Four Kinds of Fraud

This week New York Attorney General Cuomo began to publicize an inquiry into the practices of colleges and universities relating to the selection of preferrred providers of privately financed student loans. For the past several years students have used supplemental loans (borrowing beyond that provided by the federal government) to help finance their educations. First, they used the loans for graduate and professional programs. But later on they used them for financing their undergraduate programs.

Student loans are an important part of the financing equation. In some institutions loan provide a substantial part of the capital that families use for paying for expenses. As this business became more important student loan providers solicited preferred relationships with institutions. This preferred relationship suggested to students that the institution had done some careful review of the alternative. In exchange for this preference, consideration was provided. In many cases colleges went through a process of procurement that was designed to select the most appropriate provider. For example, one institution that was accused by Cuomo went through a Request for Proposal process and then dedicated all of the revenues derived from the program (to the extent it was used by students in the institution) to funding additional aid for students with financial need. The alternative loan market is a very competitive one and at least at this point there is scant evidence that anyone was hurt by this preferred lender relationship. But in this case even the appearance of impropriety is significant. Cuomo makes the point that these preferred provider relationships force a high percentage of students into a single loan program (he has claimed as high as 90% - but those claims are absurd). At least in California, preferred relationships yield much lower rates of participation.

The efficacy of these relationships is being called into question by Cuomo's investigation - and in my opinion some of them should. But Cuomo's brush is a bit too broad and there is the taint of politics here which muddles the discussion somewhat. There are a set of questions here that transcend law or ethics. Clearly, over the last decade standards for what the general public should know about relationships have changed. Some of those are new ethical standards without the sting of law, and some are based on community standards without the force of law. But best practices demand that all institutions in society review how they make decisions for things like choosing a loan provider.

As I thought about the issues raised by this process, I identified four types of potential misconduct alleged by the developing story. There is a fifth one which also bothers me. Cuomo has alleged that he is acting in behalf of New York consumers but has pursued actions against colleges and universities in several states. Whether Mr. Cuomo has any jurisdiction to pursue such claims outside of an action in federal court is highly questionable. Regardless, Cuomo is proceeding. This is lousy law but the legal claims here seem to be secondary. In each of the four major categories, it seems to me that we should be thinking about two sets of issues - what is the legal issue here and as importantly what is the ethical issue? Here is my take on the other four issues:

#1 - Expensive Chatzkies - All professions receive gifts of many kinds - here the questions are on appropriate value. When you go to a national meeting of any group - there are the inevitable chatzkies - those small gifts with a logo on them to help you remember a particular provider. I will guarantee you that when the National Association of Attorneys General (NAAG - somehow that is appropriate) meet someone who sells them something provides amenities. There are also some other gifts that are increasingly less acceptable. But the bounds of what is reasonable and what is not are shifting - even at the very time that some providers are offering increasingy valuable gifts. In my own situation I travel with a small bag that I received as a recognition of my part of a transaction that assisted a number of institutions. I have no idea about the relative value of the gift. The gift is a handy reminder of my work on that transaction, for which I was not otherwise compensated. But some of the gifts here are quite excessive.

it is alleged that in addition to expensive golf outings at least one financial aid administrator accepted a "plasma TV" (which could be a gift of between $500 and $8000). By any reasonable ethical standards there is some level of gift that is appropriate but there is also a limit. In my opinion the larger gifts are inappropriate - certainly from an ethical perspective but potentially also from a legal one.

#2 - Grants of Stock - Cuomo has charged that some financial aid administrators accepted stock in one or more companies in return for their consulting services or because of their service on a board of directors. This is a bit more complex. Clearly the student aid business is an intricate one and some financial aid administrators who accepted these grants of stock were being compensated for their expertise. There is always the nagging question of whether acceptance of the board responsibility is appropriate for someone who has a financial relationship with a provider. But there is not a bright line here. In my mind, if the institution does not have a clear conflict of interest policy, the person should disclose those relationships to either the CEO or the appropriate person further up the line. In this case the issue is not the compensation but the disclosure and the conformity with the university's policies on outside income. Those standards would and should vary.

#3 - Acceptance of funds for using one provider - Some institutions accepted a cash return for selecting a preferred provider. Often these funds were funneled back into the financial aid accounts of the institution for the benefit of students in need. In the case of an institution that accepted a relationship with a preferred provider after doing a reasonable process of selection and transferred the money received back into student aid despite what Cuomo alleges there is no ethical breach and the campuses should not badgered into signing an agreement which Cuomo wants to have colleges agree to to burnish his career. This one seems pretty simple to me. The university is facilitating a transaction for the student, with no compulsion to use those services. However, the endorsement also implies that the university went through a reasonable process to select the provider. In then end this mostly looks like a procedural and ethical set of questions not like legal ones.

#4 - The use of governmental authority to advance a political agenda The root of this story is an ambitious politician looking for protecting his own career not the consumer. The co-conspirators here are at least two supporters of a government program called direct student loans which were designed to eliminate private financial institutions from student loans. Part of the publicity for this story came from a former reporter who is now a "fellow" in a charitable foundation. The supporters of direct student loans have consistently worked to create situations which create the appearance of impropriety for the programs financed from non-governmental sources. Student loans were initially all provided like the current direct student loan program - directly financed from the federal government. It was then called the Federal Insured Student Loan program or FISL (the initials somehow were appropriate). When banks were brought into the program it was because the feds proved incompetent in managing the program. Mr. Cuomo's broad brush here, in my opinion, is a classic political strategy. Throw as much mud up on the wall and see what sticks.

Here are a couple of other thoughts on this issue. First, the selection of providers for colleges and universities, especially ones which might affect students and the costs of gaining an education, should be done with care and competition. But that does not mean a preferred provider relationship is not appropriate. We negotiate a relationship with two major software providers for the Association I work for and derive a modest amount of income from it. But the ultimate relationship is one where the pricing of both products is considerably lower than could be obtained by an individual college or university. But when we went into those relationships we did it with care.

Second, if the college or the aid administrator is deriving benefit, an appropriate disclosure of that relationship is essential.

I am annoyed by both sides of this issue. On the one hand Mr. Cuomo's tactics are designed to yield the maximum publicity. On the other there is pretty clear evidence that some financial aid officers did not exercise adequate care in fulfilling their fiduciary role for student aid. Ultimately, I believe that preferred relationships can provide benefits to students. Some of Cuomo's supporters clearly do not agree. They believe that student loans can best be run by the government - I think that is nonsense. Even if colleges should not allow themselves to be bullied into responding to the Attorney General of New York, it still might be timely to review both the procurement practices for these types of relationships as well as the compensation arrangements.