Fiscal Year 2007 Budget Summary — February 6, 2006

Archived  Information

Section II. D.  Student Financial Assistance

• Overview
• Student Aid Summary Tables
• Tax Benefits for Postsecondary Students and Their Families
• Pell Grants
• Supplemental Educational Opportunity Grants
• Work-Study
• Perkins Loan Revolving Funds
• Academic Competitiveness Grants/SMART Grants
• Federal Family Education Loans and Direct Loans
• Changes in Higher Education Reconciliation Act
• Student Aid Program Management

Overview

In 2007 the Department of Education will administer over $82 billion in new grants, loans, and work-study assistance to help over 10 million students and their families parents pay for college. The request would provide nearly $13 billion for Pell Grants to more than 5.2 million students, or 60,000 more than the 2006 level. The budget also supports $66 billion in guaranteed and direct student loans. Federal student aid funds will help millions of Americans obtain the benefits of postsecondary education and play a vital role in strengthening our Nation by providing advanced training for today's global economy.

The President's 2007 Budget for student aid builds on a number of significant accomplishments in 2006. Adopting a proposal from the 2006 President's Budget, Congress appropriated $4.3 billion in mandatory funding in 2006 to eliminate a long- standing funding shortfall in the Pell Grant program, putting this vital program—the foundation of Federal need-based aid—on a firm financial footing after years of growing fiscal instability. Congress also adopted new budget rules proposed by the President to prevent shortfalls from occurring in the future.

The 2007 Budget also assumes enactment of the Higher Education Reconciliation Act (HERA) in early February. This important legislation significantly changes the student aid programs, including a number of key provisions roughly based on Administration reform proposals from the 2006 Budget. Major provisions include:

• The creation of Academic Competitiveness Grants and National SMART Grants, a new need-based mandatory program that would award annual grants of up to $750 for first-year Pell Grant recipients and $4,000 to high-achieving students who are majoring in the sciences, mathematics, technology, engineering, or critical foreign languages. First- and second-year students must have completed a rigorous high school curriculum. The older students must maintain a 3.0 grade point average to receive National Science and Mathematics Access to Retain Talent (SMART) Grants. In 2007, the program would provide $850 million in grants to 600,000 low-income postsecondary students, with awards totaling more than $4.5 billion over five years.

• The phased elimination of origination fees on most student loans. Student fees, currently as much as 3 percent for most loans, would be reduced by 1 percentage point as of July 1, 2006, and further reduced each year until, as of July 1, 2010, fees would be eliminated in the FFEL program and reduced to 1 percent in Direct Loans. (FFEL borrowers would pay a 1 percent insurance premium after July 1, 2010.)

• Increased loan limits. Beginning July 1, 2007, annual limits on borrowing would rise from $2,625 to $3,500 for first-year students, from $3,500 to $4,500 for second-year students, and from $10,000 to $12,000 for graduate students.

• Expanded Teacher Loan Forgiveness. The HERA permanently expands loan forgiveness for highly qualified math, science, and special education teachers serving low-income communities. The Taxpayer-Teacher Protection Act of 2004 temporarily expanded this forgiveness from $5,000 to $17,500 for loans made between October 1, 1998, and September 30, 2005. The HERA would also broaden the benefit's availability for private school teachers.

• Active Duty Military Deferment. A new deferment of up to 3 years, during which the government would pay the interest on a student loan, would be created in the FFEL, Direct Loan, and Federal Perkins Loan programs for borrowers serving on active duty, or performing qualifying National Guard duty, during a war or other military operation or national emergency. The new deferment would apply to loans for which the first disbursement was made on or after July 1, 2001.

• Capping special allowances when student interest rate exceeds guaranteed rate. Under current law, FFEL lenders receive the higher of the student interest rate or a statutorily guaranteed rate of return, called the special allowance rate. If the student rate is lower than the guaranteed rate, the government makes up the difference. Under HERA, for new loans made on or after April 1, 2006, when the student rate is higher than the guaranteed rate, lenders would be required to rebate the difference to the government.

• Restrict Excessive Lender Subsidies. The HERA permanently limits the ability of loan holders to retain higher-than-standard subsidy payments on loans funded with the proceeds of tax-exempt securities originally issued before October 1, 1993. The Taxpayer-Teacher Protection Act of 2004 had temporarily restricted loan holders from maintaining their high-subsidy portfolio indefinitely by refinancing the underlying securities. The HERA makes this change permanent and also eliminates the practice of "recycling" loans for most loan holders.

Student Aid Summary Tables

Budget Authority ($ in millions)

Aid Available to Students ($ in millions)¹

Number of Student Aid Awards
(in thousands)

Number of Postsecondary Students Aided by Department Programs

Tax Benefits for Postsecondary Students and Their Families

In addition to the Department of Education's grant, loan, and work-study programs, significant support for postsecondary students and their families is available through tax credits and deductions for higher education expenses, including tuition and fees. For example, in 2007, students and families will save an estimated $3.1 billion under the HOPE tax credit, which allows a credit of up to $1,500 for tuition and fees during the first 2 years of postsecondary education; $2.0 billion under the Lifetime Learning tax credit, which allows a credit of up to $2,000 for undergraduate and graduate tuition and fees; and $810 million in above-the-line deductions for interest paid on postsecondary student loans.

Pell Grants

The Pell Grant program helps ensure financial access to postsecondary education by providing grant aid to low- and middle-income undergraduate students. The program is the most need-focused of the Department's student aid programs, with individual awards varying according to the financial circumstances of students and their families.

For a number of years prior to 2006, Pell Grant appropriations had not kept pace with program costs, which grew dramatically as the number of participating students increased. This unprecedented growth led to a funding shortfall of more than $4 billion. To address this problem, which threatened the financial stability of the Pell Grant program, the Administration's 2006 Budget included $4.3 billion in mandatory funding to retire the shortfall. The 2006 appropriation act included these funds, eliminating this longstanding issue.

To avoid future shortfalls, the Administration proposed and Congress adopted a new rule under which appropriations for the Pell Grant program in a given year are scored at the amount needed to fully fund the award level set in appropriations acts, beginning with the 2006-2007 school year. Under this rule, the amount scored would be increased to cover any cumulative funding shortfalls from previous years and reduced by any surpluses carried over from previous years, beginning with any shortfalls or surpluses from the 2006-2007 school year.

The Administration requests $12.7 billion to support Pell Grants in 2007. This amount assumes that $273.2 million will be available from the FY 2006 appropriation to support 2007 program costs under the budget resolution scoring rule discussed above.

While Pell Grants have been very successful in expanding access to postsecondary education for low-income students, the Administration plans to work with Congress during the reauthorization of the Higher Education Act to increase the program's effectiveness and improve its overall operation. Accordingly, the 2007 Budget includes the following proposals:

• Pell Grants would be made available year-round at eligible 2- and 4-year degree granting institutions, giving students a more convenient option for accelerating their studies and promptly completing their education.

• As a further incentive for timely completion, and to eliminate an area of potential abuse, Pell Grant eligibility would be limited to the equivalent of 18 semesters.

• The Administration proposes to eliminate the Pell Grant award rule related to tuition sensitivity. This rule limits the amount of support that students with greatest need receive while attending low-cost institutions.

Campus-Based Programs

The Supplemental Educational Opportunity Grant, Work-Study, and Perkins Loan programs are collectively referred to as the "campus-based" programs; grants in these programs are made directly to participating institutions, which have considerable flexibility to package awards to best meet the needs of their students.

Supplemental Educational Opportunity Grants

This program provides grant assistance of up to $4,000 per academic year to undergraduate students with demonstrated financial need. The $771 million request would leverage $205 million in institutional matching funds to make available a total of approximately $976 million in grants to an estimated 1.3 million recipients.

Program funds are allocated to institutions according to a statutory formula and require a 25 percent institutional match. Awards are determined at the discretion of institutional financial aid administrators, although schools are required to give priority to Pell Grant recipients and students with the lowest expected family contributions.

Work-Study

The Work-Study program provides grants to participating institutions to pay up to 75 percent of the wages of needy undergraduate and graduate students working part-time to help pay their college costs. The school or other eligible employer provides the balance of the student's wages. At the request level, over 800,000 students would receive $1 billion in award year 2007-08.

Funds are allocated to institutions according to a statutory formula, and individual award amounts to students are determined at the discretion of institutional financial aid administrators.

Perkins Loans Revolving Funds

A 2003 PART assessment found the Perkins Loan program to be Ineffective and duplicative of the larger guaranteed and direct student loan programs. While working with Congress to determine the future of the Perkins Loan program, the Administration proposes recalling the Federal portion of 2007 collections to revolving funds held by participating institutions. The Administration estimates this recall would total $664 million in fiscal year 2007.

Academic Competitiveness Grants/SMART Grants

This new program—created by the HERA—would award need-based Academic Competitiveness Grants to first- and second-year undergraduates who complete a rigorous high school curriculum, and National Science and Mathematics Access to Retain Talent (SMART) Grants to third- and fourth-year undergraduates majoring in physical, life, or computer sciences, mathematics, technology, engineering, or a critical foreign language. All funding is mandatory so that annual discretionary appropriations are not required.

In order to be eligible for either grant, a student must be a United States citizen and eligible for a Federal Pell Grant. A first-year recipient would also be required to be a first-time undergraduate, enrolled or accepted for enrollment in a 2- or 4-year degree granting institution, and have completed, after January 1, 2006, a rigorous secondary school program. Second-year undergraduates at such an institution would be required to have completed such a rigorous program after January 1, 2005, and to have maintained a cumulative grade point average of at least 3.0 during their first year as an undergraduate. The Secretary of Education would be required to recognize at least one rigorous program of study in each State.

Third- and fourth-year undergraduates would be required to pursue a major in physical, life, or computer sciences, mathematics, technology, engineering or a critical foreign language, and obtain a cumulative GPA of at least 3.0 in the coursework required for the major being pursued. Critical foreign languages would be determined by the Secretary of Education in consultation with the Director of National Intelligence.

Grants of $750 would be awarded to first-year undergraduate students, $1,300 for a second-year undergraduate, and $4,000 for third- and fourth-year undergraduates, except that these grants, in combination with the Federal Pell Grant and other student financial assistance, could not exceed the student's cost of attendance. A student may only receive one grant for each of the first through fourth years of undergraduate education, and only for a year for which the student received credit after the date of enactment.

Federal Family Education Loans and Direct Loans

New loan volume (in millions)

Number of loans (in thousands)

The Department of Education operates two major student loan programs: the Federal Family Education Loan (FFEL) program and the William D. Ford Federal Direct Loan (Direct Loan) program. These two programs meet an important Department goal by helping ensure student access to and completion of high-quality postsecondary education. Competition between the two programs and among FFEL lenders has led to a greater emphasis on borrower satisfaction and resulted in better customer service to students and institutions.

The FFEL program makes loan capital available to students and their families through some 3,500 private lenders. There are 35 active State and private nonprofit guaranty agencies which administer the Federal guarantee protecting FFEL lenders against losses related to borrower default. These agencies also collect on defaulted loans and provide other services to lenders. The FFEL program accounts for about 77 percent of new student loan volume.

Under the Direct Loan program, the Federal government uses Treasury funds to provide loan capital directly to schools, which then disburse loan funds to students. The Direct Loan program began operation in academic year 1994-95 and now accounts for about 23 percent of new student loan volume.

Basic Loan Program Components

Both FFEL and Direct Loans feature four types of loans with similar fees and maximum borrowing amounts:

• Stafford Loans are subsidized, low-interest loans based on financial need. The Federal government pays the interest while the student is in school and during certain grace and deferment periods. The interest rate on Stafford loans made before July 1, 2006, is adjusted annually based on the 91-day Treasury bill rate, with a cap of 8.25 percent. For loans made on or after July 1, 2006, interest rates will be fixed at 6.8 percent.

• Unsubsidized Stafford Loans are offered at the same rate as subsidized Stafford Loans, but the Federal government does not pay interest for the student during in-school, grace, and deferment periods.

• PLUS Loans are available to parents of dependent undergraduate students at slightly higher rates than Stafford or Unsubsidized Stafford Loans and the Federal government does not pay interest during in-school, grace, and deferment periods. The HERA would expand eligibility for PLUS loans to graduate and professional students.

• Consolidation Loans allow borrowers with multiple student loans who meet certain criteria to combine their obligations and extend their repayment schedules. The rate for both FFEL and Direct Consolidation Loans is based on the weighted average of loans consolidated rounded up to the nearest 1/8th of a percent. The resulting rate for the consolidated loan is then fixed for the life of the loan.

In recent years, a combination of historically low interest rates and aggressive marketing have resulted in dramatic increases in Consolidation Loan volume, which grew from $12 billion in fiscal year 2000 to $70 billion in fiscal year 2005.

Changes in Higher Education Reconciliation Act (HERA)

In addition to those discussed above, the HERA contains many changes to the student loan programs, a number of which, such as increased loan limits, expanded loan forgiveness, and increased lender and guaranty agency risk-sharing, were included in the Administration's FY 2006 Budget. These changes would make the student loan programs more efficient, cost-effective vehicles for helping students finance postsecondary education.

For Students: Higher Loan Limits, Reduced Fees, Expanded Benefits

Increased Loan Limits. Limits on student borrowing have remained essentially unchanged since the mid-1970s, even as college costs have more than tripled. To help students meet rising college costs, the HERA would increase annual subsidized loan limits to $3,500 for first-year students, $4,500 for second-year students, and annual unsubsidized loan limits to $12,000 for graduate and professional students.

Reduced Borrower Fees. Origination fees on loans would be reduced in annual increments over the next five years:

• In FFEL:

  • 2.0% between July 1, 2006 and July 1, 2007;
  • 1.5% between July 1, 2007 and July 1, 2008;
  • 1.0% between July 1, 2008 and July 1, 2009;
  • 0.5% between July 1, 2009 and July 1, 2010; and
  • 0.0% on or after July 1, 2010.

• In Direct Loans:

  • 3.0% between July 1, 2006 and July 1, 2007;
  • 2.5% between July 1, 2007 and July 1, 2008;
  • 2.0% between July 1, 2008 and July 1, 2009;
  • 1.5% between July 1, 2009 and July 1, 2010; and
  • 1.0% on or after July 1, 2010.

The HERA would require FFEL borrowers to pay a currently optional 1 percent guaranty agency insurance premium, which would continue to be in effect after July 1, 2010.

Expanded Loan Forgiveness. The Taxpayer-Teacher Protection Act of 2004 expanded loan forgiveness for highly qualified math, science, and special education teachers serving low-income communities from $5,000 to $17,500 for loans made between October 1, 1998, and September 30, 2005. (Borrowers who have already received forgiveness benefits are not affected by this provision.) Schools in these communities often are forced to hire uncertified teachers or assign teachers to "out-of-field" subjects. The HERA would make the increased loan forgiveness permanent, helping such schools recruit and retain highly qualified math, science, and special education teachers.

New Deferment for Active-Duty Military. A new Stafford Loan deferment of up to 3 years would be created in the FFEL, Direct Loan, and Federal Perkins Loan programs for borrowers serving on active duty, or performing qualifying National Guard duty, during a war or other military operation or national emergency. The new deferment would apply to loans for which the first disbursement was made on or after July 1, 2001.

For Lenders and Guaranty Agencies: Expanded Risk-Sharing, Increased Program Efficiency

Negative Special Allowance. Under current law, FFEL lenders receive the higher of the student interest rate or a statutorily guaranteed rate of return, called the special allowance rate. If the student rate is lower than the guaranteed rate, the government makes up the difference. Under HERA, for new loans made on or after April 1, 2006, when the student rate is higher than the guaranteed rate, lenders would be required to rebate the difference to the government.

As in prior years, budget estimates for the FFEL and Direct Loans programs were developed using forecasts of future interest rates included in the OMB government- wide economic assumptions. Under these projections, no negative special allowance would be paid on most loans during the next 10 years. The Congressional Budget Office uses an alternative estimating method, called probabilistic scoring, which recognizes the probability that future interest rates may differ from current projections. Under this approach, the negative special allowance would generate substantial savings over the same period. The Administration is exploring alternative student loan estimation methodologies to better reflect interest rate variability in future budgets.

Reduce Lender Insurance to 97 Percent. Lender insurance rates—the amount of a loan's outstanding principal and accrued interest repaid by the government when a loan defaults—would be reduced from 98 percent to 97 percent for loans made after July 1, 2006, except that exempt claims (due to false or erroneous borrower information or borrower actions that resulted in the borrower's ineligibility for the loan) would be insured at 100 percent.

Reduce Guaranty Agency Collection Retention. Guaranty agencies currently retain 18.5 percent of collections on defaulted loans made through loan consolidation (Agencies retain 23 percent of most other default collections.). Under HERA, effective October 1, 2006, 8.5 percent of this retained 18.5 percent would be remitted to the Department of Education. Effective October 1, 2009, for collections through consolidation in excess of 45 percent of the agency's total collections, the agency would be required to remit the entire 18.5 percent to the Department.

Restrict Excessive Lender Subsidies. The HERA permanently limits the ability of loan holders to retain higher-than-standard subsidy payments of up to 9.5 percent on loans funded with the proceeds of tax-exempt securities originally issued before October 1, 1993. The Taxpayer-Teacher Protection Act of 2004 had temporarily restricted loan holders from maintaining their high-subsidy portfolio indefinitely by refinancing the underlying securities. The HERA makes this change permanent and also eliminates the practice of "recycling" loans for most loan holders.

Require Collection of Insurance Premium. In 2005, 14 guaranty agencies did not charge the statutory 1 percent insurance premium, reducing revenue for the Federal Reserve Fund and weakening the financial stability of the guaranty agency system. The HERA includes the Administration's FY 2006 proposal to require agencies to collect the 1 percent insurance premium, paid by either the borrower or the lender, on all loans guaranteed or disbursed after July 1, 2006.

Consolidation Loans

The HERA would limit the circumstances under which FFEL borrowers may consolidate their loans into a Federal Direct Consolidation Loan. First, obtaining either a FFEL Consolidation Loan or a Federal Direct Consolidation Loan would generally terminate a borrower's eligibility to obtain either type of loan, unless the borrower:

• obtains a new non-consolidation loan;
• adds a pre-existing non-consolidation loan not included in the consolidation;
• adds loans received before or after the date of consolidation within 180 days of the making of the consolidation; or
• wishes to obtain income-contingent repayment terms through a Direct Consolidation Loan, but only in cases where the initial consolidation has been submitted to a guaranty agency for default aversion.

In addition, eligibility for FFEL borrowers to obtain a Federal Direct Consolidation Loan would be limited to borrowers in default and borrowers who have had a lender deny their FFEL Consolidation Loan application. Lastly, effective July 1, 2006, borrowers in either FFEL or Direct Loans would no longer be able to enter repayment prior to 6 months after the date the borrower ceased to be enrolled at least half-time, eliminating one current avenue to consolidation.

Other Provisions

The HERA would reinstate two expired student loan provisions affecting institutions with cohort default rates of less than 10 percent for the 3 most recent fiscal years. These institutions would be exempt from requirements that loans to first-year students not be disbursed until 30 days after enrollment, and that all loans be disbursed in at least two separate installments. The Act would also eliminate a provision restricting institutional eligibility for Federal student aid programs to programs that offer at least 50 percent of their courses on campus, which limits distance education. To clarify a current provision under which applicants convicted of a drug-related offense are ineligible for Federal student aid, the HERA would restrict the provision's effect to students who commit a drug-related offense while enrolled in higher education. Lastly, military personnel on active duty would automatically be considered as independent for the purpose of determining eligibility for Federal student aid.

Student Aid Program Management

Prior to the Higher Education Reconciliation Act (HERA), funding to support student aid administrative activities was provided through two main sources: 1) mandatory funds appropriated under Section 458 of the Higher Education Act (HEA); and 2) a discretionary Student Aid Administration appropriation. The HERA would merge these two sources into a single discretionary account beginning in FY 2007. Also beginning in 2007, the HERA would reclassify account maintenance fees to FFEL guaranty agencies, previously paid through the mandatory Section 458 account, as FFEL subsidy costs.

The Administration requests $733.7 million to administer the Federal student aid programs in FY 2007, $14.9 million—or 2.1 percent—over the comparable 2006 funding level. This request assumes the unified discretionary Student Aid Administration account included in the HERA. The increase would support the completion of major, multi-year, contracted system implementation efforts—primarily Common Services for Borrowers and ADvance, which integrate and streamline loan servicing and aid application and disbursement systems, respectively—that will allow the Department to better control future costs in the face of expected workload increases. The increase would also support expanded outreach to and technical assistance for student and schools.

Primary responsibility for administering the student aid programs lies with the Office of Postsecondary Education and the performance-based Federal Student Aid (FSA). FSA was created by Congress in 1998 with a mandate to modernize student aid delivery and management systems, improve service to students and other student aid program participants, reduce the cost of student aid administration, and improve accountability and program integrity. Most student aid administrative funding supports private contractors that process student loan applications; originate and service Direct Loans; disburse and account for student aid awards to students, parents, and schools; and payments to guaranty agencies.

Vocational and Adult Education   Higher Education Programs

For further information contact the ED Budget Service.

This page last modified—February 6, 2006 (mjj).