Planning for education beyond high school and even after college is challenging. There are many steps and many things to consider, one of which is figuring out how to pay for it. The average tuition cost of a college education for the 2020/2021 school year was $41,411 for a private institution. For students living in-state, public college tuition was an average of $11,171. That number rose to $26,809 for students living outside of the state for public institutions. That doesn’t even include books, room and board, and all other expenses that are part of collegiate living.
Receiving at least some education beyond high school is increasingly important, with these employees making up 65% of all of those in the workforce. Federal student loans can be one of the best ways to help pay for a postsecondary education.
What are Federal Student Loans?
Federal student loans are backed by the U.S. Government, which means the U.S. Department of Education acts as the lender versus a bank or financial institution. These loans make up the vast majority of student loans in the U.S. with approximately 92% of all financial aid across the country being federal student loans.
Loans differ from other types of financial aid including gift aid which could be in the form of grants or scholarships. Gift aid doesn’t need to be repaid while loans do, and usually with interest. Federal student loans are also different from private loans which are backed by private banks or credit unions. Private loans generally have a higher interest rate, although they can be lower for borrowers with excellent credit. Private loans also have no fixed cap, so they’re a good option for those who cannot cover the full amount of their education with a federal loan.
What is Required for a Federal Student Loan?
Federal student loans are available to anyone enrolled in a program that will lead to a degree or certificate. The school must also participate in the Direct Loan program, which includes some international schools as well as American schools.
The first step for financial aid in general is filling out the Free Application for Federal Student Aid. Filling out the FAFSA form can help connect you with opportunities for other aid such as scholarships or study programs. The FAFSA form can be completed through an app or online and can be completed before receiving applications of acceptance.
In some cases you can apply for federal student loans almost a year before actually starting your college education. It’s a good idea to apply early; federal loans have very strict deadlines and the paperwork must be completed on an annual basis. Each state has its own deadline however, so check with your high school or with the online tool at https://studentaid.gov/h/apply-for-aid/fafsa where you can also find the FAFSA form.
To complete the form, you will need your social security number, federal income tax returns or any records of money earned, bank statements and investments, any records of income that was not taxed, and a list of schools to which you’ll be applying. Non-American citizens will also need an Alien Registration Number. Students who are considered dependents should use their parent’s tax and investment information.
What Types of Federal Student Loans Exist?
There are basically three types of federal student loans: Direct Subsidized Loans, Direct Unsubsidized Loans and Direct PLUS Loans. There is also a Direct Consolidation Loan which allows you to combine multiple federal student loans so that you have only one monthly payment.
Each loan has a lot of the same benefits. There’s no minimum credit score required, students can take on the debt without needing someone to co-sign, and if the borrower dies the loan is automatically cancelled.
Although federal loans are interest-based, the interest rate is fixed so there won’t be surprises while trying to repay the loan. These rates are generally lower than rates for private student loans. Each of these loans also requires an origination fee that is a percentage of the total loan amount. Currently that fee is 1.057% for the direct subsidized and unsubsidized loans and 4.228% for the direct PLUS loans. The interest rate for federal loans is fixed on July 1 of each year, but the rate will remain the same for the life of the loan.
Federal student loans can be used to pay for all of the things that are necessary for your education such as tuition and books. But they can also be used to pay for things that might be unexpected as critical for education such as on- or off-campus housing, transportation to and from school and child care. These loans cannot be used for food, entertainment or cars.
What are Direct Subsidized Loans?
Direct Subsidized Loans are solely for undergraduates. These loans are for students with financial need. Whether or not the student is need-based is determined using a formula. The formula considers how much money the student or the student’s family will contribute to tuition, the total cost for all expenses including tuition, and how much financial aid that student might be receiving from other sources.
With a Direct Subsidized Loan you won’t have to pay interest as long as you’re enrolled in school at least part-time. It also delays your first payment until six months post-graduation. In times of country-wide stress, such as the pandemic, the government may allow you to defer or delay payment on the loan.
There are caps on the amount that can be borrowed for each academic year. The caps depend on your year in school and whether you are a dependent or independent student. Overall the limit for direct subsidized loans for undergraduates is $31,000 for dependent students and $57,500 for independent students.
What are Direct Unsubsidized Loans?
With a Direct Unsubsidized Loan, the borrower is responsible for interest as soon as the loan starts. These loans are available to both undergraduate and graduate students. These are not based on financial need, so anyone can utilize them. Even though interest begins accruing as soon as the loan is approved, they do not require payment while a student is enrolled in school.
Just as with the subsidized loan, a Direct Unsubsidized Loan doesn’t require repayment until the student has been out of school for six months or drops below part-time status. Even though the interest begins accruing immediately, that interest can be paid while in school to help lessen the overall debt that will be due.
The cap for Direct Unsubsidized Loans for undergraduates is $23,000 for both dependent and independent students. For graduate students the annual limit is $20,500 with a total maximum of $138,500, which includes any undergraduate loan amount.
Interest rate, origination fee and eligibility for repayment are same as those for Direct Subsidized Loans for undergraduates. Graduate students however will have a higher interest rate.
What are Direct PLUS Loans?
There are two types of Direct PLUS Loans, one is for parents who have students enrolling in graduate or undergraduate school. The other is for graduate students.
The Parent PLUS loan stands for Parent Loan for Undergraduate Students. These loans are available to the biological or adoptive parents of students who need financial aid. It can be used for both undergraduate and graduate education.
The Grad Plus loan is a good option for graduate students who have reached the maximum limit on their Direct Unsubsidized Loan. Students utilizing a Grad PLUS loan must be enrolled at least half-time and working towards a graduate or professional degree.
For both loans a credit check is required, but not to verify a credit score. The lender will just verify that you don’t have an adverse credit history. This would include being more than 90 days late on a payment, or having financial issues like bankruptcy, foreclosure or repossession.
Both of these loans have higher interest rates and origination fees, but they can be a good solution for parents hoping to help their children pay for education or for graduate students who are continuing their education after other federal student loans. These loans both have caps that are determined by the amount required to attend school. This is calculated by subtracting the cost to attend the school minus other financial aid received.
For those who have utilized more than one of these loans, they may want to consider a Direct Consolidated loan to combine a monthly payment. But first do the math; it may be less expensive in the long run to stick with a lower interest rate and multiple loans. Refinancing is also an option if the interest rate for these loans drops, but this requires looking at your credit score, checking income and debt-to-income ratio.
With education costs continuing to rise, it’s helpful to know all of the financial aid options that students and their parents have available. To make the best decision, take all factors into account and figure out what the best fit is for your situation and eligibility.
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