Q: How does one go about getting education loans to help offset the cost of college after all financial aid and federal student loans have been issued?
To answer this question, Matt offered an excerpt from his new book Financial Planning for Your First Job.
A: Understanding Student Loans
If you’ve started researching student loans, you’ve probably already discovered the two main types—those that have strict borrowing limits, but offer low interest rates, and those that offer all the money you need (and then some), but charge very high interest rates. So which type is right for you? How can you make sure you select the best loan possible and not make a decision you’ll regret later? It will take research and careful planning, but if you follow the outline provided, you’ll be able to find the right combination of loans to meet all your needs.
FEDERAL VS PRIVATE LOANS
To start the loan selection process you first need to know about the two main types—federal loans and private loans. Federal loans, also known as Stafford Loans, are provided by the US government and carry a fixed interest rate—currently 6.80 percent. Federal loans allow the borrower to postpone making principal and interest payments until six months after graduation. Private loans are not so generous. They’re less regulated than federal loans and often charge high variable interest rates like credit cards, and the interest starts to accrue immediately. You should use private loans sparingly, and only consider them when there’s a gap between what federal loans will cover and the final cost of your education.
INTEREST RATE COMPARISON
For student loans, as with most debt, you want to select the loan with the lowest interest rate. The national interest rate for Stafford Loans is currently 6.80 percent, while the average private loan interest rate is 8.00 percent. Stafford Loans have fixed interest rates, while the rates on private loans will change over time depending on the lender and market conditions. The low, fixed interest rates provided by Stafford Loans are an advantage that tips the scale in their favor over private loans. Use a free website like www.bankrate.com to compare the interest rates for student loans in your area.
HOW TO APPLY FOR STUDENT LOANS
When the time comes to apply for a student loan, you should first meet with the financial aid officer at the school you’ll be attending to learn about all of your financial aid options. The officer should help you determine if you’ll qualify for federal loans based on your current income and the value of your assets. If you won’t qualify for federal loans, the officer should provide guidance on what loans you should turn to next, which will probably be a combination of private loans.
If you’ve narrowed down your list of colleges but haven’t made your final decision yet, make sure you meet with the financial aid officer at each potential school to learn about the different financial aid packages available. You’ll find that some schools are much more accommodating than others. Once you’ve done your research, you can apply for a federal loan online by visiting www.staffordloan.com. You’ll also be required to fill out the Free Application for Federal Student Aid (FAFSA) form. If you’re applying for a private loan, you’ll need to communicate directly with the lender, which will usually be a bank or credit union.
UNDERSTANDING THE FINE PRINT
If you’ve started researching student loans, you may have seen a few words over and over again, but you may not know exactly what they mean. It’s important that you understand these words because they can potentially save you thousands of dollars. The must know words are subsidized, unsubsidized, deferment, and forbearance.
Subsidized: Subsidized loans are loans that the borrower does not have to pay interest on while he or she is still in school. Instead, a third party (usually the US government) pays interest while the borrower is in school and interest does not start to accrue until after graduation. You should try to maximize your subsidized federal loans to the fullest extent possible, but beware; these loans are largely based on financial need so you may not qualify.
Unsubsidized: An unsubsidized loan is a loan where the interest starts to accrue immediately, even though payments aren’t due until six months after graduation. The fact that interest accrues while you’re still in school makes these loans less desirable than subsidized loans.
Deferment: A deferment means the borrower can postpone making principal and interest payments on a student loan if certain hardship conditions apply. For example, deferment is allowed if the borrower is still in school, unemployed after graduation, or experiencing economic hardship for up to three years. Even though the borrower isn’t required to make monthly payments, interest continues to accrue unless the loan is subsidized.
Forbearance: A borrower may qualify for student loan forbearance if he or she has difficulty making loan payments on time. Forbearance is similar to deferment, but it’s granted at the discretion of the lender and documentation is required to prove economic hardship.
COLLEGE FUNDING SUMMARY
If you’ve decided the pay-as-you-go strategy won’t work for your tuition bill and you need the help of student loans, consider using them in the following order.
1. Subsidized federal loans
2. Unsubsidized federal loans
3. Private student loans
Only consider these options after you’ve met with a financial aid officer and exhausted all possible grants, scholarships, and awards you might be eligible for.