updated 6/19/2007 7:02:33 PM ET 2007-06-19T23:02:33

Some student loan providers have been setting rates based on the schools borrowers attend, a practice New York Attorney General Andrew Cuomo likens to “redlining” in the home mortgage market.

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Cuomo said his office’s investigation of the $85 billion industry found that a “significant number” of lenders rank colleges and universities on the loan default rates of their students and set interest rates on private loans higher for schools with poor records, according to a letter he sent Monday to the chairmen of two congressional committees.

“In other words, just as lenders in the mortgage industry once made judgments about credit lending in entire neighborhoods as a whole, so too are lenders making generalized judgments about student and parent credit risk based on a student’s ’school neighborhood,”’ Cuomo told Sen. Christopher Dodd, D-Conn., and Rep. George Miller, D-Calif.

One “large lender” offers students at schools that have default rates up to 3 percent the best interest rates — from 8 percent to 9.25 percent — while institutions with default rates between 5 percent and 10 percent are hit with interest rates from 11 percent to 14 percent, Cuomo said.

So students with “excellent” personal credit histories are quoted an 8 percent rate if they’re going to Duke University and 11 percent if they attend the University of Phoenix, in one of Cuomo’s examples. If their credit is less than “stellar,” Duke students get a rate no worse than 9.25 percent, while Phoenix students would see rates as high as 14 percent. Cuomo said the “disparities remain even if parents co-sign the loan.”

While annual tuition and expenses at Duke tops $46,000, Phoenix — which heavily promotes its online courses — generally costs “much less than” $20,000.

Cuomo did not identify the lender in his example, but a spokesman for his office said later it is Nelnet, based in Lincoln, Neb.

Nelnet spokesman Ben Kiser said the company offers private loan programs to institutions based on many factors, including the default rate.

“We believe it’s an appropriate market-based approach to provide students with a competitive interest rate,” Kiser said. “It is one of multiple factors that we use when determining a borrower’s eligibility and their ability to pay back their loans.”

Among the issues raised by the “school credit scores” is whether they cause “socially unjust outcomes by unfairly burdening middle class, diverse populations who can least afford to pay extra on their ’education mortgages,”’ Cuomo said.

The practice may also run afoul of New York law and the federal Equal Credit Opportunities Act because of the potential for discrimination, he said. Cuomo said a remedy may be legislation similar to the federal laws against “redlining,” the practice of refusing to make home loans — or offering more costly terms — based on the demographics of a neighborhood.

Noting that not all lenders use the ranking system, Cuomo said consumers should be given more information so they can shop for providers who don’t consider a school’s default rates.

John Dean, special counsel to the Consumer Bankers Association, rejected Cuomo’s use of the word “redlining” and said including the default rates is a legitimate tool lenders use to assess the risk a loan won’t be repaid.

“The suggestion that racism is rampant in the student loan industry is ridiculous,” Dean said.

He said default rates are used along with other data about a school, including anticipated income after graduation and dropout rates, to help set rates that protect the interests of the lender.

Dean used the example of a student attending an Ivy League college as opposed to another at a small trade school.

The industry would view the Ivy League student as clearly “on the path to success,” while the other student presents greater risk, he said.

“Should both of those students get the same rate?” Dean asked.

A regulation limiting the review to a student’s personal credit history would increase the cost of all loans, he said.

Also on Tuesday, Cuomo and attorneys general from 31 other states sent a letter to leaders in the Senate urging passage of the “Student Loan Sunshine Act,” a package of regulations already approved in the House.

The bill would address the conflicts of interest and deceptive practices that have surfaced during the investigation led by Cuomo’s office. About a quarter of the $85 billion student loan market is private, with the balance provided through federal government programs, Cuomo said.

Senate lawmakers also unveiled a legislative package Tuesday that would clamp down on conflicts of interest in the student loan industry and boost aid to college students by slashing government subsidies to banks that make student loans.

The Senate bill recommends cutting lender subsidies by about $18 billion, which is similar what is in the House bill and in President Bush’s proposed budget.

The cuts are tied to a must-pass bill that is needed to meet spending targets in the federal budget.

© 2012 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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