The Student Loan Disrupter That Just Raised $80M

Peer-to-peer lender Social Finance (SoFi) secured $80 million in funding from Discovery Capital Management, entrepreneur Peter Thiel and Wicklow Capital, the company announced today, which will be dedicated to expanding its student loan refinancing program and offering other loan products. SoFi CEO Mike Cagney said peer-to-peer mortgages are next on the priority list.

“That money is going to first and foremost spearhead our launch into the mortgage space,” Cagney said. “I think one of the biggest things that we’re doing is we’re working on delivering a robust product set to a population that isn’t banked, that quite frankly doesn’t want to be banked.”

He’s talking about millennials and some younger members of Generation X — people who are roughly 20 to 40 years old. SoFi appeals to this group by offering a variety of student loan refinancing options, unemployment protection for its borrowers and career support, all from a website designed to be used on mobile devices.

Advancing the Loan Experience

SoFi started in 2011 and has funded $450 million in student loans (the vast majority of that is refinancing, but SoFi offers some loans to students still in school). The company refinances loans from any education level but focuses on graduate student loans, as they carry higher interest rates than undergrad loans, and tuition for grad programs tends to be more expensive in the first place. The program started refinancing Stanford students’ loans but now serves graduates from more than 2,200 institutions. SoFi has more than 5,000 members, about 4,500 of which are borrowers.

Peer-to-peer lending is pretty self-explanatory: Instead of going to a traditional financial services provider, you reach out to a network of people who are willing to invest in others’ loans. With SoFi, a lot of those people are alumni of the colleges attended by the student loan borrowers.

A borrower doesn’t need alumni to cover his or her entire loan, but Cagney said the institutional connections strengthen the network. Say you go to XYZ University and need to refinance your student loans, but there aren’t a ton of XYZ alumni who are SoFi members. Maybe 5% of your loan will come from XYZ alumni investments, the rest comes from SoFi, and SoFi then reaches out to other XYZ alumni to back the loan.

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SoFi offers fixed interest rates between 4.99% and 6.74%, depending on repayment terms and a borrower’s credit standing. The company will consolidate federal and private loans.

Loan Performance

One of the biggest issues with the existing student loan structure is the difficulty struggling borrowers face when trying to refinance their loans to make them more affordable. It’s extremely difficult to discharge student loans in bankruptcy, and private student loans have very few protections for borrowers who fall on hard times. For students who entered loan repayment between Oct. 1, 2010, and Sept. 30, 2011 (fiscal 2011), 10% had defaulted on their loans by Sept. 30, 2012.

That’s 10% of about 4.74 million borrowers, so 475,538 were in default. Of course, SoFi is dealing with many fewer borrowers — they have about 4,500 at this point — but the number of delinquent borrowers is considerably better: one. You read that right: Only one of SoFi’s 4,500 borrowers is 30 days past due. There are no loans that fall into the 60- or 90-days-past-due categories.

Cagney attributes that to a few things: SoFi has a community atmosphere where borrowers really don’t want to let down investors and alumni (who would see if a borrower is late making payments or defaults), refinancing reduces the cost of loans (borrowers save an average of $9,400) and SoFi helps its borrowers get back to work if they lose their jobs.

SoFi offers forbearance like other lenders — you put payments on hold but the loan still accrues interest — but has also helped re-employ about 20 borrowers who lost their jobs after entering repayment with SoFi. It also has an entrepreneur program that allows borrowers to defer loans for up to six months while starting a business. They also have access to SoFi investors and can tap a network of mentors for help creating a business plan and navigating the beginnings of running a startup.

SoFi’s success thus far seems to be rooted in something most people don’t associate with student loans: emotion. Perhaps they’re onto something with their mix of lending and warm fuzzies.

“I think, at the end of the day, what we’re really trying to do is bring community banking back,” Cagney said. He spoke from the perspective of the community: “I pull capital in and pull capital out from a group of folks I know, I like, I trust. I’m borrowing from people who believe in me.”