- On this page:
- Federal loans vs private loans
- Things to know about federal student loans
- Limits on federal student loans
- Federal loans for parents – Parent PLUS loans
- What if you need to borrow more than the government will lend you?
- How to tell if a lender is a private lender
- Be careful of taking out too many loans
Although College Money Matters suggests avoiding loans as much as possible, we also recognize that most students and their families will need to take out loans to cover at least some part of the cost of college.
That being the case, it’s important to know that there are different kinds of loans, and that some may be better for your financial situation than others.
Federal student loans vs private loans
Whether your family is rich, poor, or somewhere in between, you can take advantage of student loans provided by the US government. These loans (known as Federal Loans, Direct Loans or Stafford Loans) offer lower rates and more flexible payback options than you can find from almost any other source.
Those other type of loans are called private loans, because they’re issued by private, for-profit companies. For example, you may hear of some families using a mortgage or home equity loan to help pay for college. Or even people using their credit cards or taking a personal loan to do the same thing. But all those options usually have much higher interest rates, higher fees and more rigid payback terms than a federal student loan. So be sure that if you do choose to take out loans, use loans from the Federal Government first.
Things to know about federal student loans
- In order to qualify for a federal student loan, you must first submit the FAFSA form.
- You apply for federal student loans each year you’re in college (see this page for details)
- When your loan application is approved, the money is not paid to you. It is paid directly to your college. You will may not even see it. But when it’s time to pay the loan back, that will be your personal responsibility.
- While federal loans do offer better rates than you’ll likely find anywhere else, they can still be costly. For example, if you borrow $5,500 dollars through a student loan at a 6.5% interest rate, and pay it back over ten years, you’ll actually be paying back a total of $7,494.17. In other words, you’re paying to have $5,500 go to your college, and nearly $2,000 more to go to the US Treasury.
- With most federal student loans, you don’t have to start making payments until six months after you graduate, leave school, or drop below half-time enrollment. But, interest on your loan begins adding up from the moment your college receives the loan amount.
- Depending on your income, you will be granted either a subsidized or unsubsidized loan. A subsidized loan is where the government pays the interest that builds up while you are in college. With an unsubsidized loan, you pay whatever amount of interest accumulates during your years in school. NOTE: You do not get to choose which one you prefer. The government makes that decision.
Limits on federal student loans
Over the course of your college education, as of 2023, you cannot borrow any more than $27,000 from the federal government. What’s more, you can only borrow up to a certain amount each year.* Here’s how it works:
What many people don’t understand is that if you don’t borrow that $5500 in your freshman year, you won’t be able to add that amount to your sophomore year loan. It only works on a year-to-year basis.
You might also notice on the chart that the closer you get to graduating, the more you can borrow. However, if it takes you five years to complete your Bachelor’s Degree, the Federal Government decreases the amount you can borrow for that fifth year to $4500. That means not only will you have an extra year of tuition and other college-related costs, you may also have to borrow more from lenders that charge a higher rate.
*in most cases, assuming you are not independent from your parents
Federal loans for parents – Parent PLUS loans
The Federal Government will also provide loans to parents of college students under the Parent PLUS program, which you can apply for here. Unlike Federal student loans, the people obligated to pay back these loans are the parent, not the student – and it’s important for parents not to take on too much debt, too. How much is too much? Most financial advisors suggest that any family’s total debt payments – including mortgage or rent, car payments, credit cards, and other debt – should not be more than 36% of their income. And student loans should not exceed 10%. For more details on Parent PLUS loans, go to this page.
What if you need to borrow more than the government will lend you?
If the cost of the college you choose requires you to borrow more than the government loan limits, you could be facing the prospect of taking out a private loan. Offered by private lenders, which are for-profit companies that make their money from lending money, these loans have interest rates that are usually much higher than federal student loans, and have higher fees. That difference can cost you a lot more, for a long period of time. So we’ll say it again:
The College Money Matters team urges you to avoid private lenders whenever possible.
However, if you find you must use a private lender, be sure to do your research first. Go online, find several different student loan companies, and compare their rates, fees and loan features. If you are using a co-signer to reduce your rate please read about them here.
Be careful of taking out too many loans
You might also choose to borrow from a different lender each year, if you can get a better deal that way. But that leads to yet another complication. Between Federal Student Loans and private loans, you could end up with 16 different loans from a variety of lenders, along with a range of different interest rates. That can be a lot to keep track of, and when the time comes – a lot to pay back. To help get a sense of what it could feel like if you don’t keep track of it all, check out this story.
RELATED TOPICS:
How do student loans work?
Student loans don’t save you money
Helpful sites for paying for college