Types of student loans: advantages, disadvantages, and how to apply
While scholarships and grants are the best way to fund your education, they often don’t cover the full cost of tuition, fees, and other expenses. To fill in this gap, many students choose to take out federal or private student loans. There are several different types of student loans available with varying terms, interest rates, and eligibility requirements. However, trying to navigate all this information can be overwhelming and confusing.
Even though student loans can be a necessary evil, it doesn’t have to mean that you’re stuck in debt forever. By selecting the best terms, doing your research, and making smart financial decisions, student loans can be a practical and helpful way to fund your education.
To help you make the best decisions, we have included an overview of the most common types of student loans, their benefits, and their disadvantages. For even more information, the Federal Student Aid website is a detailed and reliable resource.
Undergraduate students at public universities borrow on average $30,030, $33,900 at private, non-profit universities, and $43,900 at for profit institutions. Students often take out more than one type of loan or combine other financial aid options with loans to pay for their education. Note, reading the fine print when taking out a loan can go a long way in protecting your future financial health.
Federal student loans
Federal student loans are the best type of student loan. They are funded by the federal government and the terms are generally better because they are set by law. That means that you don’t need to worry about becoming a victim of shady or predatory lending practices. There are different types of federal student loans available based on your dependency status and financial need, including direct subsidized loans, direct unsubsidized loans, and PLUS loans.
How do I apply for federal student loans?
The first step is to complete the Free Application for Federal Student Aid (FAFSA). As the name suggests, applying for the FAFSA is completely free. Any website asking for payment is a scam.
After submitting your FAFSA, your school sends you an award letter with the types of student loans you can receive and the amount. You can either choose to accept the full loan amount or less than the full loan amount depending on your needs.
Once you accept your loan, you need to complete Entrance Counseling (EC) and the Master Promissory Note (MPN) to make it official. Entrance Counseling walks you through the terms of your loan, repayment options, and your responsibilities related to the loan. The Master Promissory Note is a signed document stating that you will repay the entire loan plus any accrued interest and fees to the U.S. Department of Education.
Different types of loans
- Federal student loans
- Direct subsidized loans
- Direct unsubsidized loans
- Direct consolidation loans
- Private loans
Direct subsidized loans
Direct subsidized loans are only offered to undergraduate students with demonstrated financial need. Whether or not you have demonstrated financial need is based on the information you provide on your FAFSA. Besides the fact that it needs to be paid back, many students find direct subsidized loans to be one of the best loan options.
The U.S. Department of Education pays the interest on direct subsidized loans while you are in school at least half time, during the 6-month grace period following graduation, and during loan deferments. This means that you won’t need to worry about your balance going up during these periods.
Not all students are eligible to receive direct subsidized loans. Additionally, the maximum loan amounts are rarely enough to cover the full cost of attending school. The maximum amount you can receive annually ranges from $3,500 to $5,500 depending on your year in school. You can only receive a maximum of $23,000 in subsidized loans during your entire education unless you make payments to lower your balance.
Direct unsubsidized loans
Direct unsubsidized loans are considered one of the best student loan options and are available to both graduate students and undergraduate students. Since direct unsubsidized loans are not need-based, any student who is qualified to receive financial aid is eligible.
This is a great option for students who don’t have demonstrated financial need or who don’t receive enough funding through direct subsidized loans. The loan terms are very similar to direct subsidized loans and the annual and lifetime limits are slightly higher, meaning you have access to more funding.
Unlike direct subsidized loans, direct unsubsidized loans accrue interest during the entire period of the loan, even when you are in school. Although you don’t need to make payments while you’re in school, on deferment, or during the 6-month grace period following graduation, interest still accrues and is added to the balance of your loan.
ParentPLUS and GradPLUS loans
When direct subsidized and unsubsidized loans don’t cover tuition or you’ve reached your annual or lifetime limits, PLUS loans are a great way to cover the rest of the costs. ParentPLUS loans are for undergraduate students and must be taken out by a legal parent while GradPLUS loans are for graduate students.
Parents and graduate students need to submit a separate online application to apply for the PLUS loan in addition to completing the FAFSA. The application consists of a hard credit check that is valid for 6 months. If your credit check is denied, you can work with Federal Student Aid to file an appeal. You also need to complete a separate PLUS loan Entrance Counseling and Master Promissory Note.
PLUS loans are funded by the federal government and have terms set by law. The loan limits are also significantly higher, which makes this a good option for students who are attending expensive schools or graduate and doctoral students who have reached their aggregate loan limits for direct subsidized/unsubsidized loans. Many students who need additional funds for living expenses during their education choose to take out a PLUS loan and receive the excess funding as a stipend.
Both the ParentPLUS and GradPLUS are credit-based loans, so having an adverse credit history makes you ineligible in most cases. PLUS loans are not automatically deferred, but there is an option to request a deferment during the application process. Otherwise, you need to start making payments after receiving your first disbursement. Another downside to PLUS loans is that they have higher interest rates. Higher loan limits also make it easier to take on more debt.
Direct consolidation loans
After graduating, you have the option to take out a direct consolidation loan at no charge. This groups all your loans into one large loan so that you can make just one monthly payment. The interest on the loan is a fixed rate determined by the average interest of all your loans.
You can simplify the process of tracking and repaying your student loans by combining different types of student loans.
Sometimes even a combination of federal student loans isn’t enough to cover all educational expenses – that’s where private loans can be helpful. Private loans can provide supplemental funding and help you earn your degree. However, it is important to proceed with caution and be sure that you fully understand the terms of your loan. Not all private student loan lenders are created equal. Some are perfectly fine, but many have predatory lending practices that can leave you in much more debt that you originally planned.
When you have run out of options for covering the rest of your educational expenses, private student loans can help you earn your degree.
Many lenders have shady or predatory practices, such as variable interest rates. Additionally, most private loans are credit-based or require a co-signer, so not all students are eligible. The terms are set by the lender and there are often less options for repayment and deferment than there are with federal loans.
Even though student loans get a bad rap, they have helped thousands of students achieve their educational goals and earn their degree. If you are responsible and plan ahead, you can use student loans to your advantage without getting bogged down in debt after graduation. Plus, you can minimize the amount you borrow in student loans by applying for scholarships and grants, which provide you with money for school that doesn’t need to be paid back.
Frequently Asked Questions (FAQs)
What are my options for repaying student loans?
For federal loans, there are a range of options available depending on your specific situation. These include standard repayment, graduated repayment, income-based repayment, and extended repayment plans. For private loans, you need to contact your lender to find out your options.
What determines how much I receive in subsidized and unsubsidized loans?
The amount you’re eligible to receive for direct subsidized loans depends on your demonstrated financial need determined by the FAFSA. For direct unsubsidized loans, you are typically offered the maximum annual amount as long as you are eligible to receive financial aid. If you are close to reaching your lifetime limit for direct subsidized/unsubsidized loans, the amount you are eligible to receive might be less than the annual limit. The lifetime limit for subsidized loans is $23,000 while the combined limit for subsidized/unsubsidized loans is $31,000.
What determines how much I receive in ParentPLUS/GradPLUS loans?
Once you are approved for a PLUS loan, you are eligible to borrow up to the cost of attendance minus any other financial aid you have received (scholarships, other loans, etc.). Cost of attendance varies by school and is based on tuition, fees, and other factors.
What if I can’t repay my loans?
The U.S. Department of Education provides deferment and forbearance options for students who need to take a break from paying student loans. If you have private loans, you should reach out to your lender to discuss options. It is important to note that interest still accumulates while you are not making payments for all types of student loans except direct subsidized loans.