Taking out a loan can seem scary, but don’t worry, collegiettes! You’re not selling your soul—you’re investing in your future. If your scholarships, grants, personal income, and savings won’t completely cover the cost of college, taking out a loan is the next best solution to bridge the gap for your academic future. To navigate the complicated world of student loans, Her Campus spoke with Irene Jasper, Director of the Office of Student Loans at Duke University, as well as Mark Kantrowitz, a nationally recognized expert on student financial aid and the founder and publisher of FinAid, publisher of Fastweb and author of Secrets to Winning a Scholarship.
What are college loans?
A college loan is a form of financial aid that must be repaid, sometimes with interest. There are two major categories of loans to choose from: federal and private.
1. Federal Loans
Federal loans are funded by the government through the U.S. Department of Education. They are by far the most flexible of student loans because they offer several repayment options designed to meet the individual needs of borrowers. Generally, borrowers have 10 to 25 years to repay their loan, depending on their repayment plan. Federal loan repayment doesn’t begin until after you finish college, plus a six-month grace period. Although these loans are decided according to a student’s financial need, almost every college-bound student is eligible for some form of government loan, whether subsidized or not. Subsidized federal loans are interest-free while you’re enrolled in college, during the grace period after college and during deferment periods. This interest-free period saves you a significant amount of money in the long run. However, not all federal loans are subsidized. Unsubsidized loans begin accumulating interest on the day the loan is sent to your school. Whether an education loan is subsidized depends on your family’s financial circumstances.
1a. Federal Student Loans
The most common federal loan for students is called the Stafford Loan. All Stafford Loans are either subsidized or unsubsidized, but you can only receive a subsidized Stafford by demonstrating sufficient financial need. The interest rate for subsidized Stafford Loans is fixed at 3.4% while the rate for unsubsidized Stafford Loans is fixed at 6.8%.
The other type of federal student loan is the Perkins Loan. This loan is a campus-based loan program that is awarded to students with exceptional financial need. In this case, the school acts as the lender, using a limited pool of funds provided by the federal government. The interest rate is fixed at 5%, one of the lowest available. The amount a student receives is determined by their school’s financial aid office based on their financial need and availability of funds. In this case, the school is the lender, so students make payments to their school. However, not all schools participate in the Perkins Loan program.
1b. Federal Parent Loans
Parents of dependent students can also take out loans to supplement their children’s aid packages. The federal Parent Loan for Undergraduate Students (PLUS) program allows parents to borrow money to cover the costs not already covered by their dependent student’s financial aid. Paying back PLUS Loans are the financial responsibility of the parents, not the student. These loans have a fixed interest rate of 7.9% and the maximum loan amount is the student’s cost of attendance minus any other financial aid received. Eligibility for the PLUS loan depends on a credit check to determine whether the parental borrower has an adverse credit history. Repayment for PLUS Loans begins 60 days after the funds are fully disbursed, and the repayment term is up to 10 years. Parents have the option of deferring repayment while their student is in school and for a six-month grace period after the student graduates. Interest on the PLUS loan is never subsidized.
2. Private Loans
Private loans are nonfederal loans made by a lender such as a bank, credit union, state agency, or school. They help bridge the gap between the cost of your education and the limited amount that the government loans you. These loans are made directly to students, are never subsidized, and require no federal forms. Private loans are decided according to an applicant’s credit history, and for most students, this will require a co-signer on the application. According to Jasper, “while private lenders may offer some forms of flexible repayment, they are not as flexible as the U.S. Department of Education.” A list of private student loan programs can be found here.
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How do you apply for a loan?
- Create a personal identification number (PIN) to use throughout the process of applying for and repaying your loans.
- Complete the Free Application for Federal Student Aid (FAFSA). Many states and colleges use your FAFSA data to determine your eligibility for state and school aid, and some private financial aid providers may use your FAFSA information to determine whether you qualify for their aid. You can submit your FAFSA any time between January and June for loans for the fall semester, but state and school-specific deadlines are often much earlier, so apply as soon as you can. It’s also possible to send your FAFSA by mail, but applying online is faster and easier.
- A few days later, the U.S. Department of Education will send you a Student Aid Report (SAR). The top right corner of your SAR will list your Expected Family Contribution (EFC). This number determines the type and amount of financial aid that you are eligible to receive. Your SAR is a good indication of how much aid you can receive, but does not list the exact amount that can be borrowed or if any of your loans can be subsidized.
- The schools listed on your FAFSA will then use your SAR to determine your specific aid package based on factors such as your grade level, the cost of attendance and any special financial circumstances you may have. Shortly after your SAR arrives, you will receive details of your financial aid package for each school you’ve applied to as a Financial Aid Award Notice.
- Review your award notices from different schools to determine the best option for financing your education. “What matters most about a loan is: how much you can get, when repayment begins, how much you must pay per month and the total amount repaid over the life of the loan,” says Kantrowitz. Generally, a loan with a higher interest rate will cost more. Use The College Board’s Student Loan Comparison Calculator to figure out which loan option will ultimately cost you the least money.
- Accept your financial aid award package and make sure you understand it. Loan-experienced collegiette Julissa Mesa, a senior at Rowan University, knows about the importance of reading the fine print. “I learned the hard way when my credit began to mess up because some loans require you to pay interest while in school,” says Julissa. “Taking out a loan is a life-changing decision, so students must do their research to find which loan is best for them.”
Federal vs. Private Loans: Which Should You Choose?
Hands down, federal, need-based loans are your best option. “Students should borrow federal first, as federal education loans are cheaper, more available, and have better repayment terms than private student loans,” advises Kantrowitz. These loans are the best choice because they have the lowest interest rates, can be subsidized by the government, don’t require a credit check, and allow you to defer repayment until you’re out of school and, hopefully, earning an income. Additionally, federal loans offer fixed interest rates, while private loans vary between having fixed and variable interest rates. It’s possible to receive a lower rate on a variable private loan than a fixed federal loan, but Jasper does not advise taking the risk since interest rates are guaranteed to go up while you’re in school. “If a student needs the full 10 years to repay their loans, the rate could end up exceeding that of a federal loan, and actually cost them more,” notes Jasper. “Fixed rates for federal loans are usually going to be less than private loans.” Additionally, federal loans allow you to temporarily reduce the amount you pay when facing difficulties, as well as postpone repayment during economic hardship or unemployment. These loans can even be forgiven if the borrower works in public service.
“Given all these considerations, the only time a private loan is preferred over a federal loan is if the borrower is able to qualify for a lower interest rate, and the borrower is able to repay the loan over a relatively short period of time, as in five years or less,” says Jasper. “Federal loans are always the better option. Private loans should be used as a last resort and with a great deal of care.”
Whether federal or private, if you choose to take out a loan, don’t treat the loan limit as a target. You absolutely are not required to borrow the entire loan amount you are offered in your financial aid award letter. “It is literally cheaper to save than to borrow, so try to borrow as little as you need,” says Kantrowitz. “Live like a student while you are in school so you don’t have to live like a student after you graduate.” Anything you borrow now will cost you more later. Student loans can be your ticket to a college degree and a bright future as long as you pay your loans back. “A loan is not free money,” says Kantrowitz. “It does not reduce college costs. Every dollar you borrow will cost about two dollars by the time you repay the debt.”