Need a student loan? Consider your options carefully
The bills parents are receiving now for this fall’s college costs are among the most horrifying most people will receive in a lifetime, perhaps $15,000 or more.
The shock doesn’t simply come from the number. It’s from the timing. Often you have to come up with the money within about four weeks or the student won’t be allowed to sign up for classes.
So get ready to borrow, and try to do it as painlessly as possible. Remember, if you were trying to pay for your home in just four weeks, that bill would be horrifying too. But you break mortgage payments into monthly bites, so the cost is bearable. You do that with college student loans, too, paying over 10 years.
Take some time with loan options because they differ significantly.
In years past, loans were often a fairly simple decision. Federal student loans tended to be the lowest-cost loans, an easy choice. In the early 2000s, students could lock in federal student loan interest rates below 3 percent.
But Congress changed that, and students face relatively high interest on some federal loans, even though other loans are at all-time lows.
For example, 30-year home mortgages have interest rates below 4 percent, so the 6.8 percent on some federal Stafford loans is hard to stomach. Federal PLUS loans for parents at 7.9 percent are worse.
It might be tempting to turn away from federal loans and choose private loans instead.
How do you decide? If your income is low enough to qualify for what’s called a subsidized Stafford loan, that’s a good deal. A loan your child takes out carries just a 3.4 percent interest rate. Feel free to borrow the $3,500 maximum for freshmen if you qualify. See rules here: tinyurl.com/studentloanrules
When students finish college, they have 10 years to pay off the federal loans, and many get extended repayment plans.
If your child needs additional money for college, turn next to federal Perkins loans. Again, these are reserved for lower-income students, but if your family is middle-income and your child is attending a high-priced school attended by affluent students, he or she might qualify at that school. The interest rate is 5 percent; not bad at all.
After that comes another type of federal loan, known as an unsubsidized Stafford loan. This is not as attractive as the Perkins or subsidized Stafford loans. That’s because you have to pay the aforementioned 6.8 percent interest.
So rather than an unsubsidized Stafford loan, you might be attracted to nonfederal loans that are trying to compete with the government loans. Some private loans, offered by banks and other lenders, offer lower rates than you will see on unsubsidized Stafford loans.
But beware. You have to check out the details. Federal loans have fixed rates. They are 6.8 percent now and will stay that way during the full 10 years your child pays back the loans. Try this calculator to see payments: finaid.org/
In addition, the fees on federal Stafford loans are 1 percent, but private loans can be much higher.
Another drawback on private loans: They usually offer variable rates. So maybe you start with an enticing interest rate below 6.8 percent, but in the years ahead it jumps.
Make sure you know exactly how high it can go. The last thing you want is an interest rate of 10 percent or higher.
And if you imagine the interest rate going down, think again. Interest rates are near all-time lows because of the recession.
Some private loans are fixed, so the rate won’t go up. That could be reassuring. But these loans also might require you to start making loan payments while a student is still in college, a burden most families can’t handle.
In addition, parents are usually on the hook for their child’s private student loans. Parents must co-sign. That means that after graduation, if the student gets busy and misses payments, parents must pay. If they think their child is paying, but the child slips up, the parents’ credit score will take a hit. Realize that federal loans give students some advantages that private loans typically do not. If you take a position that serves society, something like Head Start or the Peace Corps, you could receive forgiveness on your loans. Also, if you have trouble paying federal loans because your income is too low, the federal government gives you a break on payments.
Your college financial aid office should help you through the decisions, and you apply for loans there.