Compliance Blog

Jul 05, 2023
Categories: Consumer Lending

Can A Personal Loan Be Used to Pay College Tuition without Triggering Regulation Z Requirements?

It feels like a year has passed since my last blog post to everyone. I guess that happens when you are on maternity leave for a couple of months. Now that life is returning to normal (as much as it can with a newborn), I am back in the swing of things and loving it.

Now, on to our compliance topic. I was recently asked an interesting question about whether a personal loan could be used to pay for college tuition without triggering Regulation Z requirements for Private Education Loans (“PEL”). As with most legal answers, it depends.

Crystal Ball

In early 2010, Regulation Z was amended to require new disclosures for PELs. Under section 1026.46(b)(5) of Regulation Z, private education loan means an extension of credit that:

(i)                  “Is not made, insured, or guaranteed under title IV of the Higher Education Act of 1965 (20 U.S.C. 1070 et seq.);

(ii)                Is extended to a consumer expressly, in whole or in part, for postsecondary educational expenses, regardless of whether the loan is provided by the educational institution that the student attends;

(iii)              Does not include open-end credit or any loan that is secured by real property or a dwelling; and

(iv)               Does not include an extension of credit in which the covered educational institution is the creditor if:

(A)    The term of the extension of credit is 90 days or less; or

(B)    an interest rate will not be applied to the credit balance and the term of the extension of credit is one year or less, even if the credit is payable in more than four installments.” (Emphasis added).

Under this rule, unless exempted (which we will get to below), if a member notifies a credit union (e.g., writes the purpose of the loan on their application) that their closed-end personal loan is to help pay for post-secondary education, the PEL requirements would be triggered under Regulation Z and a credit union would have to follow the disclosure and compliance rules outlined in section 1026.46 through section 1026.48.

So, what are post-secondary educational expenses? Well, the types of post-secondary educational expenses that if financed would trigger compliance with these rules are quite broad and outlined in section 1026.46(b)(3). They include:

“tuition and fees, books, supplies, miscellaneous personal expenses, room and board, and an allowance for any loan fee, origination fee, or insurance premium charged to a student or parent for a loan incurred to cover the cost of the student's attendance.”

As mentioned above, there are some exceptions to the rule. For example, if the loan is for open-end credit, such as a line of credit or credit card, or any loan that is secured by real property or a dwelling, then it would not be considered a private education loan. Additionally, there is an exception when an educational institution - whether accredited or unaccredited - offers short-term loans to students for education to prepare them for gainful employment in a recognized profession, such as flying, culinary arts or dental assistance. However, such plans may still be subject to the closed-end credit rules in section 1026.17 and section 1026.18.

Based on the above information and discussion, there is a fine line to walk if a personal loan will be used for educational expenses especially if the member includes this information on the loan application or verbally notifies the credit union that the money will be used for educational purposes.

It is also worth noting that there may be issues with what the loans are used for regarding their discharge ability in bankruptcy. Generally, student loans are nondischargeable in bankruptcy. However, for private student loans, only a qualified private student loan is nondischargeable. Since bankruptcy is outside of NAFCU’s area of expertise a credit union may want to speak to counsel if it is worried about bankruptcy.

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About the Author

Judy Dahn, Regulatory Compliance Counsel, NAFCU

Nick St. John, Regulatory Compliance Counsel, NAFCUJudy Dahn joined NAFCU as a regulatory compliance counsel in January 2023. In this role, Judy assists credit unions with a variety of compliance issues.

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