Federal and Private Student Loans from A to Z
When you are looking for student loans, there is a dizzying array of options. Broadly, there are federal loans from the government, and private loans through banks and other lenders. Within each category is a variety of loan types, each with their own pros and cons.
Students should always use and max out federal loans before looking into private borrowing. Federal loans are generally cheaper, easier to obtain, and have better repayment terms and conditions than private loans.
What Are Federal Student Loans?
Federal loans are borrowed from the federal government. They offer fixed interest rates, along with protections and favorable repayment terms. Some of their benefits include income-based repayment, longer deferment options, and loan forgiveness opportunities.
Direct or Stafford Federal Loans
Direct loans from the government can be subsidized or unsubsidized. A subsidized loan is a better deal, because the government will pay the interest on the borrowed money while the student is in school and for six months after graduation. Subsidized loans are only available to students who demonstrate a financial need as determined by the FAFSA.
Unsubsidized direct loans are available to any student, but begin accruing interest right away. The 2020 interest rate for direct undergraduate student loans is 2.75%. For graduate students the rate is 4.3%.
Undergrad or graduate students are eligible for direct loans, whether dependent or independent. In order to borrow a subsidized or unsubsidized federal loan, you MUST fill out the FAFSA.
As of 2018, the maximum total amount of direct loans a student can borrow during their college career is:
- Year one maximum of $5,500, up to $3,500 subsidized
- Year two maximum of $6,500, up to $4,500 subsidized
- Year three and onward maximum of $7,500 per year, up to $5,500 subsidized$31,000 for dependent undergraduates, no more than $23,000 subsidized
- Year one maximum $9,500, up to $3,500 subsidized
- Year two maximum $10,500, up to $4,500 subsidized
- Year three and onward maximum of $12,500 per year, up to $5,500 subsidized$57,000 for independent undergraduates, no more than $23,000 subsidized
- $138,000 for graduate students, which includes undergraduate loans, no more than $65,500 subsidized.
Federal PLUS Loans
A PLUS loans is often known as a Parent PLUS loan because undergraduate students cannot obtain this loan directly. To be eligible, you have to be the parent of a dependent undergraduate, a graduate student, or enrolled in a professional education program.
To qualify, the student must be enrolled at least half-time. The borrower’s credit will be reviewed for adverse events, but not specifically for credit score or debt-to-income ratio. If red flags are present, a cosigner may be required. There is no early release for a cosigner on a PLUS loan.
A PLUS loan carries the highest interest rate of any federal loan, although it is still a fixed rate. Effective July 1, 2020, this rate was 5.3%. You can apply by submitting the FAFSA.
A PLUS loan also has a 4.236% disbursement fee. A disbursement fee (and also called an origination fee) is kept by the lender when the loan is sent, meaning that you will only receive 95.7% of what you borrowed. However, you are responsible for repaying the full amount, with interest.
The maximum for a PLUS loan is the cost of attendance, set by the school, minus any other financial aid received. Due to the higher rates and disbursement fees associated with a federal PLUS loan, it may be worth looking into if a student qualifies for private student-based loans first (most likely with a co-signer) and then compare the total cost of the loans.
What Are Private Student Loans?
Once federal loans have been exhausted, you may find that your student still has additional financial need. This is where private loans come in. There are private loans for students and for parents, and each one has its own terms and conditions.
Unlike federal loans where rates and terms are the same for everyone, private loans are tailored to your credit and financial history. As a result, it pays to shop around. Private loans are available from banks, credit unions, and state agencies.
Private Student Loans
Private loans for students are a way to help pay for college if federal funds are not enough. A student will be reviewed by standard underwriting guidelines, which means that credit history and credit score are important. In most cases, a student’s credit history will not be strong enough to qualify, and they will need a cosigner.
You will find both fixed-rate and variable-rate loan options. While variable rate loans may have a lower interest rate, it can change over time. This makes it hard to know exactly what future payments will be or how much interest you will pay. Certain private lenders may offer forbearance or deferment options, but it isn’t common.
After graduation, a student’s new income and credit rating may allow private loans to be refinanced to get better interest rates. A federal PLUS loan can also be refinanced into a private student loan if a parent wants to shift the responsibility to the student.
You can seek private loans at a variety of financial institutions.
Private Parent Loans
Private parent loans were introduced to compete with federal PLUS loans, and have begun to gain ground as PLUS interest rates have increased. These loans may be lower priced than a federal PLUS loan, but they won’t have the benefits.
If you have a federal PLUS loan, you may be able to refinance it into a private parent loan. This can help you save money on interest.
Use Caution When Borrowing
At the end of the day, every loan requires repayment. Encourage your student to look carefully at the financial arrangements they make for school. Late payments can have a big impact on credit history and the ability to make major purchases in the future.
If a graduate has trouble finding a job, or can’t find well-paying work, large loans can become a major problem. Make sure you and your student borrow only what is truly needed for school. Rely as much as possible on working during school/summers and finding a school generous with grants and scholarships to help reduce the amount of money you may need to borrow.
Before being approved for a loan, the borrower (you or your parents) will undergo a credit check to make sure they don’t have any red flags in their credit history.
Graduate students and parents seeking to take out federal PLUS loans may also need a cosigner if they have any adverse credit history within the last five years, such as bills that are more than 90 days overdue, or a bankruptcy or foreclosure.
Those who endorse a PLUS loan (the government’s term for a cosigner), cannot be released until the loan has been repaid in full. Servicers collecting payments on federal PLUS loans can use the same tactics against endorsers that they employ against the delinquent borrowers, including wage garnishment.”
- Parent PLUS Loans generally do not require cosigners. However, if the borrower has an adverse credit history, the borrower can still qualify for a Parent PLUS loan by getting an endorser who does not have an adverse credit history. An endorser is similar in concept to a cosigner. While more than 90% of private student loans require a creditworthy cosigner, private parent loans generally do not require cosigners. Also, when private loans require a cosigner, they often offer a cosigner release option, while Parent PLUS Loans do not offer cosigner release options for endorsers.
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