The cost of college — including tuition, housing, textbooks and other fees — adds up for families. However, students are often eligible for financial aid, including scholarships, grants, work-study or loans to help reduce the overall price of attendance.
To be eligible for federal and some other forms of financial assistance, families must fill out the Free Application for Federal Student Aid, or FAFSA. Many experts say it’s important to take every step possible to limit taking out loans, which students have to pay back with interest. The FAFSA opens the door to work-study and Pell grants for students who are eligible, in addition to federal loans.
“Try to keep the debt load as low as possible as you finance your college education,” says Bruce McClary, senior vice president of memberships and communications for the nonprofit National Foundation for Credit Counseling. “The more time you spend doing that, and the more success you find in that area, the less of a debt burden you’re going to have when you graduate. Student loan debt is so much of a burden for so many people right now and it’s one less thing you have to worry about after graduation.”
However, avoiding borrowing altogether is not always possible. Students who need to borrow should first do their research on the types of loans available, including federal and private. Information on federal student loans is available on the U.S. Department of Education’s Federal Student Aid website. The most common sources of private student loans, on the other hand, are banks and credit unions. Experts advise students to only take out private loans as a last resort, as they’re generally less flexible than federal loans.
[Related:How Much Student Loan Debt Does the Average College Graduate Have?]
High school counselors can also be a resource to help walk students and families through the different loan options in order to determine the right fit.
“It is really important to understand the differences between the types of loans that you may be offered before accepting an offer,” says Amber Miller, a partner experience manager at GreenPath Financial Wellness.
Types of Federal Student Loans
Four types of federal student loans are available:
— Direct subsidized loans
— Direct unsubsidized loans
— Direct PLUS loans
— Direct consolidation loans
Direct Subsidized Loans
Direct subsidized loans, like most forms of federal financial aid for college, are available to undergraduate students with financial need, which is determined using a formula with the information provided on the FAFSA.
The interest on these loans is covered by the Department of Education while a borrower is enrolled in school at least part-time, during the first six months after leaving school and during periods of deferment — when loan payments are postponed for any number of reasons.
“There are often better terms on direct subsidized loans (than other options) in an effort to help out these students who have a financial need,” Miller says.
Limits are placed on the amount in subsidized loans that borrowers can receive each academic year, which varies based on what year they are in school and if they have dependent or independent status. For instance, the annual maximum for first-year dependent and independent students taking out subsidized loans is $3,500. However, dependent students with parents who are ineligible for a direct PLUS loan may be able to receive additional unsubsidized loan funds.
[Read: How to Pay for College Using These Overlooked Strategies.]
The current interest rate on direct subsidized loans is 5.5%, which is fixed over the life of the loan. Under certain circumstances, direct subsidized loans are eligible for loan forgiveness programs like Public Service Loan Forgiveness, or PSLF. That program aims to incentivize more people to pursue careers in public service by erasing some of their federal loan student debt after a decade of payments.
“I would really urge parents to sit down with their students and take a good look at the nonprofit options for their career path,” says Martin Lynch, president of the Financial Counseling Association of America and compliance manager and director of education at Massachusetts-based Cambridge Credit Counseling. “There’s a lot of untapped potential to manage student loan debt by starting a career in the nonprofit world. It’s just 10 years. … And then you’d be free to do whatever you want after that. But you also wouldn’t be carrying any additional student loan debt into those years.”
Direct Unsubsidized Loans
Sometimes a student can receive direct subsidized loan money, but it’s not enough to cover their costs. The next option to consider is a direct unsubsidized loan, which is not based on financial need, Green says.
“Direct unsubsidized loans can be combined with those direct subsidized loans to make sure that you’ve got enough to cover those costs,” she says.
Unlike direct subsidized loans, unsubsidized loans are available to both undergraduate and graduate or professional degree students. To be eligible, borrowers must be enrolled at least part time at a college that participates in the direct loan program.
Borrowers do not have to make payments while in school, in deferment or forbearance, but are responsible for paying the interest accrued on unsubsidized loans during all periods. The interest for undergraduate borrowers is the same as subsidized loans, but it’s higher for graduate students — currently 7.05%.
Direct subsidized and unsubsidized loans also have annual limits, which are $5,500 for first-year dependent students and $9,500 for first-year independent students.
Direct PLUS Loans
Direct PLUS loans — Parent PLUS and Grad PLUS loans — are available to eligible parents and graduate or professional degree students, respectively. The maximum loan amount borrowers can take out is the total cost of attendance minus any other financial assistance received. That cost is determined by each school.
This type of loan requires a credit check. However, borrowers whose credit score isn’t high enough to qualify may still be able to obtain a PLUS loan either through an endorser — which is like a co-signer — or by providing documentation to the Education Department about extenuating circumstances related to their credit.
[READ: 7 Strategies for Appealing a College Financial Aid Package.]
The interest rate for PLUS loans is 8.05%, in addition to a fee of 4.228% of the loan amount, which is proportionally deducted from the loan each time it is disbursed. Because of this high rate, experts say, many parents struggle to make their payments.
“By setting the rate so high for parents, they’re ignoring the fact that parents already have the most obligations of any group,” Lynch says. “They have car loans, they have mortgages, are taking care of their kids and they’re probably starting to take care of their parents, too. So, yes, they have the most earning power, but they also have the greatest amount of bills.”
Direct Consolidations Loans
A direct consolidation loan allows borrowers to combine two or more existing federal student loans in order to lower monthly payments, have a fixed interest rate and gain access to federal forgiveness programs. Most federal student loans qualify for consolidation as long as they are in repayment or in a grace period.
Borrowers qualify for direct loan consolidation after they graduate, leave school or drop below part-time enrollment — circumstances that also trigger the loan repayment process. Note that consolidation could lead to a longer repayment period, higher interest, loss of certain borrower benefits and possibly higher debt in the long run.
Consolidation doesn’t require a credit check and there’s no application fee. Borrowers can apply directly through the Federal Student Aid website or download and print a paper application to submit via mail to the chosen consolidation servicer.
Best Practices for Borrowers
Sometimes borrowers are eligible for more loans than what’s actually needed to cover college costs. And while it can be tempting for borrowers to take out everything they are eligible for, experts advises against it.
“Borrowing a little bit more may not seem like a big deal now, but if you’re paying interest on that and if it’s adding lengths of time to the student loan repayment period that you’ll have, you may end up paying significantly more money for that fast food, shopping or trips with your friends, whatever you end up using those funds for,” Miller says.
However, “there are situations where it can make sense if you want to use those funds to make it possible for you to attend school period or to cover living expenses,” she adds. “There are a lot of opportunities where that can be beneficial. But I just really encourage borrowers to think about what the long-term effects (are) of taking out more than you need to actually cover your immediate costs.”
Trying to fund your education? Get tips and more in the U.S. NewsPaying for Collegecenter.
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Understanding Federal Student Loan Types originally appeared on usnews.com
