A Small Student Lender Trying to Change the Game

There’s not a lot of love out there for the student loan industry. Sure, they help millions of students who couldn’t otherwise afford it get a college degree, but you’ve no doubt heard a horror story about someone struggling with crippling student loan debt. Some have even called the $1.2 trillion of outstanding education debt in the U.S. the “student loan crisis.”

David Klein definitely sees a problem. When he and Michael Taormina were at the Wharton School of Business at the University of Pennsylvania, both needed student loans to pay their way. They noticed two major issues: High fixed-rate financing and an unnecessarily complex and overwhelming loan process.

In 2011, Klein and Taormina, along with Wharton classmate Jessup Shean, founded CommonBond, a student lender offering low-cost loans and refinancing for creditworthy borrowers.

The program started as a refinancing and loan program for Wharton students. Then they expanded to 25 MBA programs. On March 19, CommonBond announced loan and refinancing expansion to more than 100 graduate programs for business, medical, engineering and law degrees.

CommonBond’s 10-year fixed-rate loan and refinance interest rate is 5.99%, compared to the current 6.41% for a federal direct PLUS loan. As of July 1, 2013, federal loans are tied to the 10-year Treasury note, so next year’s interest rate will be a bit different. (Between 2006 and 2013, when CommonBond was formed, directPLUS loans were 7.9%.) CommonBond has no application fees, origination fees or prepayment penalties, while PLUS loans have a 4.288% origination fee.

Obviously, people earning business, law, engineering and medical degrees have high earning potential — so what about all the undergrads and other students out there battling high education costs?

“We’re getting there,” Klein said. He called it their “Facebook model” — start at one school where they’re familiar with the students’ potential, then continue to expand as they prove their business model works. As they grow, they’re working to address the problems in the student loan industry.

CommonBond also uses a one-for-one model (like TOMS shoes or Warby Parker glasses) to send a student to school for a year for every degree fully funded through CommonBond. They do this work with Pencils of Promise — a nonprofit that builds schools and offers scholarships to students in the developing world.

I asked Klein to identify what he sees as the contributing factors to the huge increase in education debt during the past few years. Here’s what he had to say.

Do you think we’re in the midst of a student loan crisis?

From a financial perspective, I don’t see a crisis. … Student debt as its share of total debt is more than it was before. Clearly that thing is going to get attention. … I tend to reserve the word ‘crisis’ for what we saw in 2008 [with the mortgage industry].

Why aren’t more lenders refinancing student loans?

It was after the financial crisis that a lot of private banks stopped lending altogether to students. It seems as though the banks [that] have removed themselves from the equation have done so because it just isn’t worth it. … The banks that are still in it are charging rates that we think are unnecessary because they’re assigning a certain risk premium to it. We don’t have the same baggage as the banks … because we can build from scratch, having the borrower in mind the whole time. … What we’re able to say is we’re able to price this loan to the credit quality of the borrower we’re underwriting.

What do you feel is driving this spike in student debt?

Student debt is really a reflection of the higher costs of education, and it’s also a reflection of the increased number of people going to school. I think more people going to school is a good thing. But I think there needs to be a more thoughtful conversation on how much [students] should borrow based on what industry you’re going into. That probably needs to happen much more than it is. It turns the conversation less about a problem or a crisis and more about a productive plan on responsible lending and responsible borrowing.

First, the cost of education is well outpacing the pace of salary growth, and if things continue at that rate, it’s unsustainable, and that’s just math. The second piece is what I would call financial literacy. It’s choosing what field you want to study with a very strong understanding of what employment prospects and earning potential are in that field because it’s only then that you can figure out what’s a manageable [level] of debt for you.