Should more financial institutions offer student loan products? Here’s how to get started.
- As restrictions introduced under the One Big Beautiful Bill Act (OBBB) limit federal student loans, more borrowers may turn to private lenders, creating an opportunity for financial institutions.
- Financial institutions interested in offering student loan products will need to mitigate risks like potential defaults, long deferment periods and consumer harm.
- If interested in offering student loans, leadership should guide their institutions through a thoughtful process that includes developing a roadmap, deciding whether to partner with another institution or financial services company, building borrower relationships and taking steps to manage risks.
Student borrowers typically rely on loans provided by the Department of Education. But recent changes to federal student loan policy may force more borrowers to turn to private loans to fill in funding gaps.
If your financial institution doesn’t already offer student loan products, is now the moment to start doing so? Keep reading to learn more about why the answer may be yes, plus details on the risks you’ll need to manage and how to get started on successfully issuing loans.
Why do student loans represent a growth opportunity for financial institutions?
With the passing of the OBBB, the federal government has begun placing new restrictions on federal student lending that could affect borrower behavior. For example, the federal government has placed new caps on the amount of money students can borrow to fund their graduate education.
Private student loans are one option that could help students overcome funding gaps. As more students reach their borrowing limit with the education department or have trouble qualifying for federal loans, financial institutions may see a spike in loan applications.
While future administrations may seek to shift federal student loan policy back toward historical norms, for now, private loans may represent a significant growth area.
What are the major student lending risks and compliance challenges that financial institutions face?
Before deciding to offer student loan products, financial institution CEOs and other executives should carefully evaluate the potential risks involved. The biggest risks include the potential for default, extended deferment periods and compliance challenges like consumer harm.
- Loan default: Like any unsecured loan, student loans depend on the credit quality of the student borrower or a cosigner, like a parent. However, the ability of a student borrower to repay a loan largely depends on whether that student is able to graduate, which is an additional risk element not typically present with other unsecured loans.
- Deferment periods: Most student loans go into deferment while the student is in school. This means financial institutions issuing student loans may not see any monthly return until three to four years after their first loans are originated.
- Compliance risks: Because student loan borrowers are usually teenagers and young adults, they are often at a higher risk of consumer harm than more seasoned borrowers. This represents a significant compliance risk for financial institutions that don’t account for the lack of financial literacy among students and fail to properly educate them on factors like interest rates, repayment terms and credit impact.
Seven steps for financial institution leadership to develop a successful student loan product
CEOs and their executive teams should follow a thoughtful process before offering student loan products. This includes weighing risks, deciding whether to partner with another institution or financial services company, developing a loan roadmap and preparing for heightened scrutiny from regulators.
As you go through this process, you may also wish to consult with an advisory firm for additional guidance and help with compliance.
1. Assess feasibility and risks
Does it make sense for your financial institution to offer student loans? Do you have the right underwriting capabilities? Are you prepared to manage your risks? Consider questions like this before deciding to move forward.
2. Decide if you want a partner
Some financial institutions may choose to offer student loan products in conjunction with a partner, which could be another institution or a financial services firm. A partner can allow you to outsource administrative burdens like loan servicing and compliance, while also offering you greater economies of scale than you may be able to achieve on your own.
However, handling everything in-house gives you the opportunity to develop deeper relationships with your borrowers.
3. Develop your roadmap
Develop a clear plan to guide your financial institution as you develop and offer new student loan products. The roadmap should begin with strategic alignment and board approval, followed by a feasibility analysis to assess demand, competition and financial impacts.
It should then progress to detailed program design, including underwriting standards, pricing, portfolio and concentration limits, compliance readiness and operational planning.
4. Build lending relationships
Start by reaching out to your customers who may have children approaching college age. Let them know that you’ve started offering student loans. Also, contact high schools in your area to ask if you can offer educational workshops about student lending for their students.
5. Manage AI risks
Financial institutions are increasingly using AI as part of their credit approval or customer service processes, including for student loans. Be sure that you appropriately manage AI risks like fair lending compliance and mitigating machine bias. To do this, you’ll need to implement an effective AI monitoring system, as well as additional safeguards like audit checks, complaint monitoring and a clean, organized data foundation.
6. Prepare for regulatory scrutiny
Financial regulators may give an additional dose of scrutiny to any new loan products you offer. Be prepared for this and make sure your reporting and compliance are in excellent shape.
7. Evaluate your portfolio regularly
Do you have a sufficient credit loss reserve to cover loan defaults? This is typically something you’d be able to determine based on your own historical data, but if you’re just starting to issue student loans, you won’t have that to pull from, so gather data from peers instead and incorporate factors like unemployment and the housing market.
Implementing ongoing monitoring, including stress testing of your portfolio, is critical to managing risk.
How Wipfli can help
We advise financial institutions on growth, compliance and performance. Let’s talk about how we can make your institution stronger, including by helping you offer new products like student loans. Start a conversation.
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