1. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Proposed Regulations on Borrower Defenses to Repayment Dennis Cariello Jonathan Tarnow July 22, 2016 2016 Summer Legal Meeting

2. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Agenda:  Background on Borrower Defense to Repayment & Negotiated Rulemaking Process  Department’s Proposed Regulations  Borrower Defense Process and Elements  Financial Responsibility and Letter of Credit Requirements  Restrictions on Arbitration  Reporting Requirements  Other Issues  False Certification Discharge  Close School Procedures  Questions 2

3. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment 34 C.F.R. § 685.206(c)(1) “In any proceeding to collect on a Direct Loan, the borrower may assert as a defense against repayment, any act or omission of the school attended by the student that would give rise to a cause of action against the school under applicable State law” Violations are for things related to the making of the loan or in the provision of educational services DOE looking at discharge in connection with borrowers at Corinthian and other schools Reports of the Special Master for Borrower Defense 3

4. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Current features: Ad hoc adjudication process Actions based on State law But subject to state law elements and defenses All or nothing – complete discharge or retain full loan Optional recoupment from schools for amounts discharged “The Secretary may initiate an appropriate proceeding to require the school whose act or omission resulted in the borrower’s successful defense against repayment of a Direct Loan to pay to the Secretary the amount of the loan to which the defense applies.” 34 C.F.R. § 685.206(c)(3) Three year statute of limitation on recoupment 4

5. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Negotiated Rulemaking Process Process for coming up with new regulations in higher ed Three Sessions: January 12-14, 2016 February 17-19, 2016 March 16-18, 2016 Negotiators attempted to come to consensus (unanimous decision) Failed to reach consensus - so DOE wrote regulation it wanted 5

6. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Borrower Defense Process OLD LOANS v. NEW LOANS OLD LOANS (loans first disbursed prior to July 1, 2017) Still based on state law Claims of discharge still all or nothing Adjudication process for new claims is used Eliminates three year statute of limitations on recoupment for Old Loans 6

7. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment NEW LOANS (loans originated after July 1, 2017) Claims can be based on: Breach of Contract Substantial Misrepresentation Amends misrepresentation rule: “Misrepresentation includes any statement that omits information in such a way as to make the statement false, erroneous, or misleading.” State Law Judgments Still limited to matters involving making the loan or provision of educational services Partial discharge allowed Secretary seeks recoupment from schools (depends) 7

8. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Statute of Limitations for New Loans No statute of limitations to discharge amounts currently unpaid Six year statute of limitations to recover amounts already paid Runs from date of breach for breach of contract Runs from date borrower knew or should have known of misrepresentation BUT – FTC notes if a state has a statute of limitations on a cause of action giving rise to a Holder Rule defense, that statute of limitations would apply unless the state did not apply a statute of limitations to a defense to repayment 8

9. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Note on Claims Based on Misrepresentation While misrepresentation (for individual claims) requires actual reliance, the Secretary considers the following in making such a determination: The borrower was faced with an insistent demand that the enrollment- or loan-related decisions be made immediately; There was an unreasonable emphasis on unfavorable consequences of delay; The use of multiple representatives at the same time of the school or any of the other parties described in paragraph (d)(1) against a single borrower; and The making of statements discouraging the borrower from consulting an adviser, a family member, or other resources 9

10. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Process – Individual Claims Process for dealing with claims on New Loans features an “intake” process where DOE weeds out meritless claims For “individual” claims (those involving one borrower), Department official reviews evidence provided by borrower in a fact-finding process School is not necessarily involved or even notified Secretary may consolidate individual claims into a group claim Secretary MAY seek recoupment from school 10

11. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Process – Group Claims Secretary may identify a group after consideration of: common facts and claims fiscal impact; and promotion of compliance Group may include borrowers that have not filed an application for discharge Included borrowers may opt out of the proceeding. Department official presents group’s claim “There is a rebuttable presumption that each member reasonably relied on the substantial misrepresentation.” 11

12. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Process – Group Claims For open schools, the hearing official: Reviews determination of group status Considers any evidence and argument presented by the school and the Department official on behalf of the group Largely a paper process – although testimony may be taken in some cases Determines whether the claim is warranted and how much school owes Either side can appeal the decision to the Secretary Secretary may reopen a case to consider new evidence 12

13. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Damages Department will to determine “damages” to allow partial discharge The difference in tuition between the program and the average tuition for a comparable pool of programs; The difference between the amount of financial charges the student could have reasonably believed the school was charging, and the actual amount of financial charges; The difference between the student’s earnings (i) one year after leaving the program or school, and (ii) the average salary publicized by the school as being earned by its graduates in the previous year (or BLS data at 10 th percentile); and The total amount of the student's economic loss, less the value of the benefit of the education obtained by the student. 13

14. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility Standards ED’s proposal to amend the general financial responsibility standards to include actions and events that indicate or signal that: 1)a school is likely to have borrower defense claims, and 2)a school’s ability to pay claims or continue its participation in the title IV programs is compromised These actions and events would trigger a requirement that the school submit a Letter of Credit (LOC) based on: Prior repayments or settlements; or For an amount that is not less than 10%, for each action/event, of the amount of title IV funds received by the school during the most recently completed award year 14

15. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility – LOC Based on Prior Repayments A school is not financially responsible if the following occur (“triggering events”): In the last three years the institution was required to repay: the Secretary for losses from borrower defense claims or a debt or liability arising from an audit, investigation, or similar action initiated by a State, Federal, or other oversight entity essentially, a lawsuit from a private party (if the school settles or loses a motion for summary judgment) that exceeds the lesser of the threshold amount for which an audit is required under 2 CFR Part 200 [currently $750,000] or 10 percent of current assets.. 15

16. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility LOC Based on 10% (or more) of Last Year’s Title IV A school is not financially responsible if: Any time during the last three years the institution was: sued by one or more State, Federal, or other oversight entities based on claims of any kind and the potential monetary sanctions/damages exceeds 10% of its current assets; required by its accrediting agency to submit a teach out plan, for a reason described under 34 CFR 602.24(c)(1), that covers the institution or any of its branches or additional locations; or placed on probation or show cause for failing to meet one or more of the agency’s standards, and the accrediting agency does not notify the Secretary of institutional compliance within 6 months thereafter 16

17. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility LOC Based on 10% (or more) of Last Year’s Title IV A school is not financially responsible if in the last year: As disclosed in a note to its audited financial statements or audit opinion, or reported by the institution, the institution— Violated a provision or requirement in a loan agreement with its largest secured creditor (unless waived with no conditions within reporting period); or Failed to make a payment in accordance with its debt obligations to its largest secured creditor for more than 120 days. Failed to meet 90/10 for one year, or CDR for two years For an institution with a composite score or 1.5 or less, any withdrawal of owner’s equity, with certain exceptions. 17

18. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility LOC Based on 10% (or more) of Last Year’s Title IV A school is not financially responsible if: The number of students enrolled in gainful employment programs that are failing or in the zone under the D/E rates measure in §668.403(c) is more than 50% of the total number of students in all the gainful employment programs at the institution. For publicly traded institutions, if the institution: disclosed or was required to disclose in a report filed with the SEC a judicial or administrative proceeding filed by a person or entity; failed to file timely an annual or quarterly report with the SEC; or if the SEC warns the institution that it may suspend trading on the institution’s stock, or the institution’s stock is delisted involuntarily. 18

19. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility LOC Based on 10% (or more) of Last Year’s Title IV Discretionary Events – LOC imposed if the event/condition is reasonably likely to have a material adverse effect on the financial condition, business, or results of operations of the institution: significant fluctuation in federal aid between award years; cited by a State licensing or authorizing agency for failing State or agency requirements; fails a financial stress test used by the Secretary school or parent has a non-investment grade bond or credit rating; has high annual dropout rates; or any event reported to the SEC. 19

20. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Financial Responsibility Schools must report to DOE w/in 10 days of occurrence of any triggering event Can post LOC, cash, or do a set off to pay LOC amount to DOE in 9 months Letters of Credit are cumulative If LOC is for pending borrower defense claims, LOC is equal to greatest annual loss incurred by the Secretary during the three most recent award years, plus % of pending claims against school Appeal process for imposition of LOC 20

21. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Arbitration A school may not require any student to pursue a complaint based on such acts or omissions through an internal institutional process before the student presents the complaint to an accrediting agency or government agency authorized to hear the complaint; The school may not obtain or attempt to enforce a waiver of or ban on class action lawsuits regarding borrower defense-type claims; The school may not compel the borrower to enter into a pre-dispute agreement to arbitration of a borrower defense-type claim, or attempt to compel a borrower to arbitrate such a claim by virtue of an existing a pre-dispute arbitration agreement; and The school must notify the Secretary of the initial filing of such a claim, whether in arbitration or in court, and must provide copies of the initial filing, certain subsequent filings, and any decisions on such claims. 21

22. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Reporting Requirements Must notify enrolled and prospective students of: any Letters of Credit; and if school has a Federal student loan repayment rate of less than 0 percent in any given year (below which the typical borrower is not repaying any of his principal balance within five years, i.e. is in negative amortization). Letter of Credit: Must disclose to students if school is required to have an LOC Provide “warning language” to be developed by the Secretary 22

23. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Reporting Requirements Repayment Rate Methodology: Determine original principal balance (OPB) of the loans for each borrower; Determine current principal balance of the loans for each borrower; Calculate difference between the original and the current principal balance of the loans for each borrower (express as % reduction off OPB); and On a scale where % reductions in OPB are positive values and % increases in principal are negative values, determine the median value. Looking at 5 year repayment rate Only look at Title IV debt (but not Parent Plus or Teach Grants) Exclude loans of students that were in military, died, received disability discharge or were in school during measurement period Appeal process 23

24. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment False Certification False Certification: HS Diploma and Disqualifying Condition Certified the eligibility of a student who is not a high school graduate based on a high school diploma falsified by the school if the student: Reported not having a HS diploma Didn’t meet GED or other alternative and school certified anyway Or if the school certified the eligibility and: High school graduation status was falsified by the school Certification was based on a high school diploma falsified by the school or a third party with which the school had a referral or affiliation relationship 24

25. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment False Certification “The Secretary may discharge all or part of a loan as appropriate under this section without an application from the borrower if the Secretary determines, based on information in the Secretary's possession, that the borrower qualifies for a discharge. Such information includes, but is not limited to, evidence that the school has falsified the Satisfactory Academic Progress of its students, as described in §668.34.” 25

26. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Closed School Discharge Notice of Closed School Discharge – Included in PPA “Upon submission of a teach-out plan to its accrediting agency... under which the institution proposes to complete education for currently enrolled students either at another campus of the institution or by arrangement with another institution, the institution will provide all enrolled students with a closed school discharge application and must disclose to all enrolled students that they may seek a closed school discharge as an alternative to the teach-out. (i) DOE termination action or emergency action (ii) Accrediting agency acts to W/S/T accreditation or preaccreditation (iii) Revocation of state license or authorization (iv) Institution intends to close location that provides 100% of one program (v) The institution otherwise intends to cease operations 26

27. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Borrower Defense to Repayment Looking Ahead Comment period 45 days – Due by August 1 Final Rule to be published by November 1 Effective July 1, 2017 Department to develop a procedures manual, much like the CDR appeals manual New division will feature prominently in enforcement 27

28. © Hogan Marren Babbo & Rose, Ltd. All rights reserved | Questions? 28 Dennis Cariello Hogan Marren Babbo & Rose Dennis.Cariello@HMBR.com 212-422-4900 Jonathan Tarnow Drinker Biddle & Reath LLP Jonathan.Tarnow@DBR.com 202-354-1357