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South Dakota Regulator Moves to Shut Down ReliaMax AnnaMaria Andriotis and Katy Stech Ferek June 22, 2018

A company that insured billions of dollars of private student loans faces insolvency, raising concerns about smaller financial institutions’ ability to lend money to students heading to school this fall.

South Dakota’s insurance regulator has moved to shut down ReliaMax Surety Co., a Sioux Falls, S.D.-based company that offered insurance against losses to financial institutions that originated private student loans. The company, a subsidiary of ReliaMax Holding Co., provides insurance on about $2.7 billion in loans made by more than 400 lenders, according to people familiar with the matter.

Private student loan insurance has been a relatively safe investment because loss rates in the sector have been low compared with other types of consumer debt. But losses on some ReliaMax-insured loans began to creep up in recent years, according to people familiar with the matter. The company also found it had priced premiums too low for the policies of those older loans that weren’t being repaid, people said.

Other issues also weighed on the company’s finances. The insurance division had lent its parent company $21.8 million, and the parent company had been looking for investors or a buyer. Those efforts failed, according to people familiar with the matter and documents filed in a South Dakota court.

“The company could not secure the new capital needed to grow the entirety of its business,” a spokesman for ReliaMax said

ReliaMax pitched its services to smaller institutions looking to enter the private student-lending business but concerned about getting burned by loan losses. Credit unions and other institutions bought insurance from ReliaMax that would make them whole if borrowers stopped paying, died or filed for bankruptcy.

“This is going to have the biggest effect on credit unions and community banks,” said Brian Gunn, a managing director at MeasureOne. “Having the comfort of that additional insurance protection made it an easier asset class for them to keep on their balance sheet and offered additional comfort to their regulators.”

The nation’s private student loan lenders are owed about $113 billion, according to the latest data from MeasureOne, which tracks the industry. Unlike federal student loans, missed payments and losses on private loans have been low. Lenders often require cosigners who have high credit scores to sign onto the loans along with the student loan borrower.

ReliaMax’s insolvency raises questions about whether some of its clients will continue to originate new loans at the same pace. The next few months are typically a peak season for borrowing as students prepare for the fall semester.

Mark Kantrowitz, publisher at Savingforcollege.com, said without insurance smaller lenders may make fewer loans.

“They would have to absorb the losses themselves and that would involve maybe adopting stricter underwriting criteria” said Mr. Kantrowitz said, “and they might have to increase the interest rates they charge.”

The proposed liquidation came as a shock to many of its clients. Meta Financial Group Inc., which used ReliaMax to insure a $189 million portfolio, said in a statement it will increase loan loss allowances in light of the news. Some ReliaMax clients expressed concern that they won’t be made whole on future loan losses.

ReliaMax’s woes also mark a setback for Michael VanErdewyk, the company’s longtime chief executive, who had grand visions for the business. In a 2016 interview with The Wall Street Journal, he envisioned ReliaMax becoming the “Uber of private student loans” that connects borrowers with lenders. Mr. VanErdewyk left the company earlier this month, according to people familiar with the matter.

Write to AnnaMaria Andriotis at annamaria.andriotis@wsj.com and Katy Stech Ferek at katherine.stech@wsj.com