's cost 
of borrowing fell more sharply than borrower interest rates. In 
instances where the borrower rate is greater than the government 
borrowing costs, as is the case between 2007 and 2012, Education would 
be expected to receive more in interest payments from borrowers than 
what it pays in interest to Treasury, increasing the likelihood that 
revenues will exceed costs for the loan. 

Subsidy Cost Estimates Fluctuate over Time Due to Regularly-Updated 
Data: 

Education's estimates of lifetime loan subsidy costs have varied over 
time based on updated information recognized during the reestimate 
process. Through the reestimate process, subsidy cost estimates are 
updated for each loan cohort to account for information on actual loan 
performance and the government's cost of borrowing.[Footnote 36] Most 
cohorts from 2007 to 2012 have experienced both downward and upward 
adjustments to the estimated subsidy costs over time due to these 
reestimates. Each year, the estimated lifetime subsidy cost for a 
cohort will change to reflect the most recent reestimate information. 
See textbox for more information on the reestimate process. 

Text box: 

Reestimate Process; Reestimates reflect changes related to both 
interest rate assumptions and non-interest rate assumptions as actual 
cash flows are recorded after loans are disbursed. For example, 
reestimates show the difference between the estimated government 
borrowing costs (discount rate) when the original subsidy rate is 
calculated, and the final government borrowing costs that are 
determined when a loan cohort is substantially disbursed. 
* OMB guidance states that government borrowing costs are updated 
through reestimates when a cohort is at least 90 percent disbursed. 
Because of the timing of disbursement for Direct Loans, two different 
fiscal years of interest rate data feed into the final government 
borrowing costs used for the reestimates. For example, actual data on 
the final government borrowing costs for the 2007 loan cohort would be 
available in fiscal year 2009; 
* Once the; government borrowing costs have been determined, the rate 
is set for the life of the cohort. 
Reestimates also reflect differences in actual versus estimated loan 
performance. For example, when data get updated on the number of loans 
that were canceled due to death, the information is included in 
technical reestimates. The effects of changes in this variable on the 
overall cost estimate vary depending on how the mortality rate changes 
from year to year. Changes in other variables such as default rates 
and borrower participation in loan repayment plans also affect 
assumptions used for cost estimates. 

[End of text box] 

As shown in figure 5, there can be wide variations in the reestimated 
subsidy rates and, consequently, the estimated subsidy costs, for the 
same cohort over time. For example, the 2008 loan cohort was estimated 
to generate as much as $9.09 in subsidy income per $100 of loan 
disbursements based on the reestimate information published in the 
fiscal year 2011 President's budget. However, in the estimates 
published in the fiscal year 2012 President's budget, the same loan 
cohort was expected to generate a small cost of 24 cents per $100 
dollars of loan disbursements, based on updated information. This 
represents a swing of $9.33 per $100 of loan disbursements. Similarly, 
the original subsidy rate estimate for the 2009 loan cohort indicated 
that the government would generate a subsidy income of almost $15 per 
$100 of loan disbursements. However, the revised estimate published in 
the fiscal year 2011 President's budget indicated that the subsidy 
income the government was expected to generate dropped by about 74 
percent, to $4 per $100 of loan disbursements. Figure 5 shows the 
original subsidy rate and subsequent reestimated subsidy rates for the 
2007 to 2012 loan cohorts over time. 

Figure 5: Original and Reestimated Subsidy Rates, Direct Loans, 2007-
2012 Cohorts: 

[Refer to PDF for image: multiple line graph] 

Loan cohort: 2007 cohort; 
FY 2007: 1.48%; (original subsidy rate); 
FY 2008: estimate not yet completed; 
FY 2009: 1.37%; 
FY 2010: -4.2%; 
FY 2011: -0.2%; 
FY 2012: 0.1%; 
FY 2013: 0.23%; 
FY 2014: -0.28%. 

Loan cohort: 2008 cohort; 
FY 2008: -0.8%; (original subsidy rate); 
FY 2009: estimate not yet completed; 
FY 2010: -1.04%; 
FY 2011: -9.09%; 
FY 2012: 0.24%; 
FY 2013: 0.22%; 
FY 2014: -0.23%. 

Loan cohort: 2009 cohort; 
FY 2009: -14.96%; (original subsidy rate); 
FY 2010: estimate not yet completed; 
FY 2011: -3.94%; 
FY 2012: -11.85%; 
FY 2013: -12.73%; 
FY 2014: -13.72%. 

Loan cohort: 2010 cohort; 
FY 2010: -7.66%; (original subsidy rate); 
FY 2011: estimate not yet completed; 
FY 2012: -15.12%; 
FY 2013: -13.87%; 
FY 2014: -13.6%. 

Loan cohort: 2011 cohort; 
FY 2011: -13.91%; (original subsidy rate); 
FY 2012: estimate not yet completed; 
FY 2013: -8.21%; 
FY 2014: -17.22%. 

Loan cohort: 2012 cohort; 
FY 2012: -16.49%; (original subsidy rate); 
FY 2013: estimate not yet completed; 
FY 2014: -16.42%. 

Source: Budget of the United States Government, fiscal years 2009-2014. 

Note: The original subsidy rate is represented by the first data point 
in each series and is recorded in the fiscal year that loans were 
obligated for each cohort. Subsequent data points represent the 
reestimated subsidy rate published in the President's budget in the 
corresponding fiscal year. Faded lines indicate fiscal years for which 
the updated estimate was not yet completed because the loan cohort is 
not yet substantially disbursed at the time the budget for that fiscal 
year was prepared. Negative subsidy rates represent instances where 
the government is estimated to generate subsidy income. See appendix 
II for underlying data. 

[End of figure] 

Volatility in subsidy cost estimates for a given cohort is generally 
expected to decrease over time. An Education official explained that 
estimates for loan cohorts experience more volatility in early 
reestimates because less actual data, as opposed to forecasted data, 
are available to inform the estimates. As more actual data become 
available for a cohort, Education expects to see smaller changes in 
the reestimates over time. For example: 

* Earlier cohorts with more actual data to inform the reestimate have 
become less volatile: The estimates for the 2007 and 2008 cohorts 
initially showed large downward adjustments in the reestimated subsidy 
rates. In general, these cohorts currently are estimated to have a 
subsidy rate close to zero, and the reestimated subsidy rates have not 
varied much in the most recent reestimate years. 

* Later cohorts with less actual data to inform the reestimate are 
currently more volatile: The 2009 through 2011 cohorts exhibit the 
most volatility over the years for which reestimates are available, in 
that recent reestimated subsidy rates for these cohorts have exhibited 
larger changes than the 2007 and 2008 cohorts. 

Because Direct Loan Costs Are Sensitive to Certain Variables, Borrower 
Interest Rates Cannot Be Set in Advance to Consistently Balance 
Government Revenue with Costs: 

Direct Loan Costs Are More Sensitive to Changes in Government 
Borrowing Costs than to Other Selected Variables: 

Direct Loan costs fluctuate according to changes in certain variables, 
with varying levels of sensitivity.[Footnote 37] In particular, Direct 
Loan costs are sensitive to changes in the government's cost of 
borrowing, which changes for each cohort of loans depending on 
economic conditions and the characteristics of the cohort.[Footnote 
38] This, coupled with regularly-updated information on loan 
performance that results in fluctuations in the cost estimates 
themselves, means that total Direct Loan costs cannot be known with 
certainty until actual data are available at the end of the loans' 
life cycle--a process which takes decades. To illustrate this, we 
conducted analyses that provide practical examples of how costs change 
in response to certain variables. 

We simulated how changes in different variables could affect the 
overall costs of the Direct Loan program by altering four key 
variables: government borrowing costs,[Footnote 39] percentage of 
subsidized Stafford loans, percentage of income-contingent repayment 
plans, and percentage of loans that Education considers to be at high 
risk of default.[Footnote 40] We tested these variables under 
favorable and less-favorable conditions, from the perspective of 
government costs.[Footnote 41] Specifically, favorable conditions 
would likely reduce government costs, while less favorable conditions 
would increase costs to the government. By comparing the percent 
change in costs to the percent change in the variable, we determined 
how sensitive the costs were to each variable.[Footnote 42] We refer 
to this ratio as the sensitivity factor (see table 6). In the table, 
the sensitivity factor shows the percent change in costs that would be 
associated with a one-percent change in the indicated variable. 

Of the variables we selected, Direct Loan costs were most sensitive to 
changes in the government's cost of borrowing in both the favorable 
and less favorable scenarios, as shown by the sensitivity factors in 
table 6. For example, in the favorable scenario, a 1 percent increase 
in the government's cost of borrowing was associated with a 19.7 
percent increase in subsidy costs. In contrast, costs were less 
sensitive to the loan risk category, percentage of subsidized Stafford 
loans, and percentage of income-contingent repayment plans in both the 
favorable and less-favorable cases. For example, in the favorable 
scenario, a 1 percent decrease in income-contingent loans was 
associated with a 2.9 percent decrease in costs. We found that, in 
both the favorable and less favorable scenarios, subsidy costs were 
not very sensitive to changes in income-contingent repayment plans. 

Table 6: Sensitivity Factors of Variables under Favorable and Less-
Favorable Scenarios: 

Variable: Percentage of Subsidized Stafford Loans; 
Sensitivity factor in favorable Scenario: N/A; 
Sensitivity factor in less-favorable scenario: 3.0. 

Variable: Percentage of Income Contingent Repayment Plans; 
Sensitivity factor in favorable Scenario: 2.9; 
Sensitivity factor in less-favorable scenario: 1.3. 

Variable: Government borrowing costs (discount rate); 
Sensitivity factor in favorable Scenario: 19.7; 
Sensitivity factor in less-favorable scenario: 17.2. 

Variable: Proportion of loan risk group; 
Sensitivity factor in favorable Scenario: -13.0 (Increased percentage 
of lowest risk category); 
Sensitivity factor in less-favorable scenario: 0.4 (Increased 
percentage of highest risk category). 

Source: GAO analysis of U.S. Department of Education data. 

Note: There is no cost change associated with the percentage of 
subsidized Stafford loans in the favorable scenario because the 2014 
baseline values represented the lowest percentage of these loans. The 
percentage of Income Contingent Repayment Plans is weighted on the 
volume for subsidized and unsubsidized Stafford loans, which includes 
graduate PLUS loans. Parent PLUS loans are not eligible for income-
contingent repayment plans. In instances where the sensitivity factor 
is negative, an increase in the variable is associated with a decrease 
in costs. 

[End of table] 

Because Direct Loan costs are particularly sensitive to the 
government's cost of borrowing, total costs associated with the 
program will vary accordingly. Further, since government borrowing 
costs change, the eventual spread between those costs and the borrower 
interest rate will not be known until the cohort is almost fully 
disbursed. As a result, the interest income from borrowers may or may 
not offset the government's cost of borrowing at any given point in 
time. 

Borrower Interest Rates Cannot Be Set in Advance to Consistently 
Balance Government Revenue with Direct Loan Costs: 

Since the total costs associated with Direct Loans, including 
administrative and subsidy costs, are in flux until actual data are 
recorded through the end of the loans' life cycle, the point at which 
the government covers loan costs without generating additional revenue-
-known as the breakeven point--may also change throughout the life 
cycle of the loans until actual information is available. As a result, 
borrower interest rates that are needed to cover Direct Loan costs at 
one time may not cover costs at another time. If the borrower rates 
are set to offset the expected government costs according to initial 
estimates, because costs fluctuate, it is likely that the cohort will 
not ultimately break even over the life of the loans. For example, if 
costs are overestimated, borrower rates will be set too high and the 
Direct Loans will generate net income to the government. Likewise, if 
costs are underestimated, borrower rates will be set too low and the 
Direct Loans will generate net costs to the government. 

Side bar: 

Index: The base market rate to which student loan interest rates are 
pegged. 
Mark-up rate: The percentage-point increase over the base rate that 
students are charged. 

[End of side bar] 

To determine whether or not the conditions that would break even for 
one cohort would also break even for another cohort under different 
circumstances, we experimented with certain aspects of the borrower 
interest rate for two separate cohort years. [Footnote 43] 
Specifically, we altered the index (the base market rate that student 
loan interest rates are pegged to), the mark-up rate (the percentage-
point increase over the base rate that students are charged), and the 
differences in the mark-up rates among loan types. We looked at how 
these changes to the borrower rates would affect total Direct Loan 
costs, taking into account both administrative and subsidy costs. 

We identified two potential pathways to temporarily break even for the 
2014 cohort over the life of the loans, though these are only 
effective using currently available cost estimates, which will change 
over time. 

* Using the 10-year Treasury Note as the index for all Direct Loan 
borrowers without any additional mark-up--which means there would be 
no differences in the interest rate borrowers pay for different loan 
types--the government could approximately break even for the 2014 
cohort. See Figure 6 below. In this case, setting a flat interest rate 
for borrowers of all Direct Loan types is a notable divergence from 
current law, which provides lower interest rates to eligible 
undergraduates than to graduate students and parents. While there is 
no mark-up above the 10-year Treasury Note in this scenario, the 
government is still able to cover its estimated administrative and 
subsidy costs because borrower interest rates (in this case, the 
index) are higher than the government's cost of borrowing. 

* Using the 5-year Treasury Note as the index instead of the 10-year 
Treasury Note,[Footnote 44] there can be slight differences in the 
interest rates borrowers pay for different loan types (unlike in the 
previous scenario where rates were the same for all loan types), but 
in order to approximately break even, the differences in the mark-up 
for each loan type would need to be reduced by one half of the current 
rates set for the 2014 cohort. Additionally, undergraduate Stafford 
loans, which typically have the lowest interest rates, would need to 
be set at the same level as the 5-year Treasury Note, with no mark-up. 

Importantly, while changing the index and mark-up rates helped achieve 
a temporary breakeven point for the 2014 cohort, the same borrower 
rate scenarios did not yield the same results when applied to the 2019 
cohort. In other words, the breakeven methodologies used for the 2014 
cohort were not effective for the 2019 cohort. A difference in outcome 
for these two cohorts emerges because Direct Loan costs are sensitive 
to variables that are projected to look very different for 2019 than 
they did for 2014. Specifically, while interest rates for the 
government's cost of borrowing were unusually low for 2014, they are 
projected to more than double by 2019, beginning to approximate pre-
recession rates.[Footnote 45] This decreases the spread between the 
borrower interest rate and the government's cost of borrowing, and 
therefore decreases the likelihood that the government will generate 
income on the loans. Indeed, when we changed the index and mark-up 
rates for the 2019 cohort in the same manner that approximated a 
breakeven point for the 2014 cohort, the resulting estimates show the 
government incurring costs that would not be covered by revenues from 
Direct Loans. See figure 6. 

Figure 6: Loan Parameters to Break Even in 2014 Could Have Different 
Effects in 2019: 

Refer to PDF for image: illustration] 

The parameters that temporarily approximate a breakeven for the 2014 
cohort: 

* With no mark-up and no differences between loan types: 
Federal government and Borrowers: 
The program could temporarily break even without a markup by indexing 
to the 10-year Treasury note; 

* With differing indices, markups, and different loan types: 
Federal government and Borrowers: 
The program would also break even if the markup varies slightly by 
loan type, and the rate is indexed to the 5-year Treasury note. 

The parameters that temporarily approximate a breakeven for the 2014 
cohort would not be expected to work for the 2019 cohort: 

* With no mark-up and no differences between loan types: 
Federal government and Borrowers: 
Borrowers would pay much less than the program's costs, without a 
markup on any loan type, if the program is indexed to the 10-year 
Treasury note. 

* With differing indices, markups, and different loan types: 
Federal government and Borrowers: 
Borrowers also pay less than the program's costs if the markup varies 
slightly by loan type, and the rate is indexed to the 5-year Treasury 
note. 

Source: GAO analysis of U. S. Department of Education data. 

Note: This figure is based on current cost estimates for the 2014 and 
2019 loan cohorts, which will change. The actual values will 
ultimately affect whether the government breaks even or whether 
students end up paying more or less than program costs. 

[End of figure] 

While it would appear that borrower interest rates could be reset 
frequently to adjust to the continually-changing spread between the 
government's cost of borrowing and the borrower interest rate that 
drives costs, the fundamental issue of not having full cost 
information until the end of the loan repayment period means that the 
breakeven point itself cannot be accurately predicted beforehand. 
Accordingly, in part because Direct Loan costs are sensitive to 
variables that change over time, borrower rates cannot be set to 
reliably enable the program to break even over the life of a loan 
cohort before those variables and cost estimates stabilize. 

Concluding Observations: 

Given the role federal student loans play in furthering access to 
postsecondary education, the federal government has a stake in 
preventing loan costs from posing an unnecessary burden to borrowers. 
Understanding how Direct Loan costs are estimated and change over time-
-and what factors drive those changes--is instructive for setting 
borrower interest rates. However, available information illustrates 
the difficulties of accurately predicting what these program costs 
will be, and how much borrowers should ultimately be charged to 
achieve a particular outcome. Specifically, fluctuations in the actual 
and expected costs of the student loan program over time make it 
impractical to establish a particular borrower interest rate that 
would consistently break even. In addition, the policy changes needed 
to influence the costs of the program could conflict with other policy 
goals. For example, setting a flat interest rate for borrowers of all 
Direct Loan types may help temporarily approximate a breakeven point, 
but it would be a considerable shift from current law, which provides 
a lower interest rate to eligible undergraduates. Similarly, making 
frequent changes to the borrower interest rate could help program 
costs more closely match revenue in the short term, but it may confuse 
potential borrowers and complicate efforts to make the program 
transparent to students. Moreover, it may be difficult to anticipate 
how any future policy changes might affect program costs, as shifting 
economic conditions and cost reestimates continually move the 
breakeven target. Understanding the uncertainties and substantial 
challenges associated with estimating student loan costs may help 
inform Congress as it considers how best to promote access to 
postsecondary education. 

Agency Comments and Our Evaluation: 

We provided a draft of the report to Education for review and comment. 
In its comments, reproduced in appendix III, Education agreed with our 
findings. Education also described recent changes to federal student 
aid programs and noted the importance of the Direct Loan program, as 
well as the agency's focus on promoting greater college affordability 
and access. In addition to these general comments, Education provided 
us with technical comments that we incorporated, as appropriate. 

We are sending copies of this report to the Secretary of Education, 
relevant congressional committees, and other interested parties. In 
addition, the report is available at no charge on the GAO website at 
[hyperlink, http://www.gao.gov]. 

If you or your staff have any questions about this report, please 
contact me at (617) 788-0534 or emreyarrasm@gao.gov. Contact points 
for our Offices of Congressional Relations and Public Affairs may be 
found on the last page of this report. GAO staff who made key 
contributions to this report are listed in appendix IV. 

Signed by: 

Melissa Emrey-Arras: 
Director, Education, Workforce, and Income Security Issues: 

[End of section] 

Appendix I: Objectives, Scope, and Methodology: 

This report addresses (1) how the costs of administering the Direct 
Loan program have varied in recent years, (2) how estimated subsidy 
costs associated with the Direct Loan program have varied in recent 
years, and (3) how changes in different variables influence the 
overall cost of the Direct Loan program and the borrower interest rate 
needed to cover those costs. To address these objectives, we reviewed 
relevant federal laws and guidance, as well as past GAO reports 
related to the Direct Loan program, administrative costs, and subsidy 
costs. We interviewed officials at Education and the Congressional 
Budget Office (CBO) regarding key issues related to Direct Loan costs. 
In addition, we reviewed data from Education on its Direct Loan 
administrative costs and analyzed data on subsidy costs for fiscal 
years 2007 to 2012, including data generated from Education's Activity 
Based Costing (ABC) model and Education's student loan cash flow 
model. We assessed the reliability of data on Direct Loan 
administrative costs to evaluate trends in costs by interviewing 
agency officials knowledgeable about the data and reviewing 
documentation on the ABC model.[Footnote 46] In addition to aggregate 
cost data, Education calculates both direct and full unit costs using 
the ABC model. In order to report costs that include indirect costs, 
we used full unit cost data. Education officials noted that, in some 
cases, these data cannot isolate costs specific to the Direct Loan 
program, from costs related to other Education loan programs, because 
such data have not been necessary for management purposes. We 
determined that the data were sufficiently reliable for the limited 
purposes of this report. We have noted the limitations in the report 
where they were relevant. For subsidy costs, we analyzed data on 
Education subsidy cost estimates and reestimates for the 2007 to 2012 
Direct Loan cohorts that were reported in the Federal Credit 
Supplement (part of the annual President's Budget) to understand 
trends in cost estimates and discern key cost drivers. Additionally, 
we analyzed data generated by Education's student loan cash flow model 
used to estimate subsidy costs (referred to in this report as the 
Student Loan Model) to understand trends in subsidy cost components 
and cost drivers. We assessed the data's reliability by reviewing 
relevant documentation, comparing information to published data 
sources, and interviewing agency officials knowledgeable about the 
data. We determined that the data were sufficiently reliable for the 
purposes of this report. Our work did not include an assessment of the 
feasibility of actions that could be taken to reduce the impact of 
fluctuations in Direct Loan cost estimates, such as using variable 
borrower interest rates that change over the life of the loans, or the 
use of borrower rebates to offset any subsidy income generated from 
the loans. 

We conducted this performance audit from August 2013 to January 2014 
in accordance with generally accepted government auditing standards. 
Those standards require that we plan and perform the audit to obtain 
sufficient, appropriate evidence to provide a reasonable basis for our 
findings and conclusions based on our audit objectives. We believe 
that the evidence obtained provides a reasonable basis for our 
findings and conclusions based on our audit objectives. 

Student Loan Model: 

Education uses the Student Loan Model to estimate future cost and 
revenue cash flows by loan cohort. Data from the Student Loan Model 
are input into OMB's Credit Subsidy Model which, in accordance with 
FCRA, calculates the net present value of the annual cash flows of a 
given loan cohort, thereby obtaining a measure (subsidy rate) of the 
costs for each loan cohort. According to an Education official, the 
model uses a set of over 20 assumptions, including loan volume, 
defaults, and discount rates. For each assumption, the model contains 
a table with multiple possible values. The National Student Loan Data 
System (NSLDS), which processes and maintains data pertaining to Title 
IV programs, is a major source of the data for the assumptions used in 
the Student Loan Model. Data are pulled from a 4-percent random sample 
of loans from the NSLDS, and the data are calibrated by Education to 
generate assumptions about future behavior. We assessed the 
reliability of NSLDS data by reviewing existing information about the 
data and the system that produced them. We assessed the reliability of 
the Student Loan Model by reviewing model documentation and 
interviewing knowledgeable agency officials about the system. We 
determined that the data were sufficiently reliable for the purposes 
of this report. Education used the Student Loan Model to run various 
scenarios and generate data for GAO for the sensitivity and breakeven 
analyses described below. 

Sensitivity Analysis: 

We worked with internal experts and Education to develop sensitivity 
scenarios which altered key assumptions in the Student Loan Model to 
illustrate how changes in certain variables could affect the overall 
cost of the Direct Loan program. The four key variables we altered 
were: (1) discount rates, (2) percentage of subsidized Stafford loans, 
(3) percentage of risk category, and (4) percentage of income 
contingent repayment plans. We selected the first three factors 
because Education officials identified them as being among the major 
factors that affect subsidy costs. We selected the percentage of 
income contingent repayment plans because Education identified it as 
the type of repayment plan most likely to face shifts in participation 
over time, particularly as more people become eligible for various 
income contingent repayment plans. 

1. Discount rate: This is the collection of interest rates used to 
calculate the present value of cash flows that are estimated over a 
period of years. This rate also represents Education's cost of 
borrowing from Treasury. 

2. Percentage of subsidized Stafford loans: Subsidized Stafford Loans 
are available only to undergraduate student borrowers with 
demonstrated financial need. The government subsidizes these loans by 
not charging student borrowers for the interest that accrues while 
they are still in school and during a 6-month grace period after 
leaving school. 

3. Percentage of risk category: These categories were created using 
school type and academic level to determine the potential risk of 
default, which can lead to higher subsidy costs for the loans. 

4. Percentage of income contingent repayment plans: This is the 
percentage of loans that are structured to prorate the repayment plan 
based upon the borrower's income. In the student loan model, there is 
one variable that encompasses all repayment plans based on income. 
These plans may result in increased subsidy costs. 

We tested the sensitivity of costs under two types of scenarios: 

1. Favorable scenario: This scenario used past variable rates that 
represented more favorable conditions in terms of reducing costs to 
the government. For example, because income contingent repayment plans 
have a higher subsidy rate than other types of repayment plans, we 
used the lowest percentage of income contingent repayment plans that 
existed from 2007-2012 in this scenario. 

2. Less-favorable scenario: This scenario used past variable rates 
that represented less favorable conditions in terms of increasing cost 
to the government. For example, because a higher discount rate 
increases Education's cost of borrowing from Treasury, we used the 
highest discount rate that existed from 2007-2012 in this scenario. 
See table 7 for the variable rates used in each scenario. 

Table 7: Variable Rates Used in Sensitivity Scenarios: 

Variable: Percentage of Subsidized Stafford Loans; 
Rate used in favorable scenario: 25.5%; 
Rate used in less-favorable scenario: 44.3%. 

Variable: Percentage of Income Contingent Repayment Plans[A]; 
Rate used in favorable scenario: 7.6%; 
Rate used in less-favorable scenario: 10.9%. 

Variable: Discount rate; 
Rate used in favorable scenario: 2.8%; 
Rate used in less-favorable scenario: 5.0%. 

Variable: Proportion of loan risk group[B]; 
Rate used in favorable scenario: Increased percentage of loan volume 
included in the lowest loan risk category from 44.5% to 51.2%; 
Rate used in less-favorable scenario: Increased percentage of loan 
volume included in the highest loan risk category from 6.7% to 51.2%. 

Source: U.S. Department of Education data. 

[A] The percentage of Income Contingent Repayment plans is weighted on 
the volume for subsidized and unsubsidized Stafford loans, which 
includes graduate PLUS loans. Parent PLUS loans are not eligible for 
income-contingent repayment plans. 

[B] To test the sensitivity of loan risk group, Education officials 
transferred the loan volume of the highest risk group category to the 
lowest risk category in the favorable scenario. In the less favorable 
scenario, Education transferred the loan volume of the lowest risk 
group to the highest risk group. This maintained the overall loan 
volume but changed the weighting between more and less risky loans. 

[End of table] 

The scenarios forecast the overall cost of the Direct Loan program for 
each variable alteration using the baseline of the fiscal year 2014 
cohort breakeven scenario (see below for a description of the 
breakeven scenarios). The baseline scenario forecasted costs for the 
Direct Loan program over the full life of the 2014 cohort, and include 
cash flow projections 40 years into the future. Using this baseline, 
we altered the variable rates to reflect historical values between 
2007 and 2014, except for the loan risk category, to see how the cost 
for the loan cohort was affected. 

Breakeven Analysis: 

We also worked with Education to change specific loan parameters in 
the Student Loan model with the purpose of determining whether the 
government could cover Direct Loan costs without generating additional 
income under certain conditions. This is referred to as a breakeven 
analysis. The following steps were taken to conduct this analysis: 

* First, the baseline subsidy rates for the 2014 cohort of Direct 
Loans were calculated, excluding loan consolidations, using the index 
and mark-up rates and caps as outlined by current law (see Table 8). 
We selected 2014 because it was the next cohort to be disbursed at the 
time of the simulation (September 2013) and allowed us to use 
forecasted data for the hypothetical simulations. The agency provided 
a breakout by loan type (Subsidized Stafford, Unsubsidized Stafford, 
PLUS). An administrative cost rate is included in this analysis. 
[Footnote 47] 

* Scenario A: The interest rate mark-up was calculated that would be 
necessary to get the federal subsidy income for the 2014 cohort to 
cover estimated administrative costs (i.e. break even), still 
excluding consolidations. 

- This scenario used the interest rate caps for each loan type and the 
10-year Treasury note for the index, as designated under current law. 

* Separately, two breakeven analyses were conducted for the 2014 
cohort with altered inputs. In both cases, caps were kept the same as 
provided under current law. 

- Scenario B: 5-year Treasury Note with differentials in mark-up rates 
between loan type as designated by the law. 

- Scenario C: 5-year Treasury Note with differentials reduced by one 
half from the values designated in the law. 

* Scenario D: After finding the breakeven rates for 2014, the same 
treatment of mark-up rates and differentials were applied to the 2019 
cohort using the 10-year Treasury Note, still accounting for 
administrative costs. We selected 2019 to show what the resulting 
costs would be in a future year with different economic conditions 
(i.e., different discount rates). 

* Scenario E: The parameters for the 2019 cohort were then changed to 
use the 5-year Treasury Note and reduced the differentials from 
current law by one half (because those differentials helped 
approximate a break even under the 2014 cohort estimate) to illustrate 
how this affects costs. 

Below is a summary of the loan parameters used for each breakeven 
scenario. 

Table 8: Scenarios for Breakeven Analysis: 

Mark-up rate by loan type[A]: 

Index: Subsidized & Undergraduate Stafford; 
2014 Baseline: 10-year Treasury note rate of 2.52%: 2.05%; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 0; 
2014 Scenario B: 5-year Treasury Note Rate of 1.66%: 0; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 0; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 0; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 0. 

Index: Graduate Stafford; 
2014 Baseline: 10-year Treasury note rate of 2.52%: 3.60%; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 0; 
2014 Scenario B: 5-year Treasury Note Rate of 1.66%: 1.5%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 0.78%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 0; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 0.78%. 

Index: PLUS; 
2014 Baseline: 10-year Treasury note rate of 2.52%: 4.60%; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 0; 
2014 Scenario B: 5-year Treasury Note Rate of 1.66%: 2.5%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 1.28%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 0; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 1.28%. 

Interest rate caps by loan type: 

Index: Subsidized & Undergraduate Stafford; 
2014 Baseline: 10-year Treasury note rate of 2.52%: 8.25%; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 8.25%; 
2014 Scenario B: 5-year Treasury Note Rate of 1.66%: 8.25%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 8.25%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 8.25%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 8.25%. 

Index: Graduate Stafford; 
2014 Baseline: 10-year Treasury note rate of 2.52%: 9.50%; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 9.50%; 
2014 Scenario B: 5-year Treasury Note Rate of 1.66%: 9.50%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 9.50%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 9.50%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 9.50%. 

Index: PLUS; 
2014 Baseline: 10-year Treasury note rate of 2.52%: 10.50%; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 10.50%; 
2014 Scenario B: 5-year Treasury Note Rate of 1.66%: 10.50%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 10.50%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 10.50%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 10.50%. 

Source: GAO analysis of U.S. Department of Education data. 

[A] Zero values for the mark-up rate indicate that borrowers of those 
loan types would have interest rates no higher than the index. 

[End of table] 

[End of section] 

Appendix II: Technical Appendix: 

Table 9: Data for Figure 1, Direct Loan Full Administrative Costs by 
Category, Fiscal Year 2007-Fiscal Year 2012 (dollars in millions): 

Cost category: Loan servicing; 
FY07: $214.00 million; 
FY08: $255.02 million; 
FY09: $266.24 million; 
FY10: $349.23 million; 
FY11: $458.56 million; 
FY12: $540.23 million; 
Change from FY07 to FY12: $326.23 million. 

Cost category: Percent change; 
FY08: 19.17%; 
FY09: 4.40%; 
FY10: 31.17%; 
FY11: 31.31%; 
FY12: 17.81%; 
Change from FY07 to FY12: 152.45%. 

Cost category: Originations and disbursements; 
FY07: $37.57 million; 
FY08: $40.06 million; 
FY09: $73.16 million; 
FY10: $97.39 million; 
FY11: $134.35 million; 
FY12: $146.63 million; 
Change from FY07 to FY12: $109.06 million. 

Cost category: Percent change; 
FY08: 6.61%; 
FY09: 82.66%; 
FY10: 33.11%; 
FY11: 37.95%; 
FY12: 9.14%; 
Change from FY07 to FY12: 290.27%. 

Cost category: Default collections; 
FY07: $31.80 million; 
FY08: $35.42 million; 
FY09: $35.64 million; 
FY10: $38.11 million; 
FY11: $42.03 million; 
FY12: $34.50 million; 
Change from FY07 to FY12: $2.69 million. 

Cost category: Percent change; 
FY08: 11.36%; 
FY09: 0.62%; 
FY10: 6.93%; 
FY11: 10.31%; 
FY12: -17.93%; 
Change from FY07 to FY12: 8.47%. 

Cost category: Application processing; 
FY07: $17.67 million; 
FY08: $18.61 million; 
FY09: $20.27 million; 
FY10: $63.47 million; 
FY11: $95.63 million; 
FY12: $94.95 million; 
Change from FY07 to FY12: $77.28 million. 

Cost category: Percent change; 
FY08: 5.31%; 
FY09: 8.93%; 
FY10: 213.11%; 
FY11: 50.68%; 
FY12: -0.71%; 
Change from FY07 to FY12: 437.36%. 

Cost category: School oversight and monitoring; 
FY07: $12.48 million; 
FY08: $10.77 million; 
FY09: $8.12 million; 
FY10: $25.53 million; 
FY11: $46.00 million; 
FY12: $47.26 million; 
Change from FY07 to FY12: $34.78 million. 

Cost category: Percent change; 
FY08: -13.68%; 
FY09: -24.66%; 
FY10: 214.55%; 
FY11: 80.15%; 
FY12: 2.76%; 
Change from FY07 to 
FY12: 278.70%. 

Cost category: Total; 
FY07: $313.52 million; 
FY08: $359.88 million; 
FY09: $403.43 million; 
FY10: $573.72 million; 
FY11: $776.57 million; 
FY12: $863.57 million; 
Change from FY07 to FY12: $550.05 million. 

Source: Department of Education data. 

Note: FY = fiscal year. 

[End of table] 

Table 10: Data for Figure 2, Number of Outstanding Direct Loans by 
Loan Type (in millions) and Direct Loan Full Administrative Costs, 
Fiscal Year 2007 - Fiscal Year 2012: 

Loan Type: Subsidized Stafford Loans; 
FY 2007: 8.96 million; 
FY 2008: 10.14 million; 
FY 2009: 12.34 million; 
FY 2010: 19.16 million; 
FY 2011: 29.14 million; 
FY 2012: 38.30 million; 
FY 2007-FY 2012 Change: 29.34 million. 

Loan Type: Percent change; 
FY 2008: 13%; 
FY 2009: 22%; 
FY 2010: 55%; 
FY 2011: 52%; 
FY 2012: 31%; 
FY 2007-FY 2012 Change: 328%. 

Loan Type: Unsubsidized Stafford Loans; 
FY 2007: 5.71 million; 
FY 2008: 6.98 million; 
FY 2009: 9.46 million; 
FY 2010: 16.4 million3; 
FY 2011: 26.64 million; 
FY 2012: 36.76 million; 
FY 2007-FY 2012 Change: 31.06 million. 

Loan Type: Percent change; 
FY 2008: 22%; 
FY 2009: 36%; 
FY 2010: 74%; 
FY 2011: 62%; 
FY 2012: 38%; 
FY 2007-FY 2012 Change: 544%. 

Loan Type: Graduate PLUS loans; 
FY 2007: 0.03 million; 
FY 2008: 0.08 million; 
FY 2009: 0.17 million; 
FY 2010: 0.48 million; 
FY 2011: 0.97 million; 
FY 2012: 1.38 million; 
FY 2007-FY 2012 Change: 1.35 million. 

Loan Type: Percent change; 
FY 2008: 124%; 
FY 2009: 121%; 
FY 2010: 187%; 
FY 2011: 101%; 
FY 2012: 43%; 
FY 2007-FY 2012 Change: 3,995%. 

Loan Type: PLUS loans; 
FY 2007: 0.88 million; 
FY 2008: 1.02 million; 
FY 2009: 1.26 million; 
FY 2010: 1.88 million; 
FY 2011: 2.79 million; 
FY 2012: 3.54 million; 
FY 2007-FY 2012 Change: 2.66. 

Loan Type: Percent change; 
FY 2008: 16%; 
FY 2009: 24%; 
FY 2010: 49%; 
FY 2011: 48%; 
FY 2012: 27%; 
FY 2007-FY 2012 Change: 303%. 

Loan Type: Consolidation loans; 
FY 2007: 3.88 million; 
FY 2008: 4.07 million; 
FY 2009: 4.57 million; 
FY 2010: 5.24 million; 
FY 2011: 6.05 million; 
FY 2012: 8.70 million; 
FY 2007-FY 2012 Change: 4.82 million. 

Loan Type: Percent change; 
FY 2008: 5%; 
FY 2009: 12%; 
FY 2010: 15%; 
FY 2011: 15%; 
FY 2012: 44%; 
FY 2007-FY 2012 Change: 124%. 

Loan Type: Total; 
FY 2007: 19.46 million; 
FY 2008: 22.29 million; 
FY 2009: 27.81 million; 
FY 2010: 43.19 million; 
FY 2011: 65.58 million; 
FY 2012: 88.69 million; 
FY 2007-FY 2012 Change: 69.23 million. 

Loan Type: Administrative costs; 
FY 2007: $313,523,250; 
FY 2008: $359,875,979; 
FY 2009: $403,428,430; 
FY 2010: $573,717,359; 
FY 2011: $776,572,657; 
FY 2012: $863,572,668; 
FY 2007-FY 2012 Change: $550,049,418. 

Loan Type: Percent change; 
FY 2008: 15%; 
FY 2009: 12%; 
FY 2010: 42%; 
FY 2011: 35%; 
FY 2012: 11%; 
FY 2007-FY 2012 Change: 175%. 

Source: Department of Education data. 

Note: FY = fiscal year. 

[End of table] 

Table 11: Data for Figure 3, Current Subsidy Rates Broken out by Cost 
Component, Direct Loans 2007-2012: 

Loan cohort: 2007 cohort; 
Overall subsidy rate: -0.288; 
Financing costs: -8.115; 
Defaults: 2.847; 
Fees: -2.378; 
All other costs: 7.359. 

Loan cohort: 2008 cohort; 
Overall subsidy rate: -0.253; 
Financing costs: -7.453; 
Defaults: 2.632; 
Fees: -1.980; 
All other costs: 6.549. 

Loan cohort: 2009 cohort; 
Overall subsidy rate: -13.722; 
Financing costs: -23.586; 
Defaults: 2.813; 
Fees: -1.557; 
All other costs: 8.608. 

Loan cohort: 2010 cohort; 
Overall subsidy rate: -13.610; 
Financing costs: -22.072; 
Defaults: 1.736; 
Fees: -1.507; 
All other costs: 8.232. 

Loan cohort: 2011 cohort; 
Overall subsidy rate: -17.227; 
Financing costs: -26.404; 
Defaults: 1.495; 
Fees: -1.249; 
All other costs: 8.931. 

Loan cohort: 2012 cohort; 
Overall subsidy rate: -16.420; 
Financing costs: -24.159; 
Defaults: 1.191; 
Fees: -1.187; 
All other costs: 7.7352. 

Source: U.S. Department of Education credit subsidy calculator output 
data. 

Note: This table shows the most recent reestimated subsidy rates for 
the 2007 to 2012 cohorts broken out by the four cost components used 
by Education for budget estimates (financing costs, fees, defaults 
(net of recoveries), and all other costs). 

[End of table] 

Table 12: Data for Figure 4, Comparison of Borrower and Discount 
Rates, 2007-2012: 

2007: 
Borrower rates: 
Subsidized Stafford: 6.8; 
Unsubsidized: 6.8; 
PLUS: 7.9; 
Weighted average: 7.00; 
Discount rate: 4.96. 

2008: 
Borrower rates: 
Subsidized Stafford: 6.0; 
Unsubsidized: 6.8; 
PLUS: 7.9; 
Weighted average: 6.67; 
Discount rate: 4.96. 

2009: 
Borrower rates: 
Subsidized Stafford: 5.6; 
Unsubsidized: 6.8; 
PLUS: 7.9; 
Weighted average: 6.54; 
Discount rate: 3.11. 

2010: 
Borrower rates: 
Subsidized Stafford: 4.5; 
Unsubsidized: 6.8; 
PLUS: 7.9; 
Weighted average: 6.12; 
Discount rate: 3.28. 

2011: 
Borrower rates: 
Subsidized Stafford: 3.4; 
Unsubsidized: 6.8; 
PLUS: 7.9; 
Weighted average: 5.69; 
Discount rate: 2.79. 

2012: 
Borrower rates: 
Subsidized Stafford: 3.4; 
Unsubsidized: 6.8; 
PLUS: 7.9; 
Weighted average: 5.90; 
Discount rate: 2.88. 

Source: Budget of the United States Government, fiscal years 2009-2014 
and U.S. Department of Education data. 

Note: The weighted average represents the average borrower interest 
rate, weighted by volume for each loan type. Data are provided by loan 
cohort year. 

[End of table] 

Table 13: Data for Figure 5, Original and Reestimated Subsidy Rates, 
Direct Loans, 2007-2012 Cohorts: 

Direct Loan cohort: 2007 cohort; 
Original Subsidy rate (percentage): 1.48; 
Reestimated subsidy rates (percentage) published in given Fiscal Year 
President's Budget: 
FY 2009: 1.37; 
FY 2010: -4.2; 
FY 2011: -0.2; 
FY 2012: 0.1; 
FY 2013: 0.23; 
FY 2014: -0.28. 

Direct Loan cohort: 2008 cohort; 
Original Subsidy rate (percentage): -0.8; 
Reestimated subsidy rates (percentage) published in given Fiscal Year 
President's Budget: 
FY 2010: -1.04; 
FY 2011: -9.09; 
FY 2012: 0.24; 
FY 2013: 0.22; 
FY 2014: -0.23. 

Direct Loan cohort: 2009 cohort; 
Original Subsidy rate (percentage): -14.96; 
Reestimated subsidy rates (percentage) published in given Fiscal Year 
President's Budget: 
FY 2011: -3.94; 
FY 2012: -11.85; 
FY 2013: -12.73; 
FY 2014: -13.72. 

Direct Loan cohort: 2010 cohort; 
Original Subsidy rate (percentage): -7.66; 
Reestimated subsidy rates (percentage) published in given Fiscal Year 
President's Budget: 
FY 2012: -15.12; 
FY 2013: -13.87; 
FY 2014: -13.6. 

Direct Loan cohort: 2011 cohort; 
Original Subsidy rate (percentage): -13.91; 
Reestimated subsidy rates (percentage) published in given Fiscal Year 
President's Budget: 
FY 2013: -8.21; 
FY 2014: -17.22. 

Direct Loan cohort: 2012 cohort; 
Original Subsidy rate (percentage): -16.49; 
Reestimated subsidy rates (percentage) published in given Fiscal Year 
President's Budget: 
FY 2014: -16.42. 

Source: Budget of the United States Government, fiscal years 2009-2014. 

Notes: This table lists the original subsidy rate for each loan cohort 
and the reestimated subsidy rates that are published in the 
President's budget in the corresponding fiscal year. Blank cells 
indicate fiscal years for which the updated estimate was not yet 
completed because the loan cohort is not yet substantially disbursed 
at the time the budget for that fiscal year was prepared. Negative 
subsidy rates represent instances where the government is estimated to 
generate subsidy income. FY = fiscal year. 

[End of table] 

Sensitivity Analysis Results: 

Table 14: Cost Effects of Variables in "Less Favorable" Scenario: 

Variable being altered: Percentage of Subsidized Stafford Loans; 
Percent change in variable rate: 73.8%; 
Percent change in total cost: 221.6%; 
Sensitivity factor: 3.0. 

Variable being altered: Percentage of Income Contingent Repayment 
plans[A]; 
Percent change in variable rate: 38.3%; 
Percent change in total cost: 51.3%; 
Sensitivity factor: 1.3. 

Variable being altered: Discount rate; 
Percent change in variable rate: 135.1%; 
Percent change in total cost: 2325.2%; 
Sensitivity factor: 17.2. 

Variable being altered: Percentage in the highest risk category; 
Percent change in variable rate: 661.1%; 
Percent change in total cost: 247.7%; 
Sensitivity factor: 0.4. 

Variable being altered: Cumulative effect of all variable changes; 
Percent change in variable rate: N/A; 
Percent change in total cost: 2,690.5%[B]; 
Sensitivity factor: N/A. 

Source: GAO analysis of U.S. Department of Education Student Loan 
Model data. 

Note: The baseline against which this scenario was compared against 
was the 2014 breakeven scenario with no mark-ups or differentials. 

[A] The percentage of Income Contingent Repayment Plans is weighted on 
the volume for subsidized and unsubsidized Stafford loans, which 
includes graduate PLUS loans. Parent PLUS loans are not eligible for 
income-contingent repayment plans. 

[B] The cumulative effect of all variable changes is calculated by 
comparing the difference in cost between the scenario and the 
baseline, and dividing that by the baseline costs. 

[End of table] 

Table 15: Cost Effects of Variables in the "Favorable" Scenario: 

Variable being altered: Percentage of Subsidized Stafford Loans[A]; 
Percent change in variable Rate: N/A; 
Percent change in Total cost: N/A; 
Sensitivity factor: N/A. 

Variable being altered: Percentage of Income Contingent Repayment 
Plans[B]; 
Percent change in variable Rate: (3.7%); 
Percent change in Total cost: (10.6%); 
Sensitivity factor: 2.9. 

Variable being altered: Discount rate[C]; 
Percent change in variable Rate: 30.3%; 
Percent change in Total cost: 596.5%; 
Sensitivity factor: 19.7. 

Variable being altered: Increasing the percentage in the lowest risk 
category; 
Percent change in variable Rate: 15.1%; 
Percent change in Total cost: (196.8%); 
Sensitivity factor: (13.0). 

Variable being altered: Cumulative effect of all variables; 
Percent change in variable Rate: N/A; 
Percent change in Total cost: 399.7%[D]; 
Sensitivity factor: N/A. 

Source: GAO analysis of U.S. Department of Education Student Loan Model 
data. 

Note: The baseline against which this scenario was compared against 
was the 2014 breakeven scenario A, which had no mark-ups or 
differentials. 

[A] There is no cost or variable rate change associated with the 
percentage of subsidized Stafford loans in the favorable scenario 
because the 2014 baseline values represented the lowest percentage of 
these loans. 

[B] The percentage of Income Contingent Repayment Plans is weighted on 
the volume for subsidized and unsubsidized Stafford loans, which 
includes graduate PLUS loans. Parent PLUS loans are not eligible for 
income-contingent repayment plans. 

[C] Discount rates used in this scenario are lower, and thus more 
favorable to the government, than the rates used in the "less 
favorable" scenario. However, because the discount rate used was 
higher than the 2014 discount rate used in the baseline scenario, this 
change in the discount rate shows increased costs. 

[D] The cumulative effect of all variable changes is calculated by 
comparing the difference in cost between the scenario and the 
baseline, and dividing that by the baseline costs. 

[End of table] 

Results of 2014 and 2019 Breakeven Analyses: 

Table 16: Loan Parameters to Break Even for 2014 Have Different 
Effects for 2019: 

Mark-up rate by loan type: 

Index: Subsidized & Undergraduate Stafford; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 0; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 0; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 0; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 0. 

Index: Graduate Stafford; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 0; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 0.78%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 0; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 0.78%. 

Index: PLUS; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 0; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 1.28%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 0; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 1.28%. 

Resulting borrower interest rates: 

Index: Subsidized & Undergraduate Stafford; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 2.52%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 1.66%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 4.34%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 4.21%. 

Index: Graduate Stafford; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 2.52%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 2.44%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 4.43%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 5.01%. 

Index: PLUS; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: 2.52%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 2.94%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 4.48%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 5.54%. 

Index: Resulting cost rate[A]; 
2014 Scenario A: 10-year Treasury Note Rate of 2.52%: -0.81%; 
2014 Scenario C: 5-year Treasury Note Rate of 1.66%: 0.51%; 
2019 Scenario D: 10-year Treasury Note Rate of 4.59%: 7.26%; 
2019 Scenario E: 5-year Treasury Note Rate of 4.41%: 5.36%. 

Source: U.S. Department of Education data. 

[A] GAO considers Direct Loan cost rates under 1% to approximate a 
breakeven point for the purposes of this study. 

Note: In the 2019 scenarios, borrower rates vary and are sometimes 
lower than the index because of the probabilities associated with the 
caps. 

[End of table] 

[End of section] 

Appendix III: Comments from the Department of Education: 

United States Department of Education: 
Office of the Under Secretary: 
400 Maryland Ave., S.W. 
Washington, D.C. 20202: 
[hyperlink, http://www.ed.gov] 

January 10, 2014: 

Ms. Melissa Emrey-Arras: 
Director, EWIS: 
Government Accountability Office: 
Washington, DC 20548: 

Dear Ms. Emfey-Arras: 

The U.S. Department of Education (Department) appreciates the Government
Accountability Office's (GAO's) thorough and objective report on the 
costs associated with the federal student loan program entitled, 
"Federal Student Loans: Borrower Interest Rales Cannot Be Set in 
Advance to Precisely and Consistently Balance Federal Revenues and 
Costs" (GAO-14-234). The report is a useful and valuable explanation for
Congress and the public of how program costs are estimated for 
budgetary purposes and will help inform ongoing discussions on the 
future of the federal student loan program. 

As noted in the report, program costs are estimated in accordance with 
the Federal Credit Reform Act of 1990 (FCRA) and represent the 
estimated lifetime costs of loans. Prior to FCRA, program costs were 
presented on a cash basis, which did not entirely reflect how student 
loan borrowers pay back their loans over the course of many years. While
estimates prepared in accordance with FCRA are useful for overall 
budgetary purposes, the GAO report confirms that these estimates will 
vary from the actual costs of federal student loans because the 
estimates are based on forecasts of future economic conditions and 
borrower behavior. As a result, as the report explains, whether 
student loans made in anyone year will ultimately generate income or 
costs for taxpayers will not be known " ...until all cash flows have 
been recorded after loans have been repaid or discharged which
may be as many as 40 years from when the loans were originally 
disbursed." 

FCRA cost estimates are useful for policy makers in making decisions 
in the context of longer-term budget constraints. Even in light of 
current budget constraints, keeping student loan interest rates from 
doubling over the past two years has been a priority for the 
Administration. Most recently, to better align the interest rates paid 
by borrowers with the expected costs of the program, the President 
proposed, and the Congress enacted, legislation that ties borrower 
rates to financial market conditions at the time borrowers are making 
decisions on financing their postsecondary education. As a result,
fixed borrower interest rates will be set each year for loans made 
during the year and be based on then-current government borrowing 
costs. 

The Department firmly believes that the Federal Direct Loan program is 
critical to expanding postsecondary education opportunities to 
American students and families and provides a far better deal than 
they can get anywhere else. The program has enabled millions of 
Americans to pursue a college education and obtain the skills they 
need to succeed--and it continues to do so successfully. It also 
returns value to the taxpayers who fund our student aid system and, 
indeed, to all Americans by enabling our fellow citizens to pursue 
educational opportunities that result in stronger communities and a
more prosperous and globally competitive nation. 

The rising cost of higher education and growing levels of student debt 
hit home for millions of Americans, and the Department is working hard 
to continue to provide more tools and resources for students and 
families to understand and compare their postsecondary options, choose 
the institution that provides them with the best value, and make smart 
decisions about financing their postsecondary education. In addition 
to more than doubling funding for the Pell Grant Program and 
increasing investments in students and colleges by ending $60 billion 
in bank subsidies, the Department has expanded income-based repayment 
to help borrowers manage their student loan debt and has reached out 
to struggling borrowers to make them aware of the available flexible
repayment options. 

The Administration remains focused on making college more affordable 
and accessible for American families by developing a college ratings 
system as well as by promoting innovation and competition. 

GAO's report provides valuable insight into the complexity of 
precisely predicting the future costs associated with the federal 
student loan program, and the Department looks forward to continuing 
to work with students, Congress, higher education stakeholders, and 
policy leaders to help make college more affordable, expand college 
access and success, and ensure that students, families, and taxpayers 
gel as much value as possible from their significant investment of 
effort, time, and money in higher education. 

Thank you for the opportunity to review the draft report and to 
provide comments on it. 

Sincerely, 

Signed by: 

Jamienne S. Studley: 
Acting Under Secretary: 

[End of section] 

Appendix IV: GAO Contacts and Staff Acknowledgments: 

GAO Contact: 

Melissa Emrey-Arras, Director, (617) 788-0534 or emreyarrasm@gao.gov: 

Staff Acknowledgments: 

In addition to the contact named above, Kris Nguyen, Assistant 
Director; Marcia Carlsen; Carol Henn; Elizabeth Gregory-Hosler; Amy 
Moran Lowe; Ellen Phelps Ranen; Amrita Sen; Srinidhi Vijaykumar; and 
Rebecca Woiwode made significant contributions to this report. 

Also contributing to this report were James Bennett, Deborah Bland, 
Jessica Botsford, Dan Concepcion, Holly Dye, Robert Dacey, Gary Engel, 
Cole Haase, Susan J. Irving, John Karikari, Thomas J. McCool, Sheila 
McCoy, Jean McSween, Brittni Milam, Mimi Nguyen, Omari Norman, Debra 
Prescott, and Michelle St. Pierre. 

[End of section] 

Footnotes: 

[1] These loans are issued under Title IV of the Higher Education Act, 
as amended. 

[2] Under the College Cost Reduction and Access Act, interest rates on 
certain Direct Loans to undergraduate students were lowered 
incrementally from 6.8 percent to 3.4 percent; however, these rate 
cuts were not made permanent. Pub. L. No. 110-84, § 201, 121 Stat. 
784, 790 (2007). The Moving Ahead for Progress in the 21ST Century Act 
subsequently extended these rate cuts, but the cuts expired as of June 
30, 2013. Pub. L. No. 112-141, § 100301, 126 Stat. 405, 979 (2012). 

[3] In this report, subsidy cost refers to lifetime subsidy costs, 
which would include initial estimates and any reestimates. 

[4] Pub. L. No. 113-28, § 4, 127 Stat. 506, 507. We focus on Direct 
Loans in this report because they represent the large majority of 
federal student loans currently issued by Education. 

[5] Interest rates were also set in a consistent way during this time 
period, facilitating subsidy cost comparisons. 

[6] We spoke with CBO because they estimate subsidy costs to identify 
financial impacts of legislation and inform budget projections, among 
other purposes. Their estimation methodology differs from Education's, 
and the resulting estimates are not comparable. 

[7] Education also issues consolidation loans, which allow borrowers 
to combine multiple existing federal student loans into one loan with 
one resulting monthly payment. Consolidation loans may allow borrowers 
to extend their repayment period to up to 30 years, thereby lowering 
the borrower's monthly payments. 

[8] The amount of student financial need determined for federal 
student aid purposes is generally the difference between a student's 
cost of attendance and an estimate of the student's (and his or her 
family's, in the case of a dependent student) ability to pay these 
costs--called the expected family contribution. To apply for federal 
student aid, students or families submit a Free Application for 
Federal Student Aid, which includes information on the student's 
and/or family's income, assets, and federal income tax expenses. 

[9] The Consolidated Appropriations Act, 2012 temporarily eliminated 
the grace period interest subsidy for Subsidized Stafford Loans 
disbursed on or after July 1, 2012 and before July 1, 2014. Pub. L. 
No. 112-74, div. F, tit. III, § 309(d), 125 Stat. 786, 1101. The 
government also does not charge borrowers for interest costs on 
Subsidized Stafford Loans during periods of authorized deferment, 
during which borrowers can temporarily suspend repayment if, for 
example, they pursue additional higher education, provide military 
service, or experience economic hardships. 

[10] Subsidy cost estimates take into account the effect of borrowers 
not paying interest on Subsidized Stafford Loans while they are in 
school, the 6-month grace period, or periods of authorized deferment. 
For Unsubsidized Stafford Loans and PLUS Loans, subsidy cost estimates 
take into account that borrowers pay all interest on these loans. 
Subsidy costs represent anticipated long-term costs to the government 
of extending credit over the life of a loan, and include a number of 
variables in addition to projected borrower interest payments. 

[11] Pub. L. No. 113-28, § 2, 127 Stat. 506 (codified at 20 U.S.C. § 
1087e(b)). Between July 1, 2006 and June 30, 2013, borrower interest 
rates were set at fixed levels not tied to the interest rate on 
Treasury securities. For the 4 award years from July 1, 2008 to June 
30, 2012, the College Cost Reduction and Access Act incrementally 
lowered the fixed interest rates of Subsidized Stafford Loans made to 
undergraduate students from 6.8 percent to 3.4 percent. Pub. L. No. 
110-84, § 201, 121 Stat. 784, 790 (2007). In addition, the Moving 
Ahead for Progress in the 21st Century Act, extended the 3.4 percent 
interest rate for these loans from July 1, 2012 to June 30, 2013. Pub. 
L. No. 112-141, § 100301, 126 Stat. 405, 979 (2012). For Direct Loans 
issued prior to July 1, 2006, interest rates are variable, and are 
adjusted annually according to the interest rate on the 91-day 
Treasury bill. 

[12] Education incurs borrowing costs on funds provided by Treasury to 
finance its lending through the Direct Loan program. These borrowing 
costs (which we refer to in this report as government borrowing costs) 
are reflected in subsidy cost estimates through the discount rate used 
to determine the present value of expected future cash flows for each 
loan cohort. It is based on a collection of interest rates that enable 
Education to separately "discount" each year's expected cash flows to 
present value. These interest rates reflect the rates on marketable 
zero-coupon Treasury securities that were issued at the same time as 
loans in the cohort and that mature in the same year as the expected 
cash flows. Because the discount rate is based on a collection of 
interest rates, it differs from the interest rate on the 10-year 
Treasury note (to which Direct Loan borrower rates are "indexed," or 
tied). 

[13] Administrative cost data reported by Education during the period 
of our review also included some mandatory funding, including 
mandatory budget authority to fund the administrative costs of 
eligible Not-For-Profit loan servicers, which was provided under the 
Student Aid and Fiscal Responsibility Act (SAFRA Act), enacted as part 
of the Health Care and Education Reconciliation Act of 2010, Pub. L. 
No. 111-152, § 2212(b), 124 Stat. 1029, 1080. 

[14] Under the Federal Family Education Loan Program, Education 
guarantees loans that were issued by private lenders by committing to 
cover costs related to loan defaults and other write-offs. The SAFRA 
Act terminated the authority to make or insure new FFEL loans after 
June 30, 2010. Id., § 2201, 124 Stat. 1029, 1074. 

[15] Payments Education makes to private collection agencies to 
collect on defaulted loans are considered an element of subsidy costs. 

[16] 2 U.S.C. § 661c. 

[17] The discount rate is used in subsidy cost estimates to determine 
the present value of expected future cash flows for each loan cohort 
over the life of the loans. The discount rate is also generally the 
rate Education pays Treasury to finance its lending. 

[18] While CBO prepares estimates according to FCRA methodology, it 
will also occasionally prepare estimates according to an alternate 
methodology. Under this approach, which it refers to as the "fair 
value" method, cash flows are discounted using market-based discount 
rates rather than discount rates based on Treasury securities. While 
fair value estimates would initially vary from FCRA estimates, at the 
end of the life of the loan, actual costs would be the same under both 
methodologies. Additionally, both FCRA and fair value estimates 
fluctuate when variables used to estimate subsidy costs change. 

[19] According to Education, the department received a total of about 
$1.320 billion in new budget authority for student aid administration 
in fiscal year 2012. About $1.043 billion of this amount was made 
available by the Consolidated Appropriations Act, 2012, with the 
remainder coming from mandatory appropriations. Pub. L. No. 112-74, 
125 Stat. 786, 1097 (2011); id., § 527, 125 Stat. 786, 1115; 20 U.S.C. 
§ 1087h. 

[20] Other programs with administrative costs funded through the 
Student Aid Administration account include the: (1) Federal Family 
Education Loan Program, (2) Pell Grant Program, (3) Teacher Education 
Assistance for College and Higher Education Grants Program (TEACH), 
(4) Campus-based programs (Perkins Loan Program, Supplemental 
Educational Opportunity Grants Program, and Work-Study Program), (5) 
Leveraging Educational Assistance Partnerships Program/Special 
Leveraging Educational Assistance Partnerships Program (LEAP/SLEAP), 
(6) National Science and Mathematics Access to Retain Talent Grant 
Program (SMART), and (7) Academic Competitiveness Grants Program (ACG). 

[21] The default collections category does not include payments 
Education makes to private collection agencies, which are included in 
the subsidy cost calculation. 

[22] Borrowers may be eligible to take out multiple loans, resulting 
in differences between the number of borrowers and number of loans. 

[23] The subprime mortgage crisis and the collapse of auction rate 
securities made it more difficult for lenders participating in the 
Federal Family Education Loan program to obtain capital to make loans. 
As a result, some lenders decided not to originate new federal student 
loans in the 2008 school year, and numerous schools transitioned to 
the Direct Loan program. 

[24] We report full unit costs to include indirect costs and to 
provide a comparison to the full overall administrative costs. 

[25] While some available unit cost data is specific to the Direct 
Loan program, other relevant unit cost measures reflect costs for all 
programs supported by the Student Aid Administration account, not 
solely Direct Loans. In these cases, separate unit cost data were not 
available for the Direct Loan program. Education officials reported 
that calculating unit costs specific to the Direct Loan program was 
unnecessary for management purposes. 

[26] In its Fiscal Year 2014 Budget Request, Education reported that 
it contracts with 16 servicers to perform a range of functions, 
including processing payments. These servicers are contracted through 
the Common Services for Borrowers contract, the Title IV Additional 
Servicers contracts, and the Not-For-Profit Servicer contracts. 
Education entered into the Title IV Additional Servicers contracts in 
2009, and Direct Loans were first assigned to these servicers in 2010. 
In 2011, Education also began contracting with the Not-For-Profit 
servicers. 

[27] According to Education officials, the Title IV Additional 
Servicers contract also meets Education's aim to increase competition 
among servicers by increasing the number of contractors. Education 
reports the relevant borrower status groupings as follows: in-school, 
in-grace/current repayment, deferment/forbearance, and delinquency. In-
school status indicates the borrower is enrolled at least half-time 
and loan payments are postponed. In-grace refers to a grace period, 
usually 6 months for Direct Loans, after a borrower leaves school or 
drops below half-time enrollment when no loan payments are due. 
Deferment and forbearance statuses both entail a postponement of loan 
payments under certain circumstances. Delinquency status indicates 
that borrowers' accounts have become past due on payment. In general, 
default occurs when a borrower reaches 270 days of delinquency. 

[28] While loans in repayment have a higher administrative cost, loans 
that remain in repayment status and avoid delinquency or default also 
reduce the subsidy cost of the program to the government. 

[29] Estimates of the subsidy cost in dollars were derived using 
Education cash flow data from the Office of Management and Budget 
(OMB) credit subsidy calculator. These data include information 
through the end of fiscal year 2013. The credit subsidy calculator is 
the discounting tool issued by OMB for agencies to calculate credit 
subsidy costs for direct loans. Subsidy rates and reestimates must be 
calculated with the credit subsidy calculator. 

[30] A total of $454 billion in loans was disbursed for the 2007-2012 
cohorts. 

[31] Cost estimates will change because only a few years of actual 
data are currently available for the 2007 to 2012 cohorts. Subsidy 
costs are estimated based on forecasted cash flows for each loan 
cohort. Forecasted data are based on assumptions about future economic 
conditions and loan performance, such as the likelihood of borrowers 
defaulting on their loan. These assumptions about future conditions 
are based in part on historic data. Cash flows are estimated over the 
full life of the loan cohort, and Education re-estimates subsidy costs 
every fiscal year based on actual loan performance and changes to 
assumptions about future performance. 

[32] According to Education, most borrowers do not enter repayment 
until several years after a loan is originated. Periods of deferment, 
delinquency, and default can further extend the loan repayment period. 
Because the Direct Loan program began originating loans in 1994 and a 
loan cohort's life cycle can last up to 40 years, there are currently 
no Direct Loan cohorts for which actual lifetime costs are available. 

[33] Positive subsidy cost estimates indicate that the government 
anticipates a cost, while negative subsidy estimates indicate that the 
government anticipates generating subsidy income. 

[34] [hyperlink, http://www.gao.gov/products/GAO-01-197]. 

[35] For the four award years from July 1, 2008 to June 30, 2012, the 
College Cost Reduction and Access Act incrementally lowered the fixed 
interest rates of subsidized Stafford loans made to undergraduate 
students from 6.8 percent to 3.4 percent. Pub. L. No. 110-84, § 201, 
121 Stat. 784, 790 (2007). In addition, the Moving Ahead for Progress 
in the 21ST Century Act, extended the 3.4 percent interest rate for 
subsidized Stafford loans made to undergraduate students from July 1, 
2012 to June 30, 2013. Pub. L. No. 112-141, § 100301, 126 Stat. 405, 
979 (2012). 

[36] Loan performance refers to certain assumptions Education uses 
when estimating loan subsidy costs. These assumptions include 
information on default rates, borrower participation in different 
types of repayment plans, and volume by loan type, among others. 

[37] Throughout this section, Direct Loan costs refer to both 
administrative and subsidy costs, though it is the subsidy cost 
portion of those costs that fluctuates according to the variables we 
tested. We used a flat administrative cost rate for each set of 
variables we tested. See appendix I for more details on the analyses 
presented in this section. 

[38] Sensitivity refers to how estimated costs respond to adjustments 
in variables that may affect those costs. 

[39] Specifically, we tested the discount rate, which represents the 
cost of Education borrowing funds from Treasury to finance the Direct 
Loan program. 

[40] We selected these factors because Education officials identified 
the discount rate, percentage of subsidized Stafford loans, and 
percentage of risk category as major factors that affect subsidy 
costs, while participation in income-contingent repayment plans is 
likely to shift over time (which has the potential to affect costs). 
For more information on our methodology for this sensitivity analysis, 
please see appendix I. 

[41] We used historical data points from 2007-2012 for each factor to 
ensure the scenarios were realistic. 

[42] The change in Direct Loan costs is a comparison to the baseline 
for a 2014 cohort breakeven scenario. See appendix I for more detail. 

[43] See appendix I for an explanation of our methodology for the 
breakeven scenarios. 

[44] The 5-year Treasury Note rate is generally estimated to be lower 
than the 10-year Treasury Note rate. 

[45] While the discount rate for 2014 is 2.11% across loans, Education 
projects it to be 4.5% in 2019. Similarly, current OMB estimates for 
the five and ten-year Treasury Notes show that the indices to which 
student loan rates are pegged will increase substantially by 2019. 
Specifically, the 5-year Treasury Note is projected to increase from 
1.66% in 2014 to 4.41% in 2019, and the 10-year Treasury Note rate is 
projected to increase from 2.52% in 2014 to 4.59% in 2019. 

[46] Administrative cost data reported by Education include both 
discretionary and mandatory funding, including mandatory budget 
authority to fund the administrative costs of eligible Not-For-Profit 
loan servicers, as provided under the Student Aid and Fiscal 
Responsibility Act. The servicers are allocated a minimum of 100,000 
borrower accounts each, although future allocations may vary based on 
performance. As of February 2013, 11 servicers (Missouri Higher 
Education Loan Authority, ESA/EDFinancial, Cornerstone, Aspire, 
Granite State, Oklahoma Student Loan Authority, EdManage, Vermont 
Student Assistance Corporation, KSA Servicing, EDGEucation Loans, and 
Council for South Texas Economic Progress (COSTEP)) service loans 
under the new NFP Servicers contracts. 

[47] Education's Budget Service allocates administrative costs by 
cohort, and estimates administrative costs over the life of a loan, 
when needed. These data are not used by Budget Service for any program 
management purposes. The allocation methodology was originally 
developed in 2004. According to Education officials, the methodology 
for this estimation has not changed since 2005, with updates to only 
the loan servicing data in 2009. In addition, the description of the 
estimation methodology acknowledges a number of data limitations and 
other methodological challenges that could affect the estimates' 
accuracy. Officials at Budget Service stated that the estimation 
process was labor-intensive and there was limited interest in and need 
for further refinement of the allocation process. 

[End of section] 

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