How to Work Student Loans

Student loans: how they work

When it comes to paying for tuition, college expenses along with study material and housing, many families need to borrow money for their sons. Scholarships and grants may be enough or not to cover the entire length of the studies course, and not everyone is eligible for them; personal savings are another possibility, but they could be just limited or absent. Before approaching student loans, you should anyway attempt to exploit these forms of aid, which in contrast with loans, won’t demand a future financial commitment.

A student loan is a credit product tailored to meet the need for young adults to finance their education: some schools and universities, in particular, have high costs while getting a degree from them is likely to be a great investment for the career of the student.

Student loans in the U.S. can be offered either by the government (federal) or by lenders such as credit unions, banks, and private specialized companies. They differ from each other in some aspects, and one can be better than another depending on your current situation and need.

Student loans are unsecured, which means if you aren’t able to make the repayments, you won’t risk a collateral asset (such as a car or house), but you will be still subject to wages and sources of income garnishment from the lender, up to undergoing legal issues.

Federal student loans are government-backed, implying that their amounts and eligibility requirements will be mainly dependent on your income, in contrast to private loans which rather look at your credit score. Federal loans constitute the vast majority of all student loans in the U.S. The main reason is that students pay low interest on the money borrowed, and it is easier to qualify for: you would have only to give proof of income and of your school/faculty admission. Parent borrowers choose such loans because they also like to consider forbearance or forgiveness options.

If you demonstrate to be in financial need, direct subsidized loans allow you as an undergraduate student to not paying interests while you’re attending college on at least a half-time basis; after completion, there is also a six month “grace period” during which you are free of all payments (both principal and interests). It also refers to a period of falling short of half-time enrollment. Then, your total repayment will begin. This type of loan has the lowest limits among federal ones.

If your income shows that there’s no financial need, you will get a direct unsubsidized loan, which is available both to undergraduates and graduates: you pay all the interests, that start accruing as soon as you are funded, so it will have a greater total cost than a subsidized loan, in the face of higher limits to borrow from. The grace period is also present, with the difference that interests will go on adding up to the total amount of the loan and repaid over its remaining lifetime.

Direct PLUS loans are federal loans aimed at the eligible graduates (students with professional degrees), and parents borrowers who are supporting undergraduates, that come purposely with higher limits (up to the cost of attendance) which can’t be reached by unsubsidized loans. These loans can supplement aids coming from other sources, as well. Interests are generally higher than other federal loans and (like unsubsidized) are paid suddenly as the money borrowed is credited. Because of these conditions, a credit history check is required, and an origination fee is subtracted from the total loan amount.

The elements of a student loan

  • APR (annual percentage rate): the interest rate plus potential fees. With private lenders, you can choose a fixed or variable rate: this latter option is enticing if the starting percentage is low, but you assume the risk to pay increased interests later. With federal loans, you can only choose fixed flat rates, that will stay the same over the loan course, despite the market fluctuations: this can’t be guaranteed when you choose banks or private lenders.
  • Loan term: the duration of your repayments, generally 5-20 years
  • Limits: typically $2,000-up to the total cost of attendance, depending on the lender
  • Repayment plans: monthly recurring payments are the standard, but federal loans offer varied options to help to manage the debt during hardship periods. Private lenders may also provide alternative schedules, but options are more limited
  • Fees: application, origination, late payment, possibly others. Some of these are calculated into the APR.

In the wide context of loans, interest rates assigned on student loans are relatively low because of their target customers: graduate students are just entering the job market, therefore not in the financial condition to repay big amounts on their loans, while undergraduates have little or no credit. Choosing a low APR is crucial to determine the size and affordability of your loan.

The best way to obtain a cheaper rate is to have at least a “good” credit score when trying to borrow from private lenders: if you don’t have it, most of them will allow a co-signer’s credit to implement yours. On the other hand, federal loans (except “direct plus loans”) set rates that are mainly income-based, with no consideration of credit score, which is highly likely to be absent for undergraduates.

Prolonging the duration of the loan, aka its term, is a strategy to lighten the recurring payments, but will increase the total amount of the loan because of interests adding up.

Some private lenders may charge a prepayment fee: some borrowers who have improved their income thanks to education can afford to accelerate the loan payoff by making an early repayment toward the loan term.

Federal vs Private Loans

Limits (max)$23,000/$57,500* (undergraduates) $65,500/$138,500* (graduates)Up to the cost of attendance
Interest ratesRoughly 4.5-7%Roughly1.8-12.5%*, advantageous for good to excellent credits
Interest typeFixed onlyFixed or variable
Terms10 – 25 years, possibly up to 305-20 years, possibly more
FeesOrigination feePossibly none
Credit requirementsNone for direct loans Less than good credit allowedAt least “good” scores required
Repayment optionsFlexible, and plenty ofNarrower
Borrower protectionAmple, including forbearance periods and foregivenessAvailable, but limited
*subsidized/unsubsidized amounts (source:
**including variable rates offers

The main repayment plans available from federal loans, besides the standard monthly schedule, are:

  • graduated plan: your installments will increase every two years over the 10-years loan term
  • extended: payments are made over a term of 25 years
  • “pay as you earn” (PAYE) plan: your recurring payment will be 10% of your income or the amount you can afford depending on how much you earn, with a loan lifetime of 20 years. It can’t overweigh the size of standard repayments
  • income-based repayment (IBR) plan: similar to PAYE, you pay between 10-15% of your income as maximum, over 20-25 years.

If losing the job because of not your fault, or having to face serious financial trouble, that prevents making the repayments for a long time, there are also possibilities of deferral, forbearance, or forgiveness depending on the borrower’s specific circumstances. Federal loans are looser to allow these practices, while private lenders are stricter or may not give some options at all.

So, choosing either a federal or a private student loan really depends on your needs, but mainly relates to your income, how much money to borrow, and your credit score.

Types of student loans

Whether you are in a stage or another of your studies path and depending on the field of education, several sub-types of student loans are available, each focusing on their specific characteristics:

  • Graduate school loans: these are aimed at students looking for several kinds of training other than business, medicine, or law
  • International student loans: private loans for eligible students coming from outside the U.S., not disposable from federal part
  • MBA student loans: if you are about to obtain a master’s degree in business and administration, these loans can support you in the first period after graduation, with details depending on lenders
  • Medical and law school loans: can provide the financial means to face the high demanding costs of these faculties, along the entire studies course.

When private student loans are the right option for you?

As mentioned, you should first try to qualify for other forms of free aid, then federal loans would be your best choice. They are the safest option, since they have fixed low rates, and the repayment schedule is favorable in many ways: interests are not paid during the years of study as for subsidized loans, otherwise there is a range of plans to meet eventual hardship periods. Even forgiveness of payments can be allowed in particular cases.
Typically, you may resort to private student loans to access higher borrowing limits that you can’t find in federal loans: many people begin to borrow from federal loans then embark on a private loan after having exhausted their maximum amounts and the cash coming from grants or federal aid. They are the obliged choice when you can not qualify for federal aid, or need more money than the maximum allowed from a federal loan.

The advantage of private student loans is that they are suitable for good to exceptional creditors: if you are among them, you will get low rates and more money to borrow. On the other hand, federal loans have set rates and limits, intended mainly to meet the needs of families with low income or less than a good credit score. Besides, with a private lender you can choose a variable interest rate to start with (if eligible), that is lower than standard: this can be a good move if you need the lowest possible rate in the short term, and supposing that you will be able to make increased size repayments since the likely future rising of interests.

Online private lenders strive to offer the most advantageous conditions, although rates will be overall higher, but still low in comparison to the more generic personal loans; in a nutshell, private student loans are an option if you need big amounts to finance your studies, you are in a good financial condition so that you can bear the interests and aren’t likely to rely on forgiveness options, that are nearly always absent with these loans. You can instead negotiate for an easier repayment schedule if an unexpected event temporarily worsened your wealth, and you had trouble keeping pace with the monthly installments.

While federal loans have preset parameters, requirements will be slightly different among lenders. You will be in a better position for qualifying, getting lower APRs as well as higher loan limits, by having the highest credit score possible for you, which means adequate income and managing of other existing debts.

The application process is easy from most private lenders (despite the necessary credit check), funding times are fast, and interest paid can be tax-deductible in some cases, like with federal loans.

Student loans with bad credit

It is possible to obtain financial support for studies also with bad credit: if you have cumulated debts, and you want to invest in your future with a strong education, options are certainly available. Beyond financial aids, the most basic federal loans don’t require your credit score to be checked: many Americans turn to them for a reason.

However, their limits are relatively low and might not be enough to cover the entire course of study: as mentioned, you would later resort to private student loans to borrow the remainder amount, although with bad credit they will require a co-signer with at least a “good” credit, in order to apply.

Refinancing vs consolidating student loans

Once your financial situation has improved, because after graduation you get a job giving you a steady greater income, replacing the old loan rates and term with a new one can be a way to reduce the overall size of your student debt, aka saving. Refinancing will usually involve switching to a lower fixed APR, which is made possible by obtaining a higher credit score, and a shorter loan term, because you will be able to make more substantial monthly repayments. Consolidation of multiple loans, on the other hand, is intended to get rid of their separate interests, decreasing the total amount of repayments to be made: they will be necessarily stretched over a longer term.

If you had more than one federal student loan, that could be the case if you are a parent borrower, at some point, you may choose to consolidate them: with a “direct consolidation loan”, you can aggregate more federal (only) loans into one, without any extra cost. Its interest rate will be the weighted average of all rates, so that won’t mean a lower percentage, and duration will be prolonged.

Private loans can, instead, be either consolidated or refinanced. Only private lenders can refinance existing loans, and different servicers will set varying requirements (above all your credit history) and loan conditions for your situation. In most cases, one may carry both federal and private student loans: if you are among them, some lenders can refinance the two into a unique payment, that would be more convenient for you. However, you will lose all the benefits of the underlying federal loan, such as the comprehensive borrower protection options.

How do you apply for a student loan?

If you want to proceed with federal aids or loans, you have to fill in the FAFSA (Free Application for Federal Student Aid) form: this is free and gives you also potential access to other than loans types of subsidies; it can be done both online and by papers, with a time response within a few days. Then, you will get a report with the communication of your eligibility for aids or loans. This information is deliberately shared with the college of destination: they send you an offer about the type of aid they can provide, or accept if it’s the case of a federal loan.

Ending up with private loans, instead, regardless of the lenders being banks, credit unions, or online companies, you will go through a process that is about the following steps.

  • Comparing lenders: you should take the time to see more offers to look for your most suitable conditions: interest rates, fees, limits, and repayments options, as well as customer reviews that speak of reliability and reputation of the company. Therefore, your best loan will result from an ideal combination of these factors
  • Prequalification: proceeding with lenders, most of them will do this. It means that your credit history will be priorly checked (a “soft check”, that won’t affect the score) to determine if you are eligible, for which rates and conditions; you might be noticed about the need for a co-signer if your financial status isn’t enough to afford the loan.
  • The real application consists of providing personal information: social security number, citizenship, income, eventual part-time job, school attendance and its cost (a letter of financial aid from your college), and others. In the process, you will agree to make the repayments according to the set APR, that you understand the payments recurrences and options along with any other conditions.
  • Approval will take several days or weeks depending on the lender. Once completed, the procedure will be communicated to the school of your attendance.

Since credit is most likely to be an issue for an undergraduate student, private lenders allow co-signers to use their credit score: if you currently have no income, none or poor credit, they will be mandatory for qualifying (or required if wanting to get a lower interest). Co-signers are trusted people, who become liable to repay the loan if the student delays or misses the payments, but in turn must have good to excellent credit scores, and giving proof of steady sources of income. Negligence of payments will affect both your and your co-signer credit score.

Alternatively, by considering the attendance of schools with potential for high-income jobs and careers, some lenders can decide to qualify a borrower without co-signers.

If you relocate during the course of your studies, mind that your lender might not underwrite in certain States; no two States are equal as for student loan conditions.

That said, we have reviewed a set of trustworthy and top-rated lenders. Make the best possible choice based on your needs.

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