updated 9/9/2008 7:17:41 PM ET 2008-09-09T23:17:41

Eight student loan companies agreed to adopt a code of conduct that bans deceptive marketing practices — such as offering prizes to students who sign up for loans — following an investigation by the state of New York, the state attorney general said Tuesday.

Seven direct-to-student lenders agreed to pay a combined $1.4 million to settle the probe, Attorney General Andrew Cuomo said. These companies employed bait-and-switch tactics, pushed higher-interest private loans and marketed products so they appeared to be federal loans, he said.

Federal loans have fixed interest rates that are often lower than private loans.

The companies that are settling were identified by the attorney general's office as Nelnet Inc., Campus Door Inc., GMAC Bank, NextStudent Inc., Xanthus Financial Services Inc., EduCap Inc. and Graduate Loan Associates LLC.

Strong endorsement
An eighth lender, MRU Holdings Inc., was not a target of the investigation but voluntarily agreed to adopt the reforms. MRU Holdings, operating as My Rich Uncle, "wholeheartedly endorsed" the code of conduct, said Raza Khan, president and co-founder of the company.

MRU Holdings, based in New York City, has advocated more transparency in the industry for more than a year, Khan said.

Nelnet spokesman Ben Kiser said changes in the company's practices will occur in stages. Nelnet, based in Lincoln, Neb., should be fully compliant with the code of conduct by December.

EduCap, based in McLean, Va., issued a statement saying it welcomes "the opportunity to embrace the attorney general's proposed code of conduct."

A call to GMAC Bank was not immediately returned. A phone number listed on Graduate Loan Associates' Web site was not working and phone numbers could not be immediately found for Xanthus Financial or Campus Door.

Direct-to-student loan companies market to consumers online and through the mail, and don't necessarily have an on-campus presence.

The new code of conduct bans practices including:

  • Using logos that make mailings appear to be from the federal government
  • Paying students to get their friends to take out loans
  • Offering prizes such as iPods, gift cards and GPS devices to induce students to take out loans with a particular lender
  • Advertising interest rates that are not available to a majority of borrowers

The adoption of the code of conduct by the eight companies will put pressure on the entire industry to reform, said Barmak Nassirian, a spokesman for the American Association of Collegiate Registrars and Admissions Officers.

Greater transparency
He said the greater transparency will help students and families make smarter choices about loans.

In announcing the settlement, Cuomo called on other companies in the industry to adopt the new code of conduct. Students and families should be wary of companies that fail to do so, he said.

Last week, Cuomo's office said it was preparing to sue Goal Financial LLC, based in San Diego, for similar deceptive practices. Unlike the other lenders, Cuomo's office said Goal Financial indicated it was not willing to enter into a settlement.

The settlements build on Cuomo's ongoing investigations into the burgeoning student loan industry.

Last October, Cuomo's office subpoenaed 33 direct student loan companies. Tuesday's announcement marks what is likely the first wave of settlements in the industry, Cuomo's office said.

Last year, Cuomo helped bring about reforms in the industry when his office investigated deals that gave colleges "kickbacks" in exchange for being listed as a preferred lender.

At least 22 schools agreed to adopt codes of conduct for financial relationships with lenders as a result. Several of the lenders targeted in that investigation agreed to reforms and to pay a combined $12 million into a national fund to educate families and students about loans, according to Cuomo's office.

Copyright 2008 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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