This is the accessible text file for GAO report number GAO-05-874 
entitled 'Federal Student Loans: Challenges in Estimating Federal 
Subsidy Costs' which was released on October 26, 2005. 

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Report to Congressional Committees: 

United States Government Accountability Office: 

GAO: 

September 2005: 

Federal Student Loans: 

Challenges in Estimating Federal Subsidy Costs: 

GAO-05-874: 

GAO Highlights: 

Highlights of GAO-05-874, a report to congressional committees: 

Why GAO Did This Study: 

In fiscal year 2004, the federal government made or guaranteed about 
$84 billion in loans for postsecondary education through two loan 
programs—the Federal Family Education Loan Program (FFELP) and the 
Federal Direct Loan Program (FDLP). Under FFELP, private lenders fund 
the loans and the government guarantees them a minimum yield and 
repayment if borrowers default. When the interest rate paid by 
borrowers is lower than the guaranteed minimum yield, the government 
pays lenders special allowance payments (SAP). Under FDLP, the U.S. 
Treasury funds the loans that are originated through participating 
schools. Under the Federal Credit Reform Act (FCRA) of 1990 the 
government calculates, for purposes of the budget, the net cost of 
extending or guaranteeing credit over the life of a loan, called a 
subsidy cost. Agencies generally update, or reestimate, subsidy costs 
annually to include actual program results and adjust future program 
estimates. 

GAO examined (1) whether reestimated subsidy costs have differed from 
original estimates for FFELP and FDLP loans disbursed in fiscal years 
1994 through 2004, (2) what factors explain changes between reestimated 
and original subsidy rates—that is subsidy cost estimates per $100 
disbursed; and (3) which federal costs and revenues associated with the 
student loan programs are not included in subsidy cost estimates. 

What GAO Found: 

Both FFELP and FDLP subsidy cost reestimates have differed from 
original estimates for loans made in fiscal years 1994 through 2004, 
reflecting the challenges inherent in estimating the actual costs of 
loans made under each of these federal loan programs. Reestimated 
subsidy costs for FFELP loans were close to or lower than original 
estimates for loans made in fiscal years 1994 to 2002, but higher than 
originally estimated for loans made in fiscal years 2003 and 2004. FDLP 
reestimated subsidy costs were generally similar to or higher than 
originally estimated for loans made in fiscal years 1994 through 2004. 

Differences between original and reestimated subsidy cost estimates per 
$100 disbursed were, in part, due to market interest rates that were 
lower than originally forecasted, greater than anticipated loan 
consolidation, and the availability of additional data on student 
loans. Each of these factors has affected reestimated subsidy costs for 
each loan program in a different way. For example, interest rates fell 
to lower than expected levels in 2001 and the condition persisted 
through 2004. For FFELP, lower than expected interest rates have made 
the difference between the borrower interest rate and lender yield 
smaller than expected resulting in lower SAP paid to lenders, which in 
turn resulted in lower reestimated subsidy cost estimates. For FDLP, 
lower than expected interest rates contributed to higher reestimated 
subsidy costs because the government received smaller interest payments 
from borrowers than originally anticipated and, in some cases, the rate 
paid by student borrowers fell below the government’s fixed borrowing 
rate. 

Certain federal costs and revenues associated with the student loan 
programs, such as federal administrative expenses, some costs of risk 
associated with lending money over time, and federal tax revenues 
generated by both student loan programs, are not included in subsidy 
cost estimates. For example, under current law, federal administrative 
expenses are excluded from subsidy cost estimates. Moreover, both loan 
programs generate federal tax revenues from private sector companies 
and investors that are encompassed in the revenue portion of the budget 
but are not included in subsidy cost calculations. Estimating the 
amount of federal tax revenues generated by the loan programs would be 
difficult and was beyond the scope of our review. 

Education reviewed a draft copy of this report and did not have any 
comments. 

www.gao.gov/cgi-bin/getrpt?GAO-05-874. 

To view the full product, including the scope and methodology, click on 
the link above. For more information, contact Cornelia Ashby at (202) 
512-7215 or ashbyc@gao.gov. 

[End of section] 

Contents: 

Letter: 

Results in Brief: 

Background: 

Reestimated Subsidy Costs Differed from Original Estimates for Both 
Loan Programs: 

Recent Low Interest Rates, Increased Loan Consolidation, and Additional 
Data Contributed to Differences between Reestimated and Original 
Subsidy Cost Estimates: 

Certain Federal Costs and Revenues Associated with the Student Loan 
Programs Are Not Included in Subsidy Cost Estimates: 

Concluding Observations: 

Agency Comments: 

Appendix I: Comparison of Fiscal Year 2006 FDLP and FFELP Reestimated 
Subsidy Costs per $100 Disbursed, by Loan Type and Cohort: 

Appendix II: GAO Contacts and Staff Acknowledgments: 

Tables: 

Table 1: FFELP Reestimated and Original Subsidy Cost Estimates per $100 
Disbursed, by Loan Type and Loan Cohort: 

Table 2: FDLP Reestimated and Original Subsidy Cost Estimates Per $100 
Disbursed, by Loan Type and Loan Cohort: 

Table 3: Comparison of Reestimated and Original Subsidy Cost Estimates 
for All Loans Disbursed between Fiscal Years 1994 and 2004: 

Table 4: OMB Interest Rate Projections for the 91-day Treasury Bill as 
Shown in the 1999 President's Budget Compared to CBO's Projections and 
Actual Interest Rates: 

Table 5: Comparison of Cost Estimates per $100 Disbursed in Fiscal Year 
2006 with and without Administrative Expenses: 

Figures: 

Figure 1: FFELP Cash Flows Used in Subsidy Cost Estimates: 

Figure 2: FDLP Cash Flows Used in Subsidy Cost Estimates: 

Figure 3: Comparison of Total Reestimated FFELP Subsidy Costs to 
Original Estimates, by Loan Cohort: 

Figure 4: Comparison of Total Reestimated FDLP Subsidy Costs and 
Original Estimates, by Loan Cohort: 

Figure 5: Comparison of Rates for 3-month Commercial Paper and 91-day 
Treasury Bill, 1997 to 2004: 

Figure 6: Comparison of Borrower Interest Rate to Lender Yield for 
Loans Disbursed on or after January 1, 2000: 

Figure 7: Actual and Projected Borrower Interest Rate for a Stafford 
Loan in Repayment Compared to the Discount Rate for the Fiscal Year 
1999 Loan Cohort: 

Figure 8: Consolidation Example: Borrower's Perspective: 

Figure 9: Consolidation Example: Education's Perspective: 

Figure 10: Comparison of Reestimated Subsidy Costs for Subsidized 
Stafford Loans in FFELP and FDLP, by Loan Cohort: 

Figure 11: Comparison of Reestimated Subsidy Costs for Unsubsidized 
Stafford Loans in FFELP and FDLP, by Loan Cohort: 

Figure 12: Comparison of Reestimated Subsidy Costs for PLUS Loans in 
FFELP and FDLP, by Loan Cohort: 

Figure 13: Comparison of Reestimated Subsidy Costs for Consolidation 
Loans in FFELP and FDLP, by Loan Cohort: 

Abbreviations: 

FCRA: Federal Credit Reform Act of 1990:
FDLP: William D. Ford Direct Loan Program: 
FFELP: Federal Family Education Loan Program: 
HEA: Higher Education Act: 
OMB: Office of Management and Budget: 
PLUS: Parent Loans for Undergraduate Students: 
SAP: special allowance payments: 

[End of section] 

United States Government Accountability Office: 

Washington, DC 20548: 

September 29, 2005: 

Congressional Committees: 

In fiscal year 2004, the federal government made or guaranteed about 
$84 billion in loans to assist students in paying for their 
postsecondary education under title IV of the Higher Education Act 
(HEA), as amended. Federal student loans are primarily administered 
through two programs: the Federal Family Education Loan Program (FFELP) 
and the William D. Ford Direct Loan Program (FDLP). The federal 
government's role in financing and administering loans for these two 
programs differs significantly. Under FFELP, private lenders, such as 
banks, fund the loans, and the federal government guarantees FFELP 
lenders a minimum yield on the loans they make and repayment if 
borrowers default. When the interest rate paid by borrowers is lower 
than the minimum yield guaranteed to lenders, the government pays 
lenders the difference--a subsidy called special allowance payments 
(SAP). Additionally, state-designated guaranty agencies receive federal 
funding to perform a variety of administrative functions in FFELP and 
also work with lenders and borrowers to prevent loan defaults and 
collect on the loans after default. Under FDLP, the U.S. Treasury funds 
the loans, which are originated through participating schools. The 
Department of Education contracts with private-sector firms to provide 
administrative functions for its student loan programs. 

In general, which program a student uses to obtain a loan depends upon 
which program the student's school has chosen to use. Both FFELP and 
FDLP offer students and their parents the same types of loans to pay 
for postsecondary education--Stafford subsidized, Stafford 
unsubsidized, Parent Loans for Undergraduate Students (PLUS), and 
consolidation loans. The interest rate borrowers pay on Stafford and 
PLUS loans is a variable rate based on a statutory formula.[Footnote 1] 
Subsidized loans are awarded based on a student's financial need and 
the federal government pays the interest on behalf of students while 
they are attending school and during a brief grace period when the 
student first leaves school. Unsubsidized and PLUS loans are available 
to borrowers regardless of financial need, and borrowers are 
responsible for interest payments during the life of the loan. 
Consolidation loans allow borrowers to combine multiple federal student 
loans into a single loan with a fixed interest rate based on the 
weighted average of the interest rates in effect on the loans being 
consolidated. 

In recent years, competition between FFELP and FDLP has been credited 
with improving services provided for both schools and borrowers and 
enhancing borrower benefits, but there has been ongoing debate about 
whether the costs and benefits of one program outweigh those of the 
other. Assessing and comparing the total costs and benefits of the two 
loan programs would require consideration of, among other things, costs 
incurred by schools in operating the loan programs, quality of services 
provided to schools and borrowers, benefits to society and individuals 
from postsecondary education, as well as federal costs and revenues 
generated by each loan program--federal budgetary costs. With respect 
to the latter, the technical nature of how the government accounts for 
the federal budgetary costs of the two loan programs, and disagreement 
about whether estimates of subsidy costs fully represent federal costs 
have made debate about comparing costs of the loan programs 
challenging. 

The Federal Credit Reform Act of 1990 (FCRA) significantly changed the 
way that the federal government accounted for the budgetary costs of 
credit programs, including FFELP and FDLP. Prior to FCRA, the 
government calculated costs on a cash basis--whereby costs and revenues 
were recorded when money was paid or received. On a cash basis, direct 
loans initially appeared to be as expensive as grants because the 
budget did not recognize the expected repayment of direct loans. Loan 
guarantees, on the other hand, initially appeared to be cost free (or 
could even appear to make money because of upfront fees paid by 
borrowers and lenders to the government) because the budget did not 
recognize expected federal payments to lenders as a consequence of loan 
defaults. Under FCRA, the government calculates, for purposes of the 
budget, the net cost to the government of extending or guaranteeing 
credit over the life of a loan--called the subsidy cost. FCRA was 
enacted to require agencies to measure the lifetime costs of a loan in 
a way that would permit better cost comparisons between guaranteed and 
direct loans, and between credit and non-credit programs (e.g., 
grants). Agencies are required to estimate the subsidy cost to the 
government of a direct loan or a loan guarantee based on the net 
present value of all estimated cash flows, excluding administrative 
costs, when preparing their annual budget.[Footnote 2] Agencies 
generally update or revise these estimates, called reestimates, 
annually to take into account changes in interest rates and other 
conditions. To provide Congress with information about federal costs 
for the student loan programs to use as it considers reauthorization of 
the HEA, we examined: 

1. whether reestimated subsidy costs have differed from original 
estimates for FFELP and FDLP loans disbursed in fiscal years 1994 
through 2004; 

2. what factors explain changes between reestimated and original 
subsidy rates--that is, subsidy cost estimates per $100 disbursed; and: 

3. which federal costs and revenues associated with the student loan 
programs are not included in subsidy cost estimates. 

To determine whether subsidy cost estimates have changed over time, we 
compared original subsidy cost estimates to the most recent estimates 
by analyzing subsidy cost estimates and reestimates for loans made and 
guaranteed in each fiscal year, called a loan cohort, from 1994--the 
first fiscal year loans were disbursed through FDLP--to 2004.[Footnote 
3] We collected and analyzed this information for loan cohorts by loan 
type in both FFELP and FDLP as presented in the Budget of the United 
States Government. On the basis of our review of the documentation for 
these data, we determined that the data were sufficiently reliable for 
the purpose of our examination. To determine the factors that explain 
changes in subsidy cost estimates, we reviewed documentation prepared 
by the Department of Education (Education) for its financial statement 
audits and interviewed Education officials. To determine which federal 
costs and revenues are not included in the subsidy cost estimates, we 
reviewed the HEA and related regulations, FCRA, Office of Management 
and Budget (OMB) guidance, Education's financial statements and auditor 
reports, and the federal budget. We also interviewed officials with 
Education, OMB, the Congressional Budget Office, and an FFELP lender 
and reviewed studies about estimating the costs of the student loan 
programs. Moreover, we gathered data from Education on federal 
administrative costs in each loan program and reviewed literature about 
discounting cash flows and incorporating risk into cost estimates. We 
conducted our work in accordance with generally accepted government 
auditing standards from January 2005 to August 2005. 

Results in Brief: 

Both FFELP and FDLP subsidy cost reestimates differed from original 
estimates for loans made in fiscal years 1994 through 2004, reflecting 
the challenges inherent in estimating the costs of loans made under 
each of the federal student loan programs. Differences in total subsidy 
cost estimates were driven both by differences between expected and 
actual loan volume, as well as changes in subsidy rates--that is, 
subsidy cost estimates per $100 disbursed. Reestimated subsidy costs 
for FFELP loans were close to or lower than original estimates for 
loans made in fiscal years 1994 to 2002, but higher than originally 
estimated for loans made in fiscal years 2003 and 2004. After 
controlling for loan volume, reestimated FFELP subsidy costs per $100 
of loans disbursed were often lower than originally estimated. FDLP 
reestimated subsidy costs were generally similar to or higher than 
originally estimated for loans made in fiscal years 1994 through 2004 
both at the aggregate level and after controlling for loan volume. 
Moreover, while some original estimates of FDLP subsidy costs per $100 
of loans disbursed projected a net gain for the government, subsequent 
reestimates project a smaller gain or even a net cost to government, 
thus illustrating that originally anticipated increases in federal 
revenues may not, in fact, ultimately materialize. Although FDLP 
reestimated subsidy costs have been higher than originally expected, 
they have generally remained lower than those of FFELP. According to 
Education officials, FDLP subsidy cost estimates per $100 disbursed are 
lower than those of FFELP because, even though long-term estimates of 
interest subsidies to borrowers and default costs are roughly 
equivalent under both programs, under FFELP there are large cash 
outflows in the form of special allowance payments to lenders while 
under FDLP there are large cash inflows, net of payments to Treasury, 
in the form of borrower interest payments and no SAP paid to lenders. 

Differences between original and reestimated subsidy cost estimates per 
$100 disbursed were, in part, due to market interest rates that were 
lower than originally forecasted by OMB, greater than anticipated loan 
consolidation, and the availability of additional data on student loan 
borrowers. For FFELP, lower than expected interest rates made the 
difference between the borrower interest rate and lender yield smaller 
than expected, resulting in lower SAP paid to lenders, which, in turn, 
resulted in lower reestimated subsidy cost estimates. In the case of 
FDLP, lower than expected interest rates have resulted in lower than 
expected interest payments from borrowers to the government, thus 
leading to higher reestimated subsidy costs. Additionally, higher than 
anticipated consolidation loan volume, resulting, in part, from low 
interest rates, contributed to differences between original and 
reestimated subsidy costs for both programs. In FFELP, it contributed 
to lower reestimated subsidy costs for the underlying loan cohorts 
repaid by consolidation loans, because the length of time Education 
anticipated paying SAP to lenders was shortened. Estimated subsidy 
costs for recently disbursed FFELP consolidation loans, which reflect 
costs associated with default risk and SAP to lenders, are, however, 
quite large in comparison to previous years. In FDLP, greater than 
expected prepayment due to consolidation decreased the anticipated 
interest payments on the underlying loans, which, in turn, contributed 
to higher reestimated subsidy cost estimates of the underlying loan 
cohorts. Furthermore, additional data for both FFELP and FDLP loans 
have enabled Education to refine its cash flow model when it 
reestimated subsidy costs. For example, according to Education 
officials, data on FFELP and FDLP borrowers' use of deferment options 
that allow them to delay making payments on a loan when they return to 
school or are experiencing economic hardship only recently became 
available. Education refined its model to explicitly include 
assumptions about borrowers' use of deferment, which has improved its 
cash flow estimates. 

Certain federal costs and revenues associated with the student loan 
programs are not included in subsidy cost estimates, such as federal 
administrative expenses, some costs of risk associated with lending 
money over time, and federal tax revenues generated by both student 
loan programs. Under current law, federal administrative expenses are 
excluded from subsidy cost estimates. For the fiscal year 2005 loan 
cohort, Education estimated that cost estimates for FDLP would increase 
by $1.45 and for FFELP by $0.69 per $100 in loans disbursed if federal 
administrative expenses were included. The large difference is because 
the federal government is primarily responsible for administering the 
FDLP while in FFELP lenders and guaranty agencies perform 
administrative tasks. In addition, subsidy cost estimates do not 
include all risk that the government incurs by lending money over time. 
Subsidy cost estimates factor in anticipated cash flows from the loans, 
which incorporate some risks that the government incurs, such as credit 
risk represented by a default rate--the rate at which the government 
expects borrowers not to pay back their student loans. However, some 
risks are not explicitly included in subsidy cost estimates, such as 
interest rate risk--unanticipated fluctuations in the interest rate due 
to changes in the economy that cause changes in the present value of 
the loans' cash flows. Lastly, both loan programs generate federal tax 
revenues from private-sector companies and investors that participate 
in the federal student loan programs. These revenues are encompassed in 
the revenue portion of the budget but are not included in subsidy cost 
calculations. Estimating the amount of federal tax revenues generated 
by the loan programs would be challenging. Calculations of total 
federal costs would be enhanced were these additional costs and 
revenues considered, though doing so may require complex methodologies 
and/or data that are not currently readily available. 

We provided Education with a copy of our draft report for review and 
comment. Education reviewed the report and did not have any comments. 

Background: 

The federal government makes loans to students through private-and 
public-sector lenders in the FFELP or directly to students through 
FDLP. These two programs are among the largest of the federal 
government's credit programs. At the end of 2004, there were about $245 
billion in outstanding FFELP loans, about 20 percent of total federal 
guaranteed loans outstanding, and $107 billion in outstanding FDLP 
loans, about 43 percent of total federal direct loans outstanding. 

Types of Federal Loans and Terms for Borrowers: 

Students and parents are able to borrow the same types of loans through 
FFELP and FDLP, which include: 

* Subsidized and Unsubsidized Stafford Loans--variable rate loans 
available to students. The federal government pays the interest on 
behalf of subsidized loan borrowers while the student is in school and 
during a brief grace period when the student first leaves school. 

* PLUS Loans--variable rate loans made to parents, on behalf of 
students. The borrower pays all interest costs. 

* Consolidation Loans--borrowers may combine multiple federal student 
loans into a single loan. The interest rate is fixed based on the 
weighted average of the interest rates in effect on the loans being 
consolidated. 

Under either loan program borrowers are able to repay loans earlier 
than required, with no penalty. The programs have several repayment 
options available to borrowers. For Stafford and PLUS loans, the 
standard repayment in both loan programs is a fixed amount per month 
for up to 10 years. Borrowers have other repayment options that allow 
them to extend repayment for up to 30 years, gradually increase the 
monthly payment, or base monthly payments on their adjusted gross 
income. The criteria for some of the alternative repayment options are 
different in FFELP and FDLP. For consolidation loans, the repayment 
terms depend on the loan amount. Moreover, borrowers that graduate, 
leave school, or become a less than half-time student are given a 6- 
month grace period before they must begin to repay their Stafford or 
consolidation loans.[Footnote 4] All borrowers may postpone repayment 
through deferment or forbearance if they meet certain criteria and the 
loan is not in default. Deferment is allowed for borrowers who remain 
in a postsecondary school at least half-time, a graduate program, or 
have experienced economic hardship. For borrowers who are temporarily 
unable to meet repayment obligations but are not eligible for 
deferment, lenders may grant a temporary and limited time period in 
which these borrowers do not need to repay their student loans, called 
forbearance. 

Developing Subsidy Cost Estimates: 

The FCRA guidance issued by OMB and accounting standards provide the 
framework for the process Education uses to calculate subsidy costs for 
student loans. Subsidy costs are calculated by estimating the federal 
government's future cash flows for loans made or guaranteed in a 
particular fiscal year, called a loan cohort. In estimating cash flows 
for a loan cohort, Education must make assumptions about loan 
characteristics and future borrower behavior, such as: 

* type and dollar amount of loans obligated or guaranteed, and: 

* how many borrowers will pay early, pay late, or default on their 
loans and at what point in time. 

Moreover, the model used to estimate future cash flows includes 
assumptions about future interest rates. OMB provides Education with 
interest rate assumptions that are used for the discount rate, borrower 
interest rate, and lender yields. Education aggregates cash flows by 
loan cohort, loan type, and risk category, which reflects the 
differences in the likelihood of default. Education has five risk 
categories, which include, in order of higher to lower risk of default: 
(1) students at proprietary schools, (2) students at 2-year colleges, 
(3) freshman and sophomores at 4-year colleges, (4) juniors and seniors 
at 4-year colleges, and (5) students at graduate schools. 

Federal Government's Role in Each Loan Program and Difference in Cash 
Flows: 

Although the method for calculating the subsidy cost is the same for 
both FFELP and FDLP, the federal government's role in each loan program 
differs significantly, which, in turn, affects the type and timing of 
cash flows in each program. In FFELP, private lenders, such as banks, 
fund the loans, and the federal government guarantees lenders a 
statutorily specified minimum yield that is tied to, and varies with, 
market financial instruments. When the interest rate paid by borrowers 
is below that yield, the federal government gives lenders subsidy 
payments, called SAP. Moreover, the federal government, through state- 
designated guaranty agencies, guarantees repayment of loans if 
borrowers default. Guaranty agencies provide insurance to lenders for 
98 percent of the unpaid principal of defaulted loans. The federal 
government, in turn, pays guaranty agencies 95 percent of their default 
claims.[Footnote 5] Guaranty agencies also perform various 
administrative functions in the FFELP. As shown in figure 1, under 
FFELP cash inflows to the federal government include fees and other 
payments from lenders and outflows from the federal government include 
SAP and default payments. FFELP cash flows are spread out over the life 
of the loan. 

Figure 1: FFELP Cash Flows Used in Subsidy Cost Estimates: 

[See PDF for image] 

[End of figure] 

Under FDLP, the U.S. Treasury funds the loans, which are originated 
through participating schools and contractors. Education's Office of 
Federal Student Aid is responsible for delivering funds to schools 
participating in FDLP, monitoring its contracts, and providing 
technical assistance to schools. Education contracts with private- 
sector companies to perform various administrative activities in FDLP, 
such as originating and servicing loans, and collecting defaulted 
loans. As shown in figure 2, FDLP cash inflows to the federal 
government are repayments of principal and interest payments and 
outflows include loan disbursements to borrowers. Because the federal 
government funds the loans, cash outflows occur in the early years as 
loan disbursements are made. Cash inflows, in the form of principal 
repayment and interest payments, occur in later years as borrowers 
enter repayment. 

Figure 2: FDLP Cash Flows Used in Subsidy Cost Estimates: 

[See PDF for image] 

[A] Principal repayments may be less than disbursements, reflecting 
defaults, loan discharges, and loan forgiveness. 

[B] Loan disbursements are decreased by the amount of origination fees 
charged to borrowers. 

[End of figure] 

Annually, agencies are generally required to update or "reestimate" 
loan costs for differences in estimated loan performance, such as 
differences between assumed and actual default rates, the actual 
program costs recorded in the accounting records, and new forecasts of 
future economic conditions, such as interest rates. Reestimates include 
all aspects of the original cost estimate, including prepayments, 
defaults, delinquencies, recoveries, and interest. Reestimates of the 
credit subsidy allow agency management to compare the original budget 
estimates with actual program results to identify variances from the 
original estimate, assess the quality of the original estimate, and 
adjust future program estimates as appropriate. 

Reestimated Subsidy Costs Differed from Original Estimates for Both 
Loan Programs: 

Both FFELP and FDLP reestimated subsidy costs have differed from 
original estimates for loans made in fiscal years 1994 through 2004, 
highlighting the challenges in estimating the costs of federal student 
loans. FFELP reestimated subsidy costs were similar to or lower than 
original estimates for loans made in fiscal years 1994 to 2002, but 
higher than originally estimated for loans made in fiscal years 2003 
and 2004. In comparison, FDLP reestimated subsidy costs were generally 
similar to or higher than original estimates for loans made in fiscal 
years 1994 through 2004. Across all types of loans, FDLP subsidy costs 
per $100 of loans disbursed were, for almost all loan cohorts, lower 
than those of FFELP. 

FFELP Reestimated Subsidy Costs Were Generally Similar to or Lower Than 
Original Estimates, with the Exception of Loans Disbursed in Fiscal 
Years 2003 and 2004: 

Reestimated subsidy costs for FFELP loans disbursed between fiscal 
years 1994 and 2002 were, in general, close to or lower than original 
estimates, while reestimated subsidy costs for loans disbursed in 2003 
and 2004 were higher than originally expected, as shown in figure 3. 

Figure 3: Comparison of Total Reestimated FFELP Subsidy Costs to 
Original Estimates, by Loan Cohort: 

[See PDF for image] 

[End of figure] 

From fiscal years 1994 to 1999, reestimated subsidy costs for FFELP 
were typically close to original estimates, while loans disbursed from 
fiscal year 2000 to fiscal year 2002 had reestimated subsidy costs that 
were lower than original estimates, ranging from $1.5 to $2.2 billion 
lower. Reestimated subsidy costs for loans disbursed in fiscal years 
2003 and 2004 were $2.7 and $3.6 billion higher than original 
estimates. Differences between reestimated and original subsidy costs 
estimates for the 2003 and 2004 loan cohorts were in part due to 
significant differences between expected and actual loan volume. For 
example, Education originally estimated about $40 billion in FFELP 
loans would be disbursed in 2003 when actually $69 billion was 
disbursed that year. The large difference was primarily due to a 
significantly higher volume of FFELP consolidation loans than 
originally estimated and the relatively high subsidy costs per $100 of 
these loans compared to consolidation loans made in previous years. 

After controlling for loan volume, FFELP reestimated subsidy costs per 
$100 disbursed were generally close to or lower than original subsidy 
cost estimates across loan types. As shown in table 1, for FFELP 
Stafford unsubsidized and PLUS loans, reestimated subsidy costs per 
$100 disbursed were lower for all loan cohorts than what was originally 
estimated--except fiscal year 1999. For subsidized Stafford loans, 
about two-thirds of the loan cohorts had lower reestimated subsidy 
costs per $100 disbursed. Slightly over half of all consolidation loan 
cohorts had lower reestimated subsidy costs per $100 disbursed than 
originally estimated. 

Table 1: FFELP Reestimated and Original Subsidy Cost Estimates per $100 
Disbursed, by Loan Type and Loan Cohort: 

Loan type: Stafford subsidized; 
Estimate: Original; 
Loan cohort (fiscal year): 1994: $15.59; 
Loan cohort (fiscal year): 1995: $15.31; 
Loan cohort (fiscal year): 1996: $22.84; 
Loan cohort (fiscal year): 1997: $22.75; 
Loan cohort (fiscal year): 1998: $18.80; 
Loan cohort (fiscal year): 1999: $16.41; 
Loan cohort (fiscal year): 2000: $21.25; 
Loan cohort (fiscal year): 2001: $23.53; 
Loan cohort (fiscal year): 2002: $23.14; 
Loan cohort (fiscal year): 2003: $16.81; 
Loan cohort (fiscal year): 2004: $17.64. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: $19.62; 
Loan cohort (fiscal year): 1995: $20.59; 
Loan cohort (fiscal year): 1996: $19.94; 
Loan cohort (fiscal year): 1997: $19.98; 
Loan cohort (fiscal year): 1998: $19.03; 
Loan cohort (fiscal year): 1999: $18.21; 
Loan cohort (fiscal year): 2000: $16.16; 
Loan cohort (fiscal year): 2001: $13.40; 
Loan cohort (fiscal year): 2002: $12.39; 
Loan cohort (fiscal year): 2003: $14.18; 
Loan cohort (fiscal year): 2004: $15.41. 

Loan type: Stafford unsubsidized; 
Estimate: Original; 
Loan cohort (fiscal year): 1994: $0.63; 
Loan cohort (fiscal year): 1995: $3.79; 
Loan cohort (fiscal year): 1996: $4.74; 
Loan cohort (fiscal year): 1997: $6.77; 
Loan cohort (fiscal year): 1998: $7.27; 
Loan cohort (fiscal year): 1999: $0.90; 
Loan cohort (fiscal year): 2000: $7.89; 
Loan cohort (fiscal year): 2001: $8.38; 
Loan cohort (fiscal year): 2002: $6.85; 
Loan cohort (fiscal year): 2003: $4.61; 
Loan cohort (fiscal year): 2004: $4.92. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: -$0.45; 
Loan cohort (fiscal year): 1995: $0.26; 
Loan cohort (fiscal year): 1996: $0.01; 
Loan cohort (fiscal year): 1997: $0.34; 
Loan cohort (fiscal year): 1998: $0.99; 
Loan cohort (fiscal year): 1999: $2.54; 
Loan cohort (fiscal year): 2000: $2.02; 
Loan cohort (fiscal year): 2001: $1.84; 
Loan cohort (fiscal year): 2002: $2.34; 
Loan cohort (fiscal year): 2003: $3.67; 
Loan cohort (fiscal year): 2004: $3.87. 

Loan type: PLUS; 
Estimate: Original; 
Loan cohort (fiscal year): 1994: $2.50; 
Loan cohort (fiscal year): 1995: $2.75; 
Loan cohort (fiscal year): 1996: $1.64; 
Loan cohort (fiscal year): 1997: $3.33; 
Loan cohort (fiscal year): 1998: $3.65; 
Loan cohort (fiscal year): 1999: -$ 1.91; 
Loan cohort (fiscal year): 2000: $6.32; 
Loan cohort (fiscal year): 2001: $5.38; 
Loan cohort (fiscal year): 2002: $3.92; 
Loan cohort (fiscal year): 2003: $4.67; 
Loan cohort (fiscal year): 2004: $3.26. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: $0.36; 
Loan cohort (fiscal year): 1995: $0.73; 
Loan cohort (fiscal year): 1996: $0.98; 
Loan cohort (fiscal year): 1997: $0.99; 
Loan cohort (fiscal year): 1998: $1.00; 
Loan cohort (fiscal year): 1999: $1.89; 
Loan cohort (fiscal year): 2000: $1.40; 
Loan cohort (fiscal year): 2001: $1.55; 
Loan cohort (fiscal year): 2002: $1.62; 
Loan cohort (fiscal year): 2003: $1.87; 
Loan cohort (fiscal year): 2004: $1.60. 

Loan type: Consolidation; 
Estimate: Original; 
Loan cohort (fiscal year): 1996: $7.86; 
Loan cohort (fiscal year): 1997: $0.06; 
Loan cohort (fiscal year): 1998: $0.75; 
Loan cohort (fiscal year): 1999: -$3.55; 
Loan cohort (fiscal year): 2000: $2.35; 
Loan cohort (fiscal year): 2001: $2.91; 
Loan cohort (fiscal year): 2002: $3.51; 
Loan cohort (fiscal year): 2003: $10.19; 
Loan cohort (fiscal year): 2004: $15.76. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: -$0.64; 
Loan cohort (fiscal year): 1995: $0.47; 
Loan cohort (fiscal year): 1996: $0.57; 
Loan cohort (fiscal year): 1997: -$0.17; 
Loan cohort (fiscal year): 1998: $2.12; 
Loan cohort (fiscal year): 1999: $1.15; 
Loan cohort (fiscal year): 2000: $0.80; 
Loan cohort (fiscal year): 2001: -$0.46; 
Loan cohort (fiscal year): 2002: $3.11; 
Loan cohort (fiscal year): 2003: $11.21; 
Loan cohort (fiscal year): 2004: $15.98. 

Source: GAO analysis of the Budget of the United States Government 
fiscal years 1994 to 2006. 

Note: Original subsidy cost estimates are the rates that appeared in 
the appendix to the budget for the associated fiscal year. Reestimated 
subsidy cost estimates are the rates that appeared in table 8 of the 
credit supplement of the fiscal year 2006 budget. Negative amounts 
represent revenue to the government and occur when expected cash 
inflows exceed cash outflows. Positive amounts represent a cost to the 
government. Cost estimates for FFELP subsidized loans are considerably 
higher than those for all other loan types because the government pays 
the borrowers' interest costs during the student's in-school, grace, 
and deferment periods. 

[End of table] 

FDLP Reestimated Subsidy Costs Were Generally Similar to or Higher Than 
Original Estimates: 

Reestimated subsidy costs for FDLP loans were in general similar to or 
higher than original estimates for loans disbursed between fiscal years 
1994 and 2004. For FDLP loans disbursed between fiscal years 1994 and 
1999, total reestimated subsidy costs were in general close to original 
estimates, but there was one loan cohort that had higher reestimated 
subsidy costs and another with much lower reestimated subsidy costs 
than originally expected, as shown in figure 4. 

Figure 4: Comparison of Total Reestimated FDLP Subsidy Costs and 
Original Estimates, by Loan Cohort: 

[See PDF for image] 

[End of figure] 

In comparison, reestimated subsidy costs for FDLP loans disbursed 
between fiscal years 2000 and 2004 were higher than original estimates. 
In some cases original estimates projected a net gain for the 
government, but subsequent reestimates project a smaller gain or even a 
net cost for the government. For example, original subsidy cost 
estimates of the fiscal year 2000 loan cohort projected a net gain of 
$930 million for the government and reestimated subsidy costs project a 
net cost of $1.1 billion. Such swings in estimated subsidy costs 
illustrate that originally anticipated federal revenues may not, in 
fact, ultimately materialize. Differences between total reestimated and 
original subsidy cost estimates were not driven by differences between 
original and actual loan volume, but rather by changes in the subsidy 
rates--that is, subsidy costs per $100 disbursed. 

FDLP reestimated subsidy costs per $100 disbursed were usually close to 
or higher than original subsidy cost estimates across loan types. For 
example, as shown in table 2, reestimated subsidy costs per $100 
disbursed for FDLP Stafford unsubsidized, and PLUS loans were, for 
almost all loan cohorts, higher than original estimates. For Stafford 
subsidized and consolidation loans, slightly over half of the loan 
cohorts had reestimated subsidy costs that were higher than originally 
estimated. 

Table 2: FDLP Reestimated and Original Subsidy Cost Estimates Per $100 
Disbursed, by Loan Type and Loan Cohort: 

Loan type: Stafford subsidized; 
Estimate: Original; 
Loan cohort (fiscal year): 1994: $12.42; 
Loan cohort (fiscal year): 1995: $14.45; 
Loan cohort (fiscal year): 1996: $16.54; 
Loan cohort (fiscal year): 1997: $10.38; 
Loan cohort (fiscal year): 1998: $13.65; 
Loan cohort (fiscal year): 1999: $13.79; 
Loan cohort (fiscal year): 2000: $4.06; 
Loan cohort (fiscal year): 2001: $8.03; 
Loan cohort (fiscal year): 2002: $2.66; 
Loan cohort (fiscal year): 2003: $4.97; 
Loan cohort (fiscal year): 2004: -$0.12. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: $13.75; 
Loan cohort (fiscal year): 1995: $13.21; 
Loan cohort (fiscal year): 1996: $11.23; 
Loan cohort (fiscal year): 1997: $11.22; 
Loan cohort (fiscal year): 1998: $10.10; 
Loan cohort (fiscal year): 1999: $12.41; 
Loan cohort (fiscal year): 2000: $14.81; 
Loan cohort (fiscal year): 2001: $11.24; 
Loan cohort (fiscal year): 2002: $6.89; 
Loan cohort (fiscal year): 2003: $2.52; 
Loan cohort (fiscal year): 2004: $4.06. 

Loan type: Stafford unsubsidized; 
Estimate: Original; 
Loan cohort (fiscal year): 1994: -$2.44; 
Loan cohort (fiscal year): 1995: -$6.99; 
Loan cohort (fiscal year): 1996: -$1.66; 
Loan cohort (fiscal year): 1997: -$11.77; 
Loan cohort (fiscal year): 1998: -$6.93; 
Loan cohort (fiscal year): 1999: -$7.78; 
Loan cohort (fiscal year): 2000: -$16.38; 
Loan cohort (fiscal year): 2001: -$14.36; 
Loan cohort (fiscal year): 2002: -$22.20; 
Loan cohort (fiscal year): 2003: -$12.25; 
Loan cohort (fiscal year): 2004: -$14.91. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: -$6.50; 
Loan cohort (fiscal year): 1995: -$5.13; 
Loan cohort (fiscal year): 1996: -$6.00; 
Loan cohort (fiscal year): 1997: -$5.25; 
Loan cohort (fiscal year): 1998: -$5.13; 
Loan cohort (fiscal year): 1999: -$0.91; 
Loan cohort (fiscal year): 2000: $2.99; 
Loan cohort (fiscal year): 2001: $2.01; 
Loan cohort (fiscal year): 2002: -$0.94; 
Loan cohort (fiscal year): 2003: -$5.67; 
Loan cohort (fiscal year): 2004: -$5.70. 

Loan type: PLUS; 
Estimate: Original; 
Loan cohort (fiscal year): 1994: -$4.86; 
Loan cohort (fiscal year): 1995: -$3.71; 
Loan cohort (fiscal year): 1996: -$11.10; 
Loan cohort (fiscal year): 1997: -$9.36; 
Loan cohort (fiscal year): 1998: -$6.34; 
Loan cohort (fiscal year): 1999: -$9.49; 
Loan cohort (fiscal year): 2000: -$13.41; 
Loan cohort (fiscal year): 2001: -$12.36; 
Loan cohort (fiscal year): 2002: -$16.21; 
Loan cohort (fiscal year): 2003: -$9.80; 
Loan cohort (fiscal year): 2004: -$14.72. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1994: $0.81; 
Loan cohort (fiscal year): 1995: -$1.30; 
Loan cohort (fiscal year): 1996: -$2.88; 
Loan cohort (fiscal year): 1997: -$2.54; 
Loan cohort (fiscal year): 1998: -$2.76; 
Loan cohort (fiscal year): 1999: -$0.95; 
Loan cohort (fiscal year): 2000: $2.21; 
Loan cohort (fiscal year): 2001: $1.45; 
Loan cohort (fiscal year): 2002: -$1.20; 
Loan cohort (fiscal year): 2003: -$4.80; 
Loan cohort (fiscal year): 2004: -$4.48. 

Loan type: Consolidation; 
Estimate: Original; 
Loan cohort (fiscal year): 1996: -$0.59; 
Loan cohort (fiscal year): 1997: -$6.59; 
Loan cohort (fiscal year): 1998: -$0.14; 
Loan cohort (fiscal year): 1999: -$0.61; 
Loan cohort (fiscal year): 2000: -$7.72; 
Loan cohort (fiscal year): 2001: -$3.92; 
Loan cohort (fiscal year): 2002: -$6.96; 
Loan cohort (fiscal year): 2003: -$3.75; 
Loan cohort (fiscal year): 2004: $1.13. 

Estimate: Reestimated; 
Loan cohort (fiscal year): 1995: $2.23; 
Loan cohort (fiscal year): 1996: $0.77; 
Loan cohort (fiscal year): 1997: $1.58; 
Loan cohort (fiscal year): 1998: -$0.51; 
Loan cohort (fiscal year): 1999: -$2.97; 
Loan cohort (fiscal year): 2000: $1.62; 
Loan cohort (fiscal year): 2001: -$3.42; 
Loan cohort (fiscal year): 2002: -$4.29; 
Loan cohort (fiscal year): 2003: -$6.00; 
Loan cohort (fiscal year): 2004: -$1.75. 

Source: GAO analysis of the Budget of the United States Government, 
fiscal years 1994 to 2006. 

Note: Original subsidy cost estimates are the rates that appeared in 
the appendix to the budget for the associated fiscal year. Reestimated 
subsidy cost estimates are the rates that appeared in table 7 of the 
credit supplement of the fiscal year 2006 budget. Negative amounts 
represent revenue to the government and occur when expected cash 
inflows exceed cash outflows. Positive amounts represent a cost to the 
government. FDLP Stafford subsidized loans will typically have positive 
subsidy costs because the government does not collect interest payments 
from borrowers during students' in-school, grace, or deferment periods. 

[End of table] 

For most Stafford unsubsidized and PLUS loan cohorts, and slightly over 
half of consolidation loan cohorts, reestimated subsidy costs per $100 
disbursed were higher than the original estimate, but still project a 
net gain for the federal government. For example, Stafford unsubsidized 
loans disbursed in fiscal year 1998 were originally estimated to have a 
net gain of $6.93 for every $100 in loans disbursed. Reestimated 
subsidy costs show that the projected net gain for these same loans is 
estimated to be $5.13 per $100 disbursed. Some loan cohorts that 
originally projected a net gain for the federal government have 
reestimated subsidy costs with a net cost to the government. For 
example, PLUS loans disbursed in fiscal year 2000 that were originally 
projected to have a net gain of $13.41 per $100 disbursed were 
subsequently reestimated to have a net cost of $2.21 per $100 
disbursed. 

FDLP Reestimated Subsidy Costs Were Lower Than FFELP Reestimated 
Subsidy Costs: 

For all loans disbursed between fiscal years 1994 and 2004, FDLP 
reestimated subsidy costs were lower than FFELP reestimated subsidy 
costs in aggregate and after controlling for loan volume. Reestimated 
total subsidy costs for FDLP loans were $2.5 billion compared to $36.6 
billion for FFELP loans, as shown in table 3 below. 

Table 3: Comparison of Reestimated and Original Subsidy Cost Estimates 
for All Loans Disbursed between Fiscal Years 1994 and 2004: 

Loan program: FFELP; 
Original total subsidy cost estimate[A] (billions): $35.2; 
Reestimated total subsidy cost[B] (billions): $36.6; 
Difference between cost estimates (billions): $1.4; 
Total loan volume disbursed (billions): $396; 
Reestimated subsidy cost per $100 disbursed[C]: $9.20. 

Loan program: FDLP; 
Original total subsidy cost estimate[A] (billions): -$2.1; 
Reestimated total subsidy cost[B] (billions): $2.5; 
Difference between cost estimates (billions): $4.6; 
Total loan volume disbursed (billions): $150; 
Reestimated subsidy cost per $100 disbursed[C]: $1.70. 

Source: GAO analysis of the Budget of the United States Government, 
fiscal years 1994 to 2006. 

[A] Original subsidy cost estimates are the sum of the subsidy cost 
estimates for each of the fiscal year 1994 to fiscal year 2004 cohorts, 
as presented in the appendix to the budget for the associated fiscal 
year. Negative amounts represent a gain to the government. 

[B] Reestimated subsidy costs are the total subsidy costs listed in the 
credit supplement of the fiscal year 2006 budget. 

[C] The subsidy costs per $100 disbursed are based on the reestimated 
total subsidy costs divided by the total loan volume disbursed. These 
subsidy costs are not directly comparable to those reported in the 
budget; subsidy costs shown are based on loans disbursed whereas under 
FCRA subsidy costs are based on loans originated. 

[End of table] 

After controlling for loan volume and comparing reestimated subsidy 
costs across the four types of loans--Stafford subsidized and 
unsubsidized, PLUS, and consolidation--FDLP reestimated subsidy costs 
per $100 disbursed were in general lower than FFELP reestimated subsidy 
costs per $100 disbursed. (See app. I for comparisons of reestimated 
subsidy costs of FDLP and FFELP loans, by loan type.) The difference 
between the reestimated subsidy cost for FDLP and FFELP varied 
significantly and depended on the type of loan and the year that the 
loan was disbursed. For example, reestimated subsidy costs per $100 
disbursed for FDLP subsidized Stafford loans disbursed in fiscal year 
2003 were $11.66 lower than for FFELP subsidized Stafford loans, while 
the difference for the same loans disbursed in 2000 was $1.35 per $100 
disbursed. 

The primary reason for the difference in subsidy cost estimates between 
FFELP and FDLP were differences in the structure of the programs rather 
than the characteristics of the borrowers. According to Education 
officials, estimates of long-term costs associated with subsidizing 
borrowers' interest; canceling repayment of loans due to death, 
disability, and bankruptcy; and defaulted loans are roughly equivalent 
in both programs. However, under FFELP there are larger cash outflows 
in the form of SAP to lenders than cash inflows of lender fees, while 
in FDLP there are large cash inflow projections, net of interest 
payments to Treasury, in the form of borrower interest payments and no 
SAP or guaranty fees. 

Recent Low Interest Rates, Increased Loan Consolidation, and Additional 
Data Contributed to Differences between Reestimated and Original 
Subsidy Cost Estimates: 

Differences between original and reestimated subsidy cost estimates per 
$100 disbursed can be explained, in part, by lower than expected market 
interest rates, greater than anticipated loan consolidation, and more 
data on student loans incorporated into cash flow model. Differences 
between actual and expected interest rates and rates of consolidations 
affected reestimated subsidy costs for each loan program in a different 
way. For example, lower than expected interest rates over the last 
several years have resulted in lower reestimated subsidy cost estimates 
for FFELP and higher reestimated subsidy costs for FDLP. Larger than 
expected volumes of consolidation loans, which stemmed in part from low 
interest rates, contributed to lower FFELP reestimated subsidy costs 
for the underlying loan cohorts and higher FDLP reestimated subsidy 
cost estimates of the underlying loan cohorts. Furthermore, the 
availability of additional data for both FFELP and FDLP loans have 
enabled Education to refine its cash flow model, which has also 
contributed to differences between reestimated and original subsidy 
costs. 

Interest Rates Lower Than Previously Forecasted Contributed to 
Differences between Reestimated and Original Subsidy Cost Estimates: 

Interest rates fell to lower than expected levels in 2001 and persisted 
at those levels through 2004, which affected subsidy cost estimates in 
both FFELP and FDLP because estimates, especially for the FDLP, are 
highly sensitive to changes between projected and actual interest 
rates. Cost estimates for the loan programs are sensitive to such 
changes because borrower interest rates in both FFELP and FDLP and the 
lender yield in the FFELP, are variable rates. As a result, differences 
between projected and actual interest rates can have a significant 
impact on estimates of cash flows in both loan programs. OMB's interest 
rate projections made prior to 2001, as well as those by other 
government agencies and the private sector, were considerably higher 
than actual interest rates for 2001 and beyond. For example, as shown 
in table 4, actual interest rates from 2001 to 2003 were substantially 
lower than OMB's forecasts of interest rates used in the budget for 
fiscal year 1999 and fluctuated slightly from year to year. To the 
degree that such fluctuations were unanticipated, they contributed to 
volatility in subsidy cost reestimates from year to year. 

Table 4: OMB Interest Rate Projections for the 91-day Treasury Bill as 
Shown in the 1999 President's Budget Compared to CBO's Projections and 
Actual Interest Rates: 

Year: 1999; 
OMB's 1999 interest rate projection: 4.9; 
CBO's January 1999 interest rate projections: 5.2; 
Actual interest rate: 4.64. 

Year: 2000; 
OMB's 1999 interest rate projection: 4.8; 
CBO's January 1999 interest rate projections: 4.8; 
Actual interest rate: 5.82. 

Year: 2001; 
OMB's 1999 interest rate projection: 4.7; 
CBO's January 1999 interest rate projections: 4.7; 
Actual interest rate: 3.4. 

Year: 2002; 
OMB's 1999 interest rate projection: 4.7; 
CBO's January 1999 interest rate projections: 4.7; 
Actual interest rate: 1.61. 

Year: 2003; 
OMB's 1999 interest rate projection: 4.7; 
CBO's January 1999 interest rate projections: 4.7; 
Actual interest rate: 1.01. 

Source: Budget of the United States Government, fiscal year 1999 and 
Federal Reserve data. 

[End of table] 

For FFELP, lower than expected interest rates have resulted in lower 
than expected SAP to lenders, which, in turn, resulted in lower 
reestimated subsidy cost estimates. As interest rates decreased, the 
difference, or spread, between the 3-month commercial paper (CP) and 
the 91-day Treasury bill narrowed.[Footnote 6] For example, as can be 
seen in figure 5, the average rates on the 91-day T-bill and the 3- 
month CP were 5.82 and 6.33, respectively, in 2000, a difference of 
0.51. However, in 2004 the difference between the two rates was 0.15. 
The spread between commercial paper and Treasury bill rates serves as 
the primary basis for SAP payments to the lenders, and, as the spread 
narrowed, Education paid lower SAP, thus lowering reestimated subsidy 
costs. 

Figure 5: Comparison of Rates for 3-month Commercial Paper and 91-day 
Treasury Bill, 1997 to 2004: 

[See PDF for image] 

Note: Rates for 3-month Commercial Paper and 91-day Treasury bill are 
annual averages quoted on a discount basis and are not comparable to 
bond yields. 

[End of figure] 

The climate of declining interest rates not only narrowed the spread 
between the T-bill rate and the CP rate and reduced SAP payments, it 
also eliminated SAP payments for some loans because interest rates paid 
by borrowers were higher than the guaranteed lender yield. Whether SAP 
is paid on a loan can change during a year because borrower interest 
rates are adjusted annually based on the final auction of T-bills 
before June 1 of each year while lender yields are adjusted each 
quarter. Thus in a climate of declining interest rates, SAP on certain 
loans was eliminated because the 3-month CP rate--on which the lender 
yield is based--fell, for a particular quarter, below the annually 
adjusted borrower rate. SAP was zero in 50 percent of the quarters for 
Stafford loans issued after January 1, 2000 through July 1, 2005. This 
is illustrated in figure 6, where one can also see that the more recent 
climate of rising interest rates could lead to increased SAP. 

Figure 6: Comparison of Borrower Interest Rate to Lender Yield for 
Loans Disbursed on or after January 1, 2000: 

[See PDF for image] 

Note: Lender yield is for loans made on or after January 1, 2000, and 
the borrower interest rate is for loans made on or after July 1, 1998, 
while borrower is in repayment. 

[End of figure] 

In contrast, lower than expected interest rates contributed to higher 
reestimated FDLP subsidy costs. Under FDLP, the government had 
originally anticipated larger interest payments from borrowers as they 
repaid their loans because original subsidy cost estimates were based 
on forecasts that did not anticipate the significant decline in 
interest rates. Lower than expected interest rates thus resulted in 
lower than expected cash inflows to the government and higher FDLP 
subsidy cost reestimates. For example, using the numbers in table 4, 
one can see that original subsidy cost estimates made for the 1999 loan 
cohort assumed that interest rates on the 91-day Treasury bill would be 
4 times higher than they actually were when some students would be 
entering repayment on loans they obtained in 1999. Moreover, original 
estimates were based on the assumption that the interest rate paid by 
borrowers on those loans would be higher than the interest rate 
Education pays to Treasury for borrowing the funds to make the loans. 
As can be seen in figure 7, the borrower interest rate fell below the 
discount rate (rate paid to Treasury) in 2001. Again, such a climate of 
lower than anticipated interest rates led to higher reestimates of 
subsidy costs. As interest rates rise, the interest paid by borrowers 
will increase-possibly to rates higher than the discount rate. 

Figure 7: Actual and Projected Borrower Interest Rate for a Stafford 
Loan in Repayment Compared to the Discount Rate for the Fiscal Year 
1999 Loan Cohort: 

[See PDF for image] 

Note: Borrower interest rate is for a Stafford loan disbursed in fiscal 
year 1999 in repayment status. The projected borrower rate was 
calculated using the Department of Education's 1999 projections of the 
91-day Treasury bill and adding 2.30 percentage points. 

[End of figure] 

Lower than expected interest rates also affected the actual rate used 
to discount cash flows for FFELP and FDLP subsidy cost estimates. When 
subsidy cost estimates are first prepared for the budget, agencies use 
an estimated discount rate. Education sets the actual discount rate 
when a loan cohort is fully disbursed. Because subsidy cost estimates 
are prepared prior to when a loan is disbursed, it is expected that 
differences between the estimated and actual discount rate will 
contribute to differences between reestimated and original subsidy cost 
estimates. For example, the actual discount rate for loans disbursed in 
fiscal year 2002 was lower than originally estimated, which lowered 
reestimated subsidy costs slightly in both FFELP and FDLP. 

Higher Than Expected Consolidation Volume Was Another Factor 
Contributing to Differences between Reestimated and Original Subsidy 
Cost Estimates: 

Higher than expected consolidation volume, which stemmed in part from 
low interest rates, also affected reestimated subsidy costs. As we have 
previously reported, the number of borrowers consolidating their loans 
has increased substantially over the last several years.[Footnote 7] 
Consolidation activity has been higher than expected in both loan 
programs since fiscal year 1999. When borrowers consolidated their 
student loans and locked in recent low interest rates, they effectively 
paid off the underlying loans--Stafford subsidized and unsubsidized and 
PLUS--ahead of schedule and started a new consolidation loan. With the 
new consolidation loans, borrowers began new repayment periods that 
could be up to 30 years from when the consolidation loans were made. 
Because Education calculates subsidy costs for consolidation loans 
separately, it must adjust original estimates of the underlying loans 
to reflect unanticipated prepayments. Education considers the 
consolidation a new loan in the year that the loan was disbursed. 
Figures 8 and 9 provide a simplified example of consolidation from both 
the borrower's and Education's perspective. 

Figure 8: Consolidation Example: Borrower's Perspective: 

A borrower had three student loans from two lenders in repayment and 
consolidated them before July 1, 2005. The borrower had three 
motivations for consolidation: 
1. Interest rates on Stafford loans are variable and, at the time, were 
historically very low. On July 1, 2005, interest rates were expected to 
increase by about 2 percentage points for Stafford loans. (This 
expectation prompted a surge in consolidation activity among student 
loan borrowers in the weeks leading up to the interest rate change.); 
2. Consolidation would lock in a relatively low fixed interest rate, 
extend the borrower's repayment period, and result in a lower monthly 
payment amount; 
3. Consolidation would result in one monthly payment instead of two 
monthly payments to the two lenders; 

Loan type and cohort: Unsubsidized Stafford - 2000; 
Interest rate (prior to July 1, 2005): 3.37; 
Interest rate (post July 1, 2005): 5.30; 
Outstanding balance: $2,840. 

Loan type and cohort: Subsidized Stafford - 2000; 
Interest rate (prior to July 1, 2005): 3.37; 
Interest rate (post July 1, 2005): 5.30; 
Outstanding balance: $1,460. 

Loan type and cohort: Unsubsidized Stafford - 1997; 
Interest rate (prior to July 1, 2005): 4.17; 
Interest rate (post July 1, 2005): 6.10; 
Outstanding balance: $5,700. 

[End of table] 

Upon consolidation, (1) the borrower locked in an interest rate equal 
to the weighted average of the interest rates on the three loans, 
rounded to the nearest higher 1/8[TH] of 1 percent, (2) the three loans 
were considered paid in full, and (3) the borrower had one 
consolidation loan in the amount of $10,000 with a fixed interest rate 
of 3.875 percent made in the fiscal year 2005 loan cohort; See figure 9 
for how this consolidation would be treated by Education. 

[End of figure] 

Figure 9: Consolidation Example: Education's Perspective: 

Case 1: Continuing the previous example, assume that the loans were 
made through FFELP and have been in repayment since January 2002. 
Assume also that Education expected the repayment to lenders on these 
underlying loans to continue into January 2012, at which time the loans 
would be fully repaid. In estimating the subsidy costs of the loans, 
Education made assumptions about the likelihood that the borrower would 
default (based on the type of school attended as well as the borrower's 
payment history since 2002) and the amount of SAP that would be paid to 
lenders through 2012; 

However, now that the underlying loans are paid in full, reestimated 
subsidy costs for the 2000 and 1997 origination cohorts reflect the 
unexpected changes, and would be lower for these three specific loans 
than original estimates; 

The new consolidation loan is part of the 2005 loan cohort. Education 
makes assumptions about expected repayment and likelihood of paying 
SAP. The borrower rate is fixed and relatively low compared to 
projected market interest rates in the future. Because the yield that 
the government guarantees the lender is variable and market interest 
rates are expected to rise in the future, Education's estimated subsidy 
costs for the new consolidation loan includes expectations that SAP 
payments to the lender will be necessary and will increase in the 
future. The net effect may be higher subsidy costs for the 
consolidation loan than those estimated for the three underlying loans; 

Case 2: Assume instead that the three Stafford loans were made through 
FDLP (i.e., the two lender assumption from figure 8 does not apply and 
the borrower was not motivated to consolidate to reduce the number of 
monthly payments). Again assume that the loans have been in repayment 
since January 2002 and that Education expected repayment on the 
underlying loans to continue into January 2012; 

The borrower's FDLP consolidation resulted in a shorter repayment 
period to Education for the three Stafford underlying loans and less 
interest payments than had been expected for the three loans. Thus, 
reestimated subsidy costs would be higher (i.e., the inflow of interest 
payments from the borrowers would be less) than original estimates for 
these three underlying loans. If the interest rate paid by the borrower 
was less than the rate paid by Education to borrow the funds to make 
the loans, then prepaying a loan would not necessarily result in higher 
reestimated subsidy costs; 

The new consolidation loan is part of the 2005 loan cohort. The 
borrower rate is fixed and relatively low compared to projected market 
interest rates in the future. The net effect may be higher subsidy 
costs for the consolidation loan than those estimated for the three 
underlying loans. 

[End of figure] 

Consolidation activity has been particularly high for FFELP loans, 
increasing from about $7 billion in fiscal year 2000 to $37 billion in 
fiscal year 2004. Education had not anticipated such an increase in 
consolidation loans, which contributed to lower reestimated subsidy 
costs for the underlying loan cohorts. Under FFELP, consolidation loans 
shortened the length of time Education anticipated paying SAP to 
lenders and eliminated default risk on the underlying loans, thus 
lowering reestimated subsidy costs. Estimated subsidy costs for recent 
consolidation cohorts, which reflect costs associated with default risk 
and SAP to lenders, are quite large in comparison to previous 
consolidation loan cohorts. For example, reestimated subsidy costs per 
$100 disbursed for consolidation loans made in 2003 were $11.21 and in 
2004 were $15.98 compared to $3.11 for consolidation loans made in 
2002. The increase is due in part because borrowers locked in lower 
fixed interest rates on their consolidation loans and the minimum yield 
guaranteed to lenders is projected to be much higher than the fixed 
interest rate paid by borrowers, thus requiring the government to pay 
higher SAP than they would have on the 2002 loans. 

Consolidation activity in FDLP also increased--from $5 billion in 
fiscal year 2000 to $8 billion in fiscal year 2004. As borrowers 
consolidated their loans, they repaid the underlying loans that 
shortened the length of time Education had expected to receive interest 
payments on these loans. According to Education, it had calculated that 
the interest payments from borrowers would contribute positively to 
Education's cash flows because expected interest rates that borrowers 
paid to Education were higher than the rate Education paid to borrow 
the funds. However, greater than expected prepayment due to 
consolidation decreased the anticipated interest payments on the 
underlying loans, which in turn contributed to higher reestimated 
subsidy cost estimates of the underlying loan cohorts.[Footnote 8] 
Moreover, as we reported in August 2004, large amounts of FDLP loans-- 
about $7.5 billion between 1998 and 2002--were consolidated into 
FFELP.[Footnote 9] As a result, Education will not receive any of the 
future projected interest payments on those loans that are now FFELP 
loans, which also contributed to higher reestimated FDLP subsidy costs. 
Additionally, for the FDLP loans consolidated into FFELP, the 
government may need to pay SAP that it otherwise would not have had to 
pay. 

Availability of Additional Data for Both FFELP and FDLP Loans Have 
Enabled Education to Refine Its Cash Flow Model: 

More data for both FFELP and FDLP loans has allowed Education to make 
refinements to its cash flow model, a result of changes made by 
Education to address recommendations in our prior reports and by 
Education's auditors.[Footnote 10] The addition of data about borrower 
behavior to the cash flow model has also contributed to the differences 
between reestimated and original subsidy costs. For example, Education 
officials reported that in recent years, data on FFELP and FDLP 
borrowers' use of deferment options, which allow them to delay making 
payments on a loan when they return to school or are experiencing 
economic hardship, has become available. With this data Education is 
able to explicitly include in its model the number of students using 
deferment options and project the effect on cash flows in both FFELP 
and FDLP, rather than implicitly including deferments in its model 
through adjustments in the length of time a loan was expected to be in 
repayment. According to Education officials, more FFELP borrowers than 
they had predicted have used deferment options and, when this data was 
incorporated into FFELP's cash flow model, it contributed to an 
increase in reestimated FFELP subsidy costs of $5 billion in fiscal 
year 2003. Education reported that deferment data will be added to the 
FDLP cash flow model and will be reflected in reestimated subsidy costs 
in the fiscal year 2007 Budget of the United States Government. 

Education also noted that more data has become available in FDLP 
because the program has been in existence for 10 years and in FFELP 
because of improvements made by guaranty agencies. Previously, 
Education had based its FDLP cash flow assumptions on FFELP data, but 
Education now has data on when borrowers default or enter repayment 
based on FDLP borrowers. According to Education, actual defaults in 
FDLP have not been much different from the assumptions made using FFELP 
data because defaults are best predicted by the borrower and the type 
of school attended rather than from which loan program the student 
borrowed. According to Education officials, guaranty agencies--that are 
responsible for reporting on the status of a loan, i.e., in repayment, 
deferred, defaulted, or in-school--have made changes in their data 
systems and the quality checks on the data. As a result, Education has 
been better able to estimate default rates, subsequent collections, and 
their effect on cash flows in FFELP. In particular, Education noted 
that there have been improvements in the data Education uses in 
estimating of collections of defaulted loans in both FFELP and FDLP, 
which showed higher than originally estimated collections and 
contributed to lower reestimated subsidy costs. 

Certain Federal Costs and Revenues Associated with the Student Loan 
Programs Are Not Included in Subsidy Cost Estimates: 

Additional federal costs and revenues associated with the student loan 
programs, such as federal administrative expenses, some costs of risk 
associated with lending money over time, and federal tax revenues 
generated by both student loan programs are not included in subsidy 
cost estimates. These are important factors to consider when 
determining costs of the student loan programs; however, they are 
difficult to measure. Under current law, federal administrative 
expenses are excluded from subsidy cost estimates. In addition, subsidy 
cost estimates do not explicitly include all risk that the government 
incurs by lending money over time. Moreover, both loan programs 
generate federal tax revenues that are not included in subsidy cost 
calculations. 

Federal Administrative Expenses, by Law, Are Not Included in Subsidy 
Cost Estimates: 

Under FCRA, federal administrative expenses are excluded from subsidy 
cost estimates. Federal administrative expenses for the student loan 
programs have been accounted for in Education's budget on a cash basis-
-showing how much money is allocated for administering all federal 
student aid programs in one fiscal year. The federal government is 
primarily responsible for administering the FDLP and, for the most 
part, Education has contracted with private-sector companies to perform 
administrative tasks, such as originating and servicing loans. In the 
FFELP, lenders and guaranty agencies perform administrative functions. 
In addition to the SAP paid to lenders to guarantee a minimum yield, 
which includes coverage of the administrative expenses incurred, 
Education pays guaranty agencies account maintenance fees for their 
administrative costs. In fiscal year 2006, Education requested $939 
million for administrative expenses for all federal student loan and 
grant aid programs. Of this amount, $238 million was for FFELP 
administrative expenses and $388 million was for FDLP administrative 
expenses. 

When FCRA was first passed there were concerns about whether agencies 
could change existing accounting systems to estimate long term 
administrative expenses for a loan program. Over the last few years, 
Education's Office of Federal Student Aid has been developing a system 
that allocates its administrative expenses to each student aid program 
in a particular fiscal year so that management would have information 
that could be used for decision making purposes. While developing the 
system, Education officials reported that some administrative expenses 
are clearly linked to either FFELP or FDLP--such as payments to 
originate or service FDLP loans, and servicing defaulted FFELP loans. 
However, other administrative expenses are incurred by both loan 
programs, such as information systems used to process financial aid 
applications, thus requiring Education to develop a systematic way to 
allocate such expenses to FFELP or FDLP. 

In the fiscal year 2006 budget, Education included, as supplementary 
information, modified cost estimates that included estimated 
administrative expenses. As shown in table 5, if administrative 
expenses are included, subsidy cost estimates for loans disbursed in 
fiscal year 2006 would increase by $1.45 per $100 disbursed in FDLP and 
by $0.69 per $100 disbursed in FFELP. 

Table 5: Comparison of Cost Estimates per $100 Disbursed in Fiscal Year 
2006 with and without Administrative Expenses: 

FFELP; Subsidy cost per $100 disbursed: $11.96; 
Modified cost per $100 disbursed including administrative expenses: 
$12.65. 

FDLP; Subsidy cost per $100 disbursed: 
-$0.53; 
Modified cost per $100 disbursed including administrative expenses: 
$0.92. 

Source: Fiscal year 2006 Budget of the United States Government 
appendix, p. 371. 

[End of table] 

To produce cost estimates that included administrative expenses, 
Education not only needed to know how much of an expense was allocated 
to FDLP or FFELP, but also had to project how such costs might change 
in the future and whether an expense was paid now or later. For 
example, servicing costs for an FDLP loan while the borrower is in- 
school are paid in the first years that a loan is disbursed and are 
lower than the same costs when a borrower is in repayment that are 
typically paid several years later. According to Education, determining 
the timing of the expense was important because expenses in later years 
were discounted and, therefore, cost less in present value terms than 
those made in the first year. Moreover, Education officials 
acknowledged that there are limitations with these estimates because 
they assumed that administration of student aid programs would remain 
the same in the future. They reported that there is the possibility 
that administration processes and functions will change based on 
legislative or technological changes, but it was not possible to 
develop assumptions that could be used in estimating the effects of any 
such changes. 

Current Subsidy Estimates Do Not Incorporate All Risk Associated with 
Lending Money Over Time: 

While current subsidy cost estimates account for some risks-- 
uncertainties regarding future cash flows--they do not include all 
risks incurred when lending money over time. Among the risks borne by 
any lender are credit risk--the possibility that the loan will not be 
fully repaid--and interest rate risk--unanticipated fluctuations in the 
interest rate due to changes in the economy that cause changes in the 
present value of the loans' cash flows.[Footnote 11] Some studies have 
commented that by not incorporating all risks in subsidy cost 
estimates, the government does not present an accurate picture of the 
costs of its credit programs, including both FFELP and FDLP.[Footnote 
12] Risk can be reflected in subsidy cost estimates in different ways. 
For example, one way is to incorporate it in estimates of cash flows, 
and another way is to adjust the discount rate to reflect the risk. 

Currently, Education incorporates some risks into its FFELP and FDLP 
subsidy cost estimate model by explicitly adjusting cash flow 
estimates. For example, credit risk is explicitly incorporated into 
Education's subsidy cost model. Cash flow estimates are adjusted to 
reflect the likelihood that borrowers will default on their loans based 
primarily on the type of school a borrower attends (e.g., 2-year 
college, graduate school, etc.) Interest rate risk, however, is not 
explicitly incorporated into Education's model. Interest rate 
fluctuations can affect estimates of SAP and borrower interest payments 
as well as borrower behavior with respect to loan prepayment and 
consolidation. Although Education uses estimated prepayment rates in 
adjusting estimated FFELP and FDLP cash flows, these estimates are 
based on historical averages rather than an econometric forecast of how 
interest rates might fluctuate in the future and, thereby, influence 
borrowers' decisions to prepay or consolidate their loans. Relying on 
historical averages--especially if such averages do not reflect a 
variety of interest rate environments and stable loan terms and 
borrower characteristics--may not reflect the tendency for prepayments 
to increase or decrease at times when it is advantageous for borrowers. 

CBO and others have suggested that, rather than adjusting cash flows, 
the discount rate could be changed to incorporate certain types of 
risk, such as interest rate risk, in estimating subsidy costs of 
federal credit programs. Currently, subsidy cost estimates calculate 
the net present value of the loans using the "risk-free" discount rate 
determined by OMB in accordance with FCRA, which reflects the 
government's cost of borrowing funds. The rate is known as risk-free 
because an investor buying a U.S. Treasury instrument knows with 
certainty what cash flows will be received and when they will be 
received and there is assumed to be no probability of default on the 
investment. This risk-free discount rate tends to be relatively low 
compared to interest rates used to discount cash flows in private 
industry, where interest rates reflect the market's valuation of 
transactions and incorporate considerations of various types of risk. 
In a 2004 report, CBO proposed, among other methods, using a risk- 
adjusted discount rate, rather than the risk-free rate, to estimate 
subsidy costs of federal credit programs.[Footnote 13] In the case of 
federal student loans, one way to calculate a risk-adjusted discount 
rate would be to evaluate the secondary market for student loans, where 
student loans are often sold to banks or other investors. However, 
there are limitations to this approach given numerous differences in 
private-sector versus public sector assessments of risk. 
Notwithstanding this, the market price of the student loans would 
reflect the market's valuation of the loans, because the expected cash 
flows would have been discounted using a higher discount rate that 
incorporates risks--such as interest rate risk--that are not included 
in Education's subsidy cost model. The present value (price) of loans 
being sold on the secondary market would tend to be lower than the 
government's valuation of similar loans, i.e., loans with similar 
default risk, loan amount, time to repayment, and other factors. This 
difference in loan valuation could be helpful in determining a risk- 
adjusted discount rate to use in calculating the cost to the 
government, although determining an appropriate rate would be 
challenging. 

Incorporating interest rate risk would affect subsidy cost estimates 
for both credit programs, FFELP and FDLP. Modeling interest rate risk 
more systematically through the cash flow estimates would affect 
prepayment and interest payment projections under FDLP, as well as SAP 
projections and prepayment activities under FFELP. The extent to which 
subsidy cost estimates would change for FFELP and FDLP would depend on 
the interest rate scenarios forecasted and the subsequent effect on 
cash flows in each program. However, using a risk-adjusted discount 
rate would have a greater impact on the subsidy cost estimates of FDLP 
relative to FFELP.[Footnote 14] This difference would result, in part, 
because of differences in the amount and timing of cash flows: FDLP has 
large cash outlays early in a loan's life and large cash inflows later, 
when loans are in repayment. Thus these late cash inflows would be 
discounted at a higher rate and would have a smaller present value than 
under the current discounting methodology. FFELP, on the other hand, 
generates some cash inflows to the government early while cash outflows 
occur later as loans default or when SAP payments, if any, are made. 

Private-Sector Activity in Both Student Loan Programs Generates Tax 
Revenues for the Federal Government That Are Not Included in Subsidy 
Cost Estimates: 

Both FFELP and FDLP generate federal tax revenues that are reflected in 
the revenue portion of the budget but are not included in subsidy cost 
calculations. Federal tax revenues are generated by a variety of 
sources, including private-sector lenders that account for a majority 
of the lenders that make or hold FFELP loans. Many of these lenders 
participate actively in the multi-billion dollar financial services 
industry of taxable and tax-exempt bonds, asset-backed securities, and 
other debt instruments and pay federal taxes on the income earned from 
these sources as well as from their student loan business. In addition, 
other private-sector companies that work with FFELP lenders and 
investors buying student loan bonds and securities also generate 
federal tax revenues from the income earned from their participation in 
FFELP. Moreover, to service and collect defaulted FFELP loans, 
Education contracts with private-sector companies that are another 
source of federal tax revenue. 

Although FDLP is financed and primarily administered by the federal 
government, Education contracts with private-sector companies for many 
key administrative tasks, such as servicing loans while borrowers are 
in school, repayment, or default. In fiscal year 2004 Education 
reported that it paid $321 million to private-sector contractors to 
service student loans and perform other administrative tasks in the 
FDLP. These private-sector contractors earn income from their 
participation in FDLP on which they may pay federal taxes. Another 
source of tax revenue is income tax paid by U.S. investors that hold 
Treasury securities used to finance FDLP loans. 

Estimating the dollar amount of federal tax revenues generated by 
private sector entities and investors in FFELP and FDLP would be 
challenging. For example, many lenders are large publicly traded 
financial services companies with student loans being one portion of 
their business, making it difficult to identify the tax revenue 
generated from their student loan business. Moreover, to make an 
estimate of tax revenues would require knowledge of each lender's 
profits from its student loan business and applicable tax rates. 

Concluding Observations: 

Significant reestimates of subsidy costs over the past 10 years 
illustrate the challenges of estimating the lifetime costs of loans. As 
we have shown, subsidy cost estimates and reestimates are sensitive to 
the assumptions used in estimating these costs. The historically low 
interest rates that persisted over the last several years were below 
levels previously forecasted. Because cost estimates for FFELP and 
especially for FDLP loans are sensitive to changes between projected 
and actual interest rates, subsidy cost reestimates varied from 
original estimates. To the extent that current assumptions correctly 
predict future loan performance and interest rates, subsidy costs per 
$100 of FFELP loans made from fiscal years 1994 to 2004 will be, in 
many cases, less costly than originally anticipated. On the other hand, 
over the same time period, subsidy costs per $100 of FDLP loans will in 
many cases be higher than originally anticipated. 

FDLP subsidy costs per $100 of loans disbursed have, in general, 
remained lower than those of FFELP. Nonetheless, if current assumptions 
correctly predict future loan performance and economic conditions, the 
originally estimated gain to the government from FDLP loans made in 
fiscal years 1994 to 2004 will not materialize, and instead these loans 
will result in a net cost to the government. In reality, however, 
subsidy cost estimates of FFELP and FDLP loans made in fiscal years 
1994 to 2004 will continue to change as future reestimates incorporate 
actual experience and new interest rate forecasts. Similarly, initial 
subsidy cost estimates for loans made in the future will also change 
over the life of these loans and at times be lower or higher than 
initially estimated, depending on the extent to which loan performance 
and interest rates differ from assumptions used to develop initial 
estimates. Actual subsidy costs for a cohort of student loans will 
remain unknown until all payments that will be made on such loans have 
been collected. 

Despite the fact that subsidy cost estimates will change from year to 
year, estimates developed in accordance with FCRA more fully and 
accurately present the expected long-term costs of federal student 
loans than did the prior method of calculating costs based on single- 
year cash flows to and from the government. As a result of FCRA, the 
budget is a more useful tool for allocating resources among the myriad 
of competing demands for federal dollars than it once was. Subsidy cost 
estimates, for example, provide policymakers the means to more 
accurately evaluate the long-term budgetary implications of potential 
legislative, regulatory, and administrative reforms. At the same time, 
it is important for policymakers to understand how credit reform 
subsidy cost estimates are developed and to recognize that such 
estimates will change in the future. Decisions made in the short-term 
on the basis of these estimates can have long-term repercussions for 
the fiscal condition of the nation. 

While subsidy cost estimates include many of the federal costs 
associated with FFELP and FDLP loans, they do not capture all federal 
costs and revenues associated with the loan programs. Consideration of 
all federal costs and revenues of the loan programs would be an 
important component of a broader assessment of the costs and benefits 
of the two programs. Because federal administrative expenses--in 
accordance with FCRA--are excluded from subsidy cost estimates, for 
example, these estimates can underestimate the total lifetime costs of 
FFELP and FDLP loans. Other costs and revenues are also not considered 
in subsidy costs estimates, including interest rate risk inherent to 
lending programs, and federal tax revenues generated by private-sector 
activity in both FFELP and FDLP. Calculations of total federal costs 
would be enhanced were these additional costs and revenues considered, 
though doing so may require complex methodologies and/or data that are 
not currently readily available. 

Agency Comments: 

We provided Education with a copy of our draft report for review and 
comment. Education reviewed the report and had no comments. Education 
noted that because the report did not include recommendations for the 
Department, it was not providing a formal response to be included in 
the report. 

As agreed with your offices, unless you publicly announce its contents 
earlier, we plan no further distribution of this report until 30 days 
from its date. At that time we will send copies of this report to the 
Secretary of Education, appropriate congressional committees, and other 
interested parties. We will also make copies available to others upon 
request. In addition, the report will be available at no charge on 
GAO's Web site at http://www.gao.gov. 

If you or your staff have any questions about this report, please 
contact me at (202) 512-7215 or ashbyc@gao.gov. Contact points for our 
Offices of Congressional Relations and Public Affairs may be found on 
the last page of this report. Key contributors to the report are listed 
in appendix II. 

Signed by: 

Cornelia M. Ashby: 
Director, Education, Workforce, and Income Security Issues: 

List of Congressional Committees: 

The Honorable Michael B. Enzi: 
Chairman: 
Committee on Health, Education, Labor, and Pensions: 
United States Senate: 

The Honorable Judd Gregg: 
Chairman: 
Committee on the Budget: 
United States Senate: 

The Honorable John A. Boehner: 
Chairman: 
Committee on Education and the Workforce: 
House of Representatives: 

The Honorable Tom Davis: 
Chairman: 
Committee on Government Reform: 
House of Representatives: 

The Honorable Pete Hoekstra: 
Chairman: 
Permanent Select Committee on Intelligence: 
House of Representatives: 

The Honorable Howard P. "Buck" McKeon: 
Chairman: 
Subcommittee on 21st Century Competitiveness: 
Committee on Education and the Workforce: 
House of Representatives: 

The Honorable Jim Nussle: 
Chairman: 
Committee on the Budget: 
House of Representatives: 

[End of section] 

Appendix I: Comparison of Fiscal Year 2006 FDLP and FFELP Reestimated 
Subsidy Costs per $100 Disbursed, by Loan Type and Cohort: 

Figure 10: Comparison of Reestimated Subsidy Costs for Subsidized 
Stafford Loans in FFELP and FDLP, by Loan Cohort: 

[See PDF for image] 

[End of figure] 

Figure 11: Comparison of Reestimated Subsidy Costs for Unsubsidized 
Stafford Loans in FFELP and FDLP, by Loan Cohort: 

[See PDF for image] 

[End of figure] 

Figure 12: Comparison of Reestimated Subsidy Costs for PLUS Loans in 
FFELP and FDLP, by Loan Cohort: 

[See PDF for image] 

[End of figure] 

Figure 13: Comparison of Reestimated Subsidy Costs for Consolidation 
Loans in FFELP and FDLP, by Loan Cohort: 

[See PDF for image] 

[End of figure] 

[End of section] 

Appendix II: GAO Contacts and Staff Acknowledgments: 

GAO Contact: 

Cornelia M. Ashby (202) 512-7215: 

Staff Acknowledgments: 

The following individuals made important contributions to the report: 
Jeff Appel, Assistant Director; Andrea Sykes, Analyst-in-Charge, 
Nagla'a El-Hodiri, Jeffrey W. Weinstein, Christine Bonham, Marcia 
Carlsen, Austin Kelly, Mitch Rachlis and Lauren Kennedy. 

FOOTNOTES 

[1] The formula for calculating borrower interest rates on Stafford 
loans currently being disbursed is based on the 91-day Treasury bill (T-
bill) rate plus 1.7 percent while the borrower is in school, and plus 
2.3 percent when the borrower is in repayment. Stafford rates are 
capped at 8.25 percent. The formula in effect for calculating interest 
rates on PLUS loans currently being disbursed is based on the 91-day T- 
bill rate plus 3.1 percent, and the PLUS rates are capped at 9 percent. 
Borrower rates are reset on July 1 each year, based on the T-bill rate 
from the last Treasury auction conducted before June 1. 

[2] "Present value" is the worth of future streams of returns or costs 
for a program in terms of money paid immediately. In calculating 
present value, future amounts are converted into their "money now" 
equivalents using a discount rate. For purposes of making subsidy cost 
estimates, the discount rate is determined by the Office of Management 
and Budget (OMB) and is generally the average annual interest rate for 
marketable zero-coupon U.S. Treasury securities with the same maturity 
from the date of disbursement as the cash flow being discounted. 

[3] Original cost estimates for a given loan cohort are based on the 
estimate that appeared in the Budget of the United States Government 
for the fiscal year a loan was made or guaranteed. The most recent 
reestimates are based on the fiscal year 2006 budget. 

[4] A less than half-time student takes one to five credits in a 
postsecondary school. An unsubsidized Stafford borrower pays interest 
while in the grace period but the government continues to pay the 
interest for subsidized Stafford borrowers during this time. 

[5] For loans disbursed on or after October 1, 1998. 

[6] The lender yield is calculated quarterly and for loans originated 
on or after January 1, 2000, is the 3-month commercial paper rate plus 
a supplement (for Stafford loans the supplement is 1.74 while the 
borrower is in school or in a grace or deferment period and 2.34 
otherwise). The borrower interest rate is set annually, and for loans 
originated on or after July 1, 1998, is the 91-day T-bill plus a 
supplement (for Stafford loans the supplement is 1.70 while in school/ 
grace/deferment and 2.30 otherwise). 

[7] GAO, Student Loan Programs: As Federal Costs of Loan Consolidation 
Rise, Other Options Should Be Examined, GAO-04-101 (Washington, D.C.: 
Oct. 31, 2003); and GAO, Student Loan Programs: Lower Interest Rates 
and Higher Loan Volume Have Increased Federal Consolidation Loans, GAO-
04-568T (Washington, D.C.: Mar. 29, 2004). 

[8] If the interest rate paid by the borrower was less than the rate 
paid by Education to borrow the funds to make the loans, then prepaying 
a loan would not necessarily result in higher reestimated subsidy 
costs. 

[9] GAO, Student Consolidation Loans: Further Analysis Could Lead to 
Enhanced Default Assumptions for Budgetary Cost Estimates, GAO-04-843 
(Washington, D.C.: Aug. 20, 2004). 

[10] GAO, Department of Education's Federal Direct Loan Programs: 
Status of Recommendations to Improve Cost Estimates and Presentation of 
Update Cash Flow Information, GAO-04-567R (Washington, D.C.:. Mar. 29, 
2004); and GAO, Department of Education: Key Aspects of the Federal 
Direct Loan Program's Cost Estimates, GAO-01-197 (Washington, D.C.: 
Jan. 12, 2001). 

[11] For example, the risk of a borrower prepaying a loan is a form of 
interest rate risk. As discussed previously, when interest rates 
declined below previously forecasted levels, increasing numbers of 
borrowers prepaid their variable rate student loans by obtaining a 
consolidation loan and obtained a low fixed rate of interest for the 
life of the consolidation loan in doing so. 

[12] For example, Congressional Budget Office, Estimating the Value of 
Subsidies for Federal Loans and Loan Guarantees (Washington, D.C.: 
August 2004); Lucas, Phaup, and Prasad, Valuing Federal Loans and Loan 
Guarantees: The Effect of Risk (October 2003); Zimmerman and Miles, 
"Substituting Direct Government Lending for Guaranteed Student Loans: 
How Budget Rules Distorted Economic Decisionmaking," National Tax 
Journal, December 1994. 

[13] Congressional Budget Office, p. 7. 

[14] For purposes of making subsidy cost estimates for the budget, 
future cash flows are converted, using a discount rate into their 
"money now" equivalents to reflect the time value of money. 

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