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March 21, 2008

Student Loans, Without the Bank

In these days of tightening credit and Wall Street nervousness about new ways of lending money, introducing an innovative online student loan service seems courageous indeed. But that is what Fynanz, Inc. has recently done. Fynanz takes the social network idea, and combines elements of eBay auctions and microcredit to offer students a new way of borrowing money for their studies, that involves neither banks nor the government.

Fynanz's basic service is called the OpenLoan. Students (U.S. citizens or permanent residents) can take out an OpenLoan for their educational expenses only: tuition, room and board, books, computer, and associated living expenses. Individual loans range from $2500 to $20,000. Students can borrow up to $120,000 for an undergraduate degree or $160,000 for a graduate degree. OpenLoans have long-term repayment terms: Balances of less than $5000 run for 10 years; loans of $5000 or more have 20-year terms.

Fynanz's terms may be generous, but the company isn't crazy. If a borrower is under the age of 21, without a verifiable income, or employed for fewer than 2 years, the loans must be cosigned. The cosigners, most often parents, must meet the criteria for an individual loan. Fynanz charges an upfront fee for borrowers and the company does not claim to have the lowest interest rates. In fact, the Fynanz site encourages borrowers to first check out federal student loans, which usually have lower rates, before borrowing from Fynanz.

There's one more requirement for students: Fynanz gives each student a grade, called a Fynanz Academic Credit Score, or FACS. FACS is an index that quantifies academic achievement and loan history; the company says it's a better indicator of creditworthiness than the traditional credit score. FACS helps determine the interest rate that the borrower pays to the lender. In general, the company says, the higher the FACS, the lower the risk to the lender, and thus the lower the interest rate to the borrower.

Once approved and FACS-graded, students can then enter the Fynanz marketplace, where lenders evaluate the borrowers and bid on lending money to students. Students create and post profiles discussing their academic backgrounds, work history, extracurricular activities, FACS score, and loan requirements. The profiles can also include photos. (Here's a hint: Be more judicious in your choice of photos on Fynanz than on Facebook.)

Lenders can be anyone who wants to put their money directly into the education of individual students, but Fynanz also takes some of the risk out of the deal. While lenders can be total strangers to the students, Fynanz encourages family and friends to bid on the loans to help create competition and drive down the interest rate. This part of the Fynanz service adopts the microcredit idea of social pressure to encourage loan repayment. The experience of Grameen Bank and other microlenders suggests borrowers are less likely to default on a loan from someone they know than a total stranger. To further encourage lenders to use the marketplace, Fynanz guarantees the loan from 50 to 100% based on the borrower's FACS grade.

Please note that because Fynanz is a new service, it still needs to get approval from most state authorities, and right now it's available only to borrowers who are residents of New York and Florida. Borrowers from New York and Florida can attend a university in any state, and lenders likewise can come from any state. The company plans to enlarge its operating area as it gains states' approvals.

Will the Fynanz idea succeed?  Only time will tell, but it seems like a better business proposition than sub-prime mortgages.

Hat tip: TechCrunch.

 

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