By Kathy Chu and Sandra Block, USA TODAY

For weeks, an investigation of the student loan business has been scrutinizing whether close ties between lenders and colleges have enriched them at the expense of debt-laden students.

New York Attorney General Andrew Cuomo, at the forefront of the probe, has urged an end to inappropriate loan practices and attacked "the vicious cycle of debt perpetuated by lenders and their university partners." Proposed reforms, says Joseph Bruno, the New York Senate leader, would increase accountability and help spare students from "fraudulent lending practices."

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There's just one problem: These efforts would do little to rein in the fastest-growing area of the market: loans that aren't federally backed, whose rates can generally rise without limit. Bills in Congress wouldn't affect rates on these loans, often called "private" loans.

And because Congress hasn't raised the amount you can borrow on federal loans since 1992, more and more students have had to turn to higher-cost private loans. Many are stuck with mortgage-size debt for decades.

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"Enrollment continues to go up, and tuition continues to skyrocket, while federal loan limits remain low," says David Hartung of DBRS, a credit rating agency. "That's the perfect storm for the continued growth of private loans."

Take Jen McGowan, a 30-year-old Los Angeles filmmaker. She had little choice, she says, but to pack on private loans after maxing out on federal aid. McGowan owes about $275,000, having borrowed to pay for much of her undergraduate years at New York University and graduate school at the University of Southern California. She worries about defaulting. About half her debt is in private loans with adjustable rates that have hit 10%, compared with 3% on her federal loans.

"I'm a person who wants to pay. My problem is how to pay it back. The odds are stacked so hard up against you."

Debt on private loans has soared an average 27% yearly since academic year 2000-2001. These loans now make up one-fifth of student debt, up from 4% a decade ago.

Some consumer groups, including the National Consumer Law Center, say lax regulatory oversight is at least partly to blame for the sharp growth of private loans. Various agencies — Office of the Comptroller of the Currency, the Federal Trade Commission, Federal Reserve, Office of Thrift Supervision and the Federal Deposit Insurance Corp. — oversee private loans. The regulators say they haven't seen a steady rise in complaints and haven't taken action against any lender related to private loans.

State agencies also monitor private loans. The Education Department, meantime, says it has authority to regulate federal, but not private, loans. Still, it plans to discuss with other agencies ways to curb abuses in private loans.

"All of them look like scarecrows pointing in other directions," says Robert Shireman, executive director of the Project on Student Debt. "This is an area we need more aggressive attention from regulators."

Like McGowan, most students who take out private loans do so as a last step. At that point, they've typically exhausted lower-cost borrowing from federal sources, such as Stafford loans. The most you can borrow on Staffords as an undergraduate and graduate is $138,500 combined. That's often not enough.

"I knew (private loans) were going to be more difficult to deal with," McGowan says. "But I was looking at it as, 'Should I get an education or not get an education?' "

Consumer advocates worry that some students are taking out private loans even when they qualify for less-expensive federal aid.

In 2000, when Brendon Hill enrolled at Frostburg State University, nestled in the Appalachian highlands of western Maryland, he didn't know the difference between federal and private loans. Two years after graduation, his debt has swollen to nearly $63,000 — about three-quarters of it from private loans with adjustable rates, now as high as 12%. Hill blames a "very complicated" aid process.

"For people on their own who don't have enough background" in finances, he says, "it's pretty easy to fall onto hard times."

As it happens, lenders that offer federal loans are often the same ones that aggressively pitch private loans, as well. That's why it's all too easy to get hit with more expensive loans. The top rate on Stafford federal loans is capped at 6.8%. But private loans have no such ceiling. Nor do they include loan limits or the flexible repayment terms and protections that federal loans do.

"A lot of people are looking to the private-loan market as the panacea for the cost of education going up," says Willis Hulings of the Education Resources Institute, a guarantor for private loans. "They're not a panacea, because they have to be used properly."

Some lenders also co-brand private loans with schools. That's a practice that can lead students to assume they're getting school-approved loans with more favorable terms than others on the market.

Congress' response

A bill that would curb some of the aggressive marketing practices passed the House this month. The bill, called the Sunshine Act, would require lenders to tell students before they take out private loans about their ability to take out federal loans. It would also require mail sent directly to students to include notification that lower rates might be available on federal loans.

The bill enjoys bipartisan support in the Senate. But it faces a hazy future if it ends up being rolled up into a broader package of education reforms rather than considered as an individual proposal.

Rep. George Miller, D-Calif., head of the House education committee, has asked the FTC to look into "deceptive marketing practices" on private loans. His office says it's found cases in which lenders use what appear to be government logos and "threatening" statements on student mailings, such as "failure to respond could result in higher monthly payments."

Such tactics, Miller says, amount to "predatory lending." He says his committee will weigh ideas to ease student debt loads, including the need for further borrower protections on private loans. But Miller says his panel lacks jurisdiction to deal with private-loan rates.

Luke Swarthout, a consumer advocate at the U.S. Public Interest Research Group, notes that regardless of which committee has oversight, "Congress does have jurisdiction over banks and consumer credit, and it has the capacity to regulate the private loan market."

Consumer groups say they're troubled by private loans' high rates — which can approach those of credit cards — and fees. The National Consumer Law Center has asked that Congress set a top rate on these loans, similar to federal loans. Doing so would let borrowers pay off the debt more quickly.

Private-loan rates of up to 20%

Yet, the law center says getting Congress to regulate private-loan rates would be difficult. In recent years, lawmakers have seldom addressed loan rates that are based on credit records, as private loans typically are. (Rates on federally regulated student loans are not tied to borrowers' credit records.) Private-loan rates range from 7% to more than 20% for those with poor credit, the Education Resources Institute says.

The Consumer Bankers Association argues that regulating the rates that lenders can charge could lead to fewer borrowers qualifying for private loans.

"If private loans must carry an interest-rate cap, you're going to have people who are currently eligible not be able to get these loans" because of their credit, says John Dean, special counsel for the CBA.

High loan rates often force borrowers to make painful sacrifices. Christine Margiotta, 27, says she was on her way to realizing her dream of becoming a features reporter for a major newspaper a few years after earning a master's in journalism from Syracuse University.

Then her loan bills came due. Margiotta had received a one-year forbearance on her private loans and sought an extension. She was denied. As a result, she had to take a higher-paying job in communications.

"In the beginning, I really resented that I had to leave a job that I really loved because I couldn't afford to make a student loan payment," she says.

A stricter bankruptcy law that took effect in 2005 made life even harder for those with private loans. Borrowers must show "undue hardship" to erase private loans via bankruptcy. That standard, which has long applied to federal student loans, is almost impossible to meet, bankruptcy attorneys say.

Regulators say they hope their crackdown on colleges' "preferred lender" lists and on perks that some lenders have given to college officials could lead to lower-cost borrowing options for students.

Cuomo crafted a code of conduct that bars lenders from plying colleges with gifts to get on their preferred lists. Most students pick a lender from the lists. So far, 24 colleges and six lenders have agreed to the code.

The drive to reform the preferred lists is a positive step but won't be enough to curb predatory student lending, says Deanne Loonin of the National Consumer Law Center. "We also need to look at the loans themselves and the abusive terms," Loonin says.

Federal law already bars lenders from giving inducements to schools to gain access to borrowers. But the law doesn't apply to private loans.

Critics say lenders have used this loophole to win spots on schools' preferred lists for private loans, then angled for a spot on the list for federal loans, too. At many schools, the same lenders are on preferred lists for federal and private loans.

"We no longer have confidence in those lists," says Miller, the House committee chair.

George Pappas of EduCap, a lender, says conflicts of interest will exist until lenders are barred from offering private and federal loans at the same college. EduCap is one of the few to offer private but not federal loans.

Pappas says some lenders offer private loans to those who wouldn't otherwise qualify, in exchange for a spot on a school's preferred lender list for federal loans. That raises the likelihood, he says, that borrowers will end up with private loans they can't repay.

Pappas argues that if lenders had to choose between offering private or federal loans at a given school, they'd review borrowers more carefully. They'd be less likely to give private loans to risky borrowers, he says.

Colleges say there are valid reasons why a lender might be on a school's private as well as federal loan lists. Schools weigh quality of service in choosing lenders, "and the service is the same" with any type of loan, says Barry Burgdorf, general counsel of the University of Texas college system.

At UT-Austin, most of the companies on the private-loan list also appeared on its most recent preferred list for federal loans. The university system has suspended those lists, though, after revelations that UT-Austin's financial aid director held stock in a preferred lender.

Sarah Smarsh, 26, of Lawrence, Kan., recalls being directed to a handful of options for private loans as a Columbia University grad student. She chose a lender from that list after exhausting federal aid, because she felt a school-vetted company would offer the best deal.

Robert Hornsby, a spokesman for Columbia, says its preferred lenders generally offer favorable rates, repayment options and service.

Smarsh wonders whether she could have obtained a lower-cost loan. Her private-loan debt carries a roughly 9% variable rate, about three times the fixed rate on her federal loans. She estimates that once she pays off her loans, in about 20 years, she'll have paid at least $60,000 in interest — about 70% of the sum she originally borrowed.

"I took on a New York level of student debt and went back to a place where there are only Kansas levels of income," says Smarsh, who's working two jobs, as a freelance journalist and as a non-profit fundraiser, to keep up with her loan payments.

She regrets having to take out the private loans but says the government left her little choice if she wanted a Columbia degree: "The cost of education keeps skyrocketing, but the aid doesn't keep up. The people who get caught in the crossfire are people like me, who don't have the financial means."