On July 31, 2018, the U.S. Department of Education published a Notice of Proposed Rulemaking describing its new policy for borrower defense and student debt. In the following letter, submitted in response to the department’s request for comment, senior policy associate Tariq Habash explains how the proposal takes harmful steps, unsubstantiated by any evidence, to remove the critical ban for schools participating in the direct loan program from including mandatory pre-dispute arbitration clauses or class action waivers related to direct loans in college enrollment contracts.
You can also read comments on the notice by TCF senior fellow Robert Shireman, senior fellow Jen Mishory, and contributor Sean Marvin.
Dear Secretary DeVos:
The 2016 borrower defense regulation took important steps to providing strong consumer protections to student loan borrowers, banning schools who wanted to remain eligible for Title IV aid from including restrictive clauses related to direct loans in enrollment contracts, including pre-dispute arbitration clauses, class action waivers, and mandatory internal dispute resolution processes. The department’s notice of proposed rulemaking on borrower defense ignores the evidence behind the 2016 ban and uses severely flawed reasoning to reverse those important protections. The department should instead retain the 2016 bans.
1. The department offers no new evidence to support removing the 2016 ban on pre-dispute arbitration and internal dispute processes related to the direct loan program, and should leave 2016 regulations intact.
In its proposed regulation, the department makes claims about arbitration processes that do not reflect research on the issue, offering no evidence to substantiate those claims. It also provides justifications based off of case law and Congressional action that should have no bearing on this regulation.
A. The department brings no evidence to substantiate its claims that pre-dispute arbitration will make borrowers better off.
Pre-dispute arbitration clauses force students to sign away their legal right to take their dispute to court. In private arbitration, institutions are the repeat customer and often dictate large portions of the process, including whether the proceedings will remain completely private, where the proceedings will take place (which could become a burden on students), who will be responsible for the cost of legal fees (whether or not the student wins), what the discovery process looks like (or if it even exists), and whether or not there will be an opportunity for an appeal.
The Department of Education recognized this in 2016, when it stated that “A major objective of the program is protecting the taxpayer investment in Direct Loans. That objective includes preventing the institutions empowered to arrange Direct Loans for their students from insulating themselves from direct and effective accountability for their misconduct, from deterring publicity that would prompt government oversight agencies to react, and from shifting the risk of loss for that misconduct to the taxpayer. Predispute arbitration agreements, like class action waivers, do each of these, and thus jeopardize the taxpayer investment in Direct Loans.”
Specifically, the department used its authority under the Higher Education Act to include provisions in its program participation agreements that “the Secretary determines are necessary to protect the interests of the United States and to promote the purposes of’’ the direct loan program. In weighing the evidence presented, the department concluded that it was in the interest of taxpayers to disallow pre-dispute arbitration agreements related to direct loans in their program participation agreements with schools.
In the 2018 proposed regulation at issue here, the department offered flawed or nonexistent analysis to justify its policy change away from protecting taxpayers through the ban on pre-dispute arbitration clauses related to direct loans for schools participating in Title IV. First, although the NPRM states that “[arbitration] may also allow borrowers to obtain greater relief than they would in a consumer class action case,” it does not provide evidence to back up the claim, and research shows that their claims are inaccurate. Even after legal fees, consumers recover far more in class actions than they do through arbitration, and far more often: consumers obtain relief in just nine percent of disputes in arbitration. When consumers lose, they actually take the brunt of the costs, so on average, consumers end up losing when they go to arbitration instead of to class actions. When class action waivers are paired with pre-dispute arbitration clauses, borrowers are not only forced into private arbitration, but also required to go it alone.
Second, in the NPRM, the department argues that arbitration as a dispute resolution option provides students with a faster, cheaper, and “impartial” process, and that arbitration can help an institution “more quickly identify and stop bad practices to ensure other students are not harmed.” There is no evidence to support these claims, and to the contrary, research suggests that corporations that use pre-dispute arbitration clauses yield successful arbitration awards at higher rates than do instances of single time arbitration users. In other words, in cases of repeat users of arbitration (i.e. schools with mandatory arbitration clauses), the proceeding overwhelmingly favors the institution, and because the arbitrator is indirectly employed by the school, there is an inherent conflict of interest. In the case of Corinthian, the school used forced arbitration and class action waivers to actually slow down the flow of information.
Finally, the department states in the NPRM that it is providing an “opportunity” for students to seek redress directly from institutions, an option they claim is in the best interest of students. However, if this was the case, students could make that determination for themselves, and enter voluntary post-dispute arbitration agreements after the dispute arose. Instead, schools want to force students into arbitration before the dispute arises because that way the schools determine the barriers to entry for a complaint, and therefore have a better chance to shed liability of wrongdoing at the expense of students.
B. The department uses an illogical reading of case law and irrelevant interpretation of Congressional action when attempting to justify its policy change.
The department bases its changes on the incorrect assertion that the legal landscape has changed. In the 2016 rule, the department asserted its broad authority as invested by the HEA, stating:
…the HEA gives the Department the authority to impose conditions on schools that wish to participate in a Federal benefit program. In this regulation, the Department is exercising its broad authority, as provided under the HEA, to impose conditions on schools that wish to participate in the Federal Direct Loan Program. Section 452(b) of the HEA states, ‘‘No institution of higher education shall have a right to participate in the [Direct Loan] programs authorized under this part [part D of title IV of the HEA].’’ 20 U.S.C. 1087b(b). If a school chooses to participate in the Direct Loan Program, it must enter into a Direct Loan Program participation agreement (PPA). 20 U.S.C. 1087d. Section 454(a)(6) of the HEA authorizes the Department to include in that PPA ‘‘provisions that the Secretary determines are necessary to protect the interests of the United States and to promote the purposes of’’ the Direct Loan Program.
The department made this determination after consideration of comments citing the potential impact of the Federal Arbitration Act and various court cases. In doing so, the department stated, “the Department does not … propose, to displace or diminish the effect of the FAA. These regulations do not invalidate any arbitration agreement, whether already in existence or obtained in the future. Moreover, the Department does not have the authority to invalidate any arbitration agreement, did not propose to do, and does not in this final rule attempt to do so.”
The department bases its new legal reading in part on the recent Supreme Court decision, Epic Systems Corp v. Lewis. The holding in that case, however, is simply not relevant. In Epic Systems, the Court ruled as to whether the National Labor Relations Act precluded the application of the Federal Arbitration Act as it relates to arbitration clauses in a private employment contracts between an individual and an employer. In this case, the department is not considering whether a college could include mandatory arbitration clauses in a contract with students, but whether those colleges may apply a pre-dispute arbitration clause to disputes relating to borrower defenses connected to a federal direct loan. Colleges are still free to include pre-dispute arbitration agreements in enrollment contracts as long as they do not impinge on the federal financing through a direct loan.
Moreover, the department erroneously claims that recent Congressional action disapproving of a rule by the CFPB around mandatory pre-dispute arbitration agreements is somehow relevant to the question of the Congressional intent behind the department’s implementation of the direct loan program. First, the joint resolution said nothing about the accuracy of the CFPB study, nor did it explain why Congress disapproved of the CFPB rule. And Congressional action on a separate law, taken long after Congress wrote the relevant provisions of the Higher Education Act that provide authority for the ban and deriving from entirely different legislative authority, are irrelevant. ED and the CFPB are charged with different mandates: ED to implement a spending program, and the CFPB to consider regulation on private arbitration agreements directly.
Indeed, the department in 2016 not only acted under a different authority, but also proposed acting under a different framework than the considerations undertaken by the CFPB, stating that the the interests at stake are the “interests of the Federal taxpayers whose funds are at risk for borrower defense claims asserted on Federal Direct Loans, and the objective at stake here, as discussed, is the successful financing of postsecondary education by providing loans repayable by current recipients for the benefit of future generations of borrowers.”
In sum, none of the arguments presented by the department provide any new underlying reasoning to change the analysis that the department undertook in 2016: that the evidence that we have around the impact of pre-dispute arbitration clauses shows that the inclusion of those agreements in enrollment contracts would harm taxpayers, and that the department has the clear authority to ban those clauses in their program participation agreements as they pertain to Direct Loans.
2. The Department of Education offers flawed and inaccurate reasoning for its proposed elimination of the 2016 requirement that schools do not include class action waivers related to Direct Loans if they participate in the direct loan program and should instead retain the requirement.
Class action waivers force individuals to sign away their rights to join with others who have similar complaints against the same party. In this case, if dozens of students were misled about career opportunities and earnings potential during the enrollment process, these students would have to file their complaints separately, and go through the entire dispute resolution process individually. This is problematic for a number of reasons. Class or group actions are an important part of resolving disputes in cases of widespread damages, especially when cases where damages may not be substantial or when individuals may not have the resources to seek representation for their complaints. In 2016, the department found that “class action waivers effectively allow a school to perpetuate misconduct with much less risk of adverse financial consequences than if the school could be held accountable in a class action lawsuit,” which could eventually move schools to change their practices. In other words, the department found that class action waivers removed an important tool to encourage schools to comply with the law.
In addition, class actions help put the complaints into perspective. If a single institution has 100 different individual private arbitration processes being heard by different arbitrators, it is unlikely that any patterns of abuse will come to light in the way that they would if those individuals could form a class or group. A class action waiver provision eliminates information flow that could be critical for law enforcement entities from gathering information on bad actors in a timely manner, potentially reopening the floodgates to fraud and abuse.
In 2016, the Department of Education found that, for example, in the case of Corinthian Colleges, the colleges “aggressively used class action waivers to thwart actions by students for the very same abusive conduct that government agencies, including this Department, eventually pursued. Corinthian used these waivers to avoid the publicity that might have triggered more timely enforcement agency action, which came too late for Corinthian to provide relief to affected students. Corinthian’s widespread use of these waivers and mandatory arbitration agreements resulted in grievances against Corinthian being asserted not against the now-defunct Corinthian, but as defenses to repayment of taxpayer financed Direct Loans, with no other party from which the Federal government may recover any losses.”
The department’s 2018 NPRM ignores these underlying facts and bases its decision to reverse the requirement that schools participating in the direct loan program refrain from using class action waivers related to direct loans on the claim that arbitration would be more cost efficient for students and schools than class action litigation. On the contrary, class action waivers prevent consumers from accessing relief owed to them: the CFPB found that the 419 consumer finance class actions during the five-year period it studied produced some $2.2 billion in net cash or in kind relief to consumers in those markets.
3. The department offers an inaccurate and incomplete regulatory impact analysis that fails to consider both critical economic costs and transfers of cost.
The department fails to consider a number of economic costs and transfers of costs in its RIA estimate. With the 2016 borrower defense regulation as the baseline, the NPRM likely adds a significant economic burden to student loan borrowers as well as to the public.
In the RIA, the department acknowledges that allowing pre-dispute arbitration clauses and class action waivers will “reduce access to judicial forum” and “decrease the ability of borrowers to hold the institution publicly accountable.” Lifting the ban on restrictive clauses including pre-dispute arbitration clauses, class action waivers, and internal dispute processes allows institutions to limit law enforcement and state agencies from the flow of information which may include abuses, misrepresentations, and fraudulent activity. This can lead to new abuses in the student loan system that could not be uncovered until it is too late, adding economic costs to taxpayers in the same way Corinthian and ITT Tech have cost taxpayers hundreds of millions of dollars already. This also adds a direct burden on borrowers by allowing schools to require they jump through each hoop the school has determined in order to raise a complaint. The NPRM does not take into consideration any of this in its regulatory impact analysis. Any final rule should directly assess what the cost to the public and to future student loan borrowers will be.
The NPRM claims borrowers will benefit from the new rule because it provides transparency through disclosure. However, the 2016 borrower defense rule provided real transparency:- it included important requirements for schools to report the number of arbitration and judicial proceedings, award sizes, and status of students, among other pertinent data, and allowed students to learn about them post-dispute, a time when they may be better equipped to understand their implications. The NPRM excludes the reporting because of overburdensome administrative costs, particularly due to department review of the documents—but does not include what those costs would be in the impact analysis, and the 2016 rule did not specify any level of review required. It is clear that these data would be extremely helpful to the department and other law enforcement agencies who may be interested in how frequently arbitration may be used. Excluding this important information might save institutions from minor administrative costs, but will come at a much greater cost to law enforcement and future student loan borrowers. The department should assess what the cost transfer of removing this part of the 2016 rule will be and reinstate these important reporting metrics.
In 2016, the department estimated that 66 percent of students at proprietary schools would be impacted by arbitration clauses. The NPRM, however, lowers that estimate to 50 percent with no explanation. ITT Tech’s closure cannot account for this change in estimate because it shuttered its doors in September 2016, before the final rule was published. Although there have been institutions that have stopped the use of pre-dispute arbitration clauses, they did so prior to the finalization of the 2016 rule. The decisions made by DeVry and University of Phoenix were also made when the writing was already on the wall with regard to the department’s previous position. Now that ED has changed its stance, it’s not unreasonable that these schools may begin using pre-dispute arbitration again in the future. More schools may take up the use of these clauses. The department should reevaluate its underestimation of the impact this rule will have on students, both in costs to the students and to the number of students directly affected.
Because the department’s reversal of the ban on pre-dispute arbitration clauses and class action waivers related to direct loans for schools participating in the direct loan program ignores underlying evidence relied upon in its 2016 regulation, and instead relies on a series of unsubstantiated claims, the department should reverse its proposed rule and retain the 2016 bans.
Senior Policy Associate
The Century Foundation