WASHINGTON — The Department of Education issued a proposal Friday that would tighten restrictions on the types of arrangements that colleges can enter into with financial institutions to disburse federally guaranteed loans to students.

The Education Department oversees more than $137 billion in either direct loans to students or guaranteed loans made by private financial institutions per year. The proposal issued Friday would affect roughly $25 billion worth of loans per year.

Ted Mitchell, the undersecretary for the agency, said the plan would end a number of practices that restrict borrowers' ability to access their loan balances and would ensure that students and their families have accurate information about their rights.

"It is critically important to ensure that students can freely choose how to receive their federal student aid refunds," Mitchell said. "Students need objective, neutral information about their account options. For example, students should be able to choose to receive deposits to their own checking accounts and not be forced to utilize debit cards with obscure and unreasonable fees."

The proposal would bar colleges from requiring students to open an account with a specific financial institution to receive their federally-backed loans, and also prohibit any college-endorsed account from incurring overdraft fees. The proposal would also block colleges from implying or suggesting that an account at a preferred institution was required, and would mandate that colleges provide students with a neutral list of account options in which they can receive their loan balances.

FIs would also be also barred from prioritizing student loan payments to their own accounts over those of other financial institutions under the proposal, and students must have "reasonable access" to surcharge-free ATMs in which to access their funds.

Student loans have been an increasing priority for financial regulators and the White House.

The proposal comes only a day after the Consumer Financial Protection Bureau launched an inquiry into the practices of student loan servicers amid concerns that some servicers were engaged in practices that ran up fees or even caused students to go into default. And in March the White House issued a list of priorities, called a "student bill of rights", aimed at ending predatory lending practices for student loan borrowers.

In the proposal, the Education Department said that it had received scores of reports on arrangements between colleges and banks where the student's loan funds were channeled through prepaid cards or even student identification cards managed by specific financial institutions.

Other cases were documented where students without an account at the preferred FI received delayed payments, and students who did have accounts with the preferred provider were "being charged onerous, confusing, or unavoidable fees in order to access their student aid funds or to otherwise use the account."

Consumer advocates praised the proposal, calling it a strong initiative aimed at barring longstanding unfair and predatory lending practices in student lending. Maura Dundon, senior policy counsel for the Center for Responsible Lending, said the provision to bar overdraft fees in student accounts would be especially helpful, citing their recent study that showed that a quarter of campus account holders face overdraft fees that top $250 per year.

National Consumer Law Center associate director Lauren Saunders noted that the proposal is "sorely needed to fix a broken system where some schools put revenue-sharing deals ahead of the interests of their students."

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