Livinglies Opens Up New Front Against Enforcement of Securitized Student Loans

Mar 4, 2013

As we progress toward success on the foreclosure front (yes, I believe it is coming) my return to representing clients directly in Florida in addition to my expert witness testimony in other states, has brought me face to face with a torrent of inquiries about student loans. There are over $1 trillion in student loans and they are starting to drag on the economy as the bankers laugh all the way to, well, the bank.

Let’s start at the beginning. There are two types of student loans and it appears as though only one of them is subject to claims of securitization. In “private Student Loans” it works pretty much the same way as the mortgage meltdown loans. Students who completely lack any literacy or sophistication and who rely upon the “loan officer” of a chartered bank are encouraged to borrow more than they need and more than they are likely to be able to pay back. The sales lines are virtually the same script as what was used on hapless “borrowers” in the mortgage meltdown, tailored to what appears to be a different situation. The origination “officer” convinces the student that in order to study, live and play they will need more money than what the student asked for.

The private bank, which is the originator, knows that they are the naked nominee of an undisclosed lender just like the mortgage loans. The actual source of funds comes from the sale of student-backed government guaranteed bonds purchased by fund managers that are desperately looking for higher yields than the market generally allows. Here is a tip: in any scam, the yield promised to investors is always higher than market and the viability of the bond depends completely upon the sale of more bonds — i.e., a Ponzi scheme. So if you see an advertisement for 12% yield, you can be certain that a Ponzi scheme is in play and you are most likely going to lose all your money. Don’t buy it. If it was real, then far more sophisticated investors and managers would have already snapped it up. There wouldn’t be anything left for small investors like you.

Back to student loans. The “lending bank” which is actually a naked nominee of an undisclosed lender (i.e., a group of investors) approves the loan and the borrower student doesn’t know it but his interest rate may go as high as 18% after he or she graduates, making the loan impossible to pay unless the student hits a flow of income in business or investment that by chance makes the student loan look like chump change. 99% of the student loans produce hardship of some sort or another because the principal was too high (like mortgages) and the interest rate changed to an unpayable amount.

So far in our limited amount of research, the student loan infrastructure looks eerily like the mortgage meltdown. The actual money comes in from a wire transfer from a “custodial account” managed by the investment banker that created and sold the student loan-backed bonds to the investors. The investors thought they were investing in a special purpose vehicle like a REMIC (used in real estate loans) or special purpose vehicle since the bonds are clearly issued by the SPV (trust).

Besides getting high ratings from the ratings companies, the bonds are advertised as insured, hedged and guaranteed by the Federal government. So from the investor’s point of view, just like the in the mortgage mess, there appears to be no way to lose money. Indeed, so far, they are right. The Federal guarantee comes with a caveat — the loan may not be discharged in bankruptcy.

In Court, later, the student is going to be caught in the cross fire of the same rhetoric that got the foreclosure mess started in the wrong direction: “you took the loan, you signed the papers, and you admit the default.” Therefore, there appears to be no way out….. except….I have another idea.

The Federal guarantee is really what is being purchased by the investors and they are the actual lenders, which excludes them from the class of lenders authorized to receive a guarantee. What that means is that the investors are NOT entitled to receive a guarantee or payment on the guarantee. It also means, I would argue, that if there is no Federal guarantee, there is no exemption from bankruptcy discharge.

In plain English if a chartered bank did not take in the loan as a loan receivable and instead converted it into a bond receivable to investors, then the bank took no risk at all, and there was no reason to provide a guarantee of a risk of loss that did not exist. The misrepresentation of the financial community has dumped hundreds of billions of “losses” onto the federal government when those losses were actually covered by various risk avoidance vehicles like insurance and credit default swaps.

So here is how it is working now, from what I can determine at this time: the bank stands in as naked nominee in the loan with no assumption of any risk and therefore nothing to guarantee. The bank is renting out its name to grab onto the federal guarantee because it is not apparent that investors are funding the loan and that insurance and credit de fault swaps are not only protecting against the loss, but providing the same opportunity for Wall Street to create tier 2 yield spread premiums and multiple payments of the entire principal — payable to Wall Street investment banks who never had a nickle in the game. The proceeds of insurance and credit default swaps are neither reported nor paid to the investors — just like the mortgage mess.

The predatory loan infrastructure is virtually identical to the one seen in the mortgage market. Teaser rates are provided with no interest or very low interest payments while the student is in school and then, without any governance from regulators, the interest rate starts to rise attaining great heights.

In numbers it looks like this: the student borrows $50,000. While in school there is no interest payment but he interest is accruing and he or she still owes it which is the same as a negative amortization loan. When the student gets out of school the interest rate shoots up to 8%, for example, applied against a new balance consisting of the original amount borrowed and the unpaid interest. So now the student is tuck with sticker shock. He or she thought they were borrowing $50,000 but now they find after four years of school that they owe $66,000 at 8% interest, which is about $5,000 per year without repayment of principal. The interest rate could climb to as high as 16% which would make the new loan $90,000.

Meanwhile the bank simply reports the new loan to the aggregator who authorizes the investment bankers’ “Custodial fund” to release the money for funding of the loan. Instead of disclosing the real lender, and putting the name of the real lender on the note the investment bank is using the illusion of a chartered bank making the loan and for a window of time, claiming to own the loan through a series of non-existent transactions that will be documented on demand to show assignments, endorsements, and other indicia of sale or transfer of the loan. The pile of transfer of documents lends the illusion of credibility to the assumption that there was an actual monetary transaction between the student and the bank who originated the loan but who was merely performing a fee-based service, illegally lending their name to private investors to make it appear as though the transaction was a bank loan.

The documents are fabricated to show that the investment banker owns the loans and the investment banker then goes and gets that insurance and those credit default swaps the supposedly going to protect the investor from risk of loss on top of the government guarantee. Once again we see loans pushed that reset with much higher principal and much higher interest than the average graduate could ever pay.

Despite the Federal Truth in Lending Act and other deceptive lending statutes, regulations and rules on the federal and state level, this “lending” of the chartered bank’s name to the transaction has consistently slipped through avoiding regulations and asserting guarantees, the conditions for which do not apply. Again, the same thing as the mortgages.

In my opinion the student loans in bankruptcy are dischargeable if you you deny that the party suing you or seeking collection did not receive and could not receive the federal guarantee which means the exemption from discharge does not apply. In my opinion the principal claimed is both wrong and unconscionable and may be challenged as a predatory loan. I believe that student loans will soon be treated as any other non-secured loan and subject to discharge or reorganization under chapters 7, 11 or 13. I believe that the amount demanded is probably improper because of the existence of mitigation of damages achieved through insurance and credit default swaps, both of which were promised to the investors and neither of which was reported or paid to investors.

If the mitigation payments had been made to the investors then the bond receivable would have been reduced, thus reducing the loan receivable underlying the bond. Hence it is my opinion that both the principal and the interest, penalties and other fees and expenses for a loan in default do not conform to the deal made between the lenders (investors) and the borrower.

LAWYERS TAKE NOTE: The insurance payments and proceeds of credit default swaps were, as far we can tell, ALWAYS accompanied by a waiver of subrogation or contribution from the borrower.

STUDENTS TAKE NOTE: This blog is for general infomration putposes and may or may not apply to your case. Before you decide ro act on anything resulting from reading this blog, learn more about student loans and consult with a competent attorney licensed in the jurisdiction in which you are located, or where the transaction occurred or where venue is “Agreed”in the loan documents, although the loan documents might be avoided entirely if material violations of TILA and other statutes and rules can be alleged and proven. In my opinion, if you try this on your own, you are most likely to fail and make bad law for the rest of students who wish to modify or extinguish their loans.

see http://online.wsj.com/article/SB10001424127887323293704578334542910674174.html?mod=WSJ_hp_LEFTWhatsNewsCollection

and