WASHINGTON -- A group of student loan servicers filed suit this week to block a set of government regulations that, if implemented, could raise costs for banks and other educational lenders.

Affiliates of USA Group Inc., Indianapolis, argued in their lawsuit that the new regulations would permit the Department of Education to hold third-party servicers responsible for repayment of loans on which small errors were made.

"Today, servicers don't have any liability," said Edard R. Schmidt, general counsel for USA Group. The regulations, however, "impose more liability on third party servicers than on the actual lender."

Lenders Fear Higher Prices

If the regulations are put into effect as scheduled on July 1, lenders fear that servicers will raise their prices to offset the increased risk, said John Dean, special counsel to the Consumer Bankers Association.

"Some of the servicers are saying that if these regs take effect on July 1, thatit will mean fundamental change in the contractual relationship between banks and their servicers," Mr. Dean added.

At present, the liability of third-party servicers is a matter of contractual negotiation. It is the lenders who are responsible to the Department of Education for repayment of the loan.

The liability rules proposed by the Department of Education would hold the servicer jointly responsible with lenders for repayment of loans.

USA Groug argued in a statement released Tuesdasy that servicers could be liable for repayment of an entire loan if it violates a Department of Education regulation -- even if the mistake was small and inadevertent.

USAS Group's affiliate, USA Funds, is the nation's largest guarantor of student loans. The suit was filed by two of the group's processing affiliates, Education Loan Servicing Center and USA Services Inc.

Rules Could Ruin Loan Program

While lenders are concerned about increased fees, USA Group warned that the new regulations could cripple the existing guaranteed student loan program at a time when the Clinton administration is trying to phase it out.

Although prices are likely to increase, most lenders ae barred by law from raising their prices and may decide to exit the business rather than swallow higher fees.

As a resault, the rules "threaten to erode the public-private partnership that has been the foundation of the [guaranteed loan program] since its inception nearly three decades ago."

Direct Government Lending

The new servicer rules come as the Department of Education prepares to test the feasibility of direct government lending, a program that would put the government in competition with the private sector. Mr. Schmidt said the rules could make it easier for direct lending to win that test.

"We think these regs, when read in conjunction with other actions by the department, continue to favor the direct lending program to the detriment of [private sector lending]," he said.

It was not possible to obtain comment from the Department of Education Tuesday.

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