A heartbreaking question prompted me to re-examine student loans, particularly since borrowing is on the minds of students, parents and grandparents. The question came from a borrower with Sallie Mae (SM), the bank that lends and processes transactions for $182 billion in student loans. She wrote, “Is it legal to apply all of our payments to interest and none to the principal? I've done their online calculator, and we have been paying more than the necessary amount every month [on their three loans], yet for a year they applied NOTHING to the principal.”

    Under the new student loan law, Sallie Mae is restricted to selling private student loans with less onerous payment terms. Borrowers also avoid lending fees SM and other banks received as middlemen for federal loans. Students may borrow through the Direct Student Loan program administered by the Department of Education. The government should save $61 billion according to the Congressional Budget Office and is diverting those savings into more Pell Grant loans and simplifying repayment. Curious, I visited its website and found some misleading enticements.

    The first visible page has a student loan headline that invites borrowers to apply for a loan.  If you resist applying and scroll down, the next headline invites you to explore “Planning and Managing” tips such as getting all the free money and federal loans you can before applying for loans. Thus the page invites you to apply for SM loans while hiding from view tips for planning and managing.

    Salllie Mae now offers the Smart Option Student Loan®. An orange link invites you to apply, and a smaller statement invites you to learn more. At the learn-more link I learned you get misled. The site claims, “You could [bold red] save more than 30% [end red] compared to a traditional private 15-year student loan payment deferred during school and grace periods.”

    Language defends the statement. “By making required interest payments while in school and adhering to the shorter repayment period after school you could [bold] save as much as $8,000 or more. [end bold].”

A footnote elaborates on this deceptive claim even though SM’s trademark SOSL has a higher 9.75 percent APR rate compared to the traditional loan’s 9.11 percent APR. The SM APR is higher because the loan fee is added to the principal. Avoid adding fees to the principal. The verbose footnote tries to convince you that paying SM a higher interest rate saves you thousands. With SOSL you make fewer payments, make them sooner, and interest from deferrals. If you can find a lender of the traditional loan that allows the same payments, you’d save even more because the interest is lower. 

    The referenced loan is similar to what SM lent for years, deferring payments while in school and for six months after enrollment ends in what it lovingly calls the grace period. Grace implies forgiveness. Forbearance forgives debt. Deferral delays debt and increases interest.

    The emailer’s problem arose because her husband’s two loans were in his name. Sallie Mae was notified when he returned for a required two-week-apprentice schooling, so it deferred payments for his loans and included only her loan on invoices. Her payments paid off her loan but interest accrued on his loans through the grace period. Afterward loan payments reduced accrued interest for a year before reducing principal. 

    She became a cosigner and converted to the SOSL loan. That experience leaves me concerned that millions of people with SM loans may have the traditional loan.  Urge anyone to consider switching to the SOSL or similar payment plans. Otherwise returning to school could trigger deferments and add accrued interest to the balance.