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U.S. student loan borrowers face processing problems, watchdog says

WASHINGTON, Oct 16 (Reuters) - Private student loan borrowers report payment processing errors that hurt their credit and raised costs, and lawmakers may need to step in if the problems hurt the economy, a U.S. consumer watchdog said on Wednesday.

Private student loans, which typically carry higher interest rates than federal loans, boomed in the years leading up to the 2007-2009 financial crisis, the U.S. Consumer Financial Protection Bureau said in an annual report.

The bureau estimated outstanding private student loan debt in July at $165 billion.

Borrowers who now struggle to pay off those loans reported processing problems that resembled the servicing issues mortgage borrowers faced in the wake of the crisis, the report said.

It said significant problems unraveled in the mortgage servicing market that hurt the broader economy and said the similarities in the private student loan industry were a warning sign.

"If the industry fails to correct deficiencies in the student loan servicing market, policymakers may need to act to avoid further negative consequences for the economy," it said.

The bureau has said in the past that students with heavy debt loads would be less likely to take out home mortgages or consumer loans, thereby reducing personal spending, which is an important component of economic growth.

Congress created the consumer bureau in the 2010 Dodd-Frank law and called for an ombudsman who would watch over bank and other loans to students pursuing higher education.

The consumer bureau's report on Wednesday incorporated about 3,800 complaints submitted to regulators starting in October 2012. The report did not deal with federal loans, which make up the vast majority of the student loan market.

Borrowers reported difficulties modifying private loans, paper checks that were lost by their servicers and late fees caused by delays between the time when they submitted payments and when the payments were fully processed, the bureau said.

Consumers with multiple loans said they were not able pay off the ones with higher interest rates first. Borrowers whose loans were transferred reported facing fees after the new servicers lost paperwork or made other errors.

Regulators have cracked down on misdeeds in that arena, and the consumer bureau issued rules governing mortgage servicing. Banks could apply those changes, such as improving communication and error resolution, to student loans, the report said.

Lawmakers also could require banks to clean up student loan servicing if the problem persists, the report said.

The private student lending and servicing markets are highly concentrated, the bureau said. Big lenders include SLM Corp , or Sallie Mae, and Wells Fargo.

The private loan market is considerably smaller than federal student loan programs. Consumer bureau officials have estimated outstanding student loan debt at nearly $1.2 trillion, about $1 trillion of it through federal government programs.

But for borrowers who graduated at the time of the financial crisis, private student loans were more common. Among that group, about 80 percent of borrowers with more than $40,000 in student debt had used private loans, the bureau said.

The market has shrunk in recent years. JPMorgan Chase said in September it would stop making student loans.