For many students, sorting out student loan options is as much a part of the college application process as writing a college essay for admissions. And it's a rare student who isn't confounded by the process. This section should clear up some of the confusion.
There are three major government-sponsored education loans that can be used individually or together to help undergraduate or graduate students cover the cost of a college or vocational school education.
Stafford Loans subsidized Stafford loans, which are need-based. The government pays the loan interest while you're in school and for six months after. Students start paying off their principal after graduation, and pick up interest payments when the government stops; 2) unsubsidized Stafford loans, which are not based on need. With these, the student is responsible for all of the interest, though it can be deferred while enrolled in school.
The rates on subsidized Staffords are fixed, but the rate a student gets depends on the year in which the loan is originated. This is unlike the unsubsidized Stafford loan. While this loan's rate is also fixed, the rate is set under law by the federal government and does not vary each year. The unsubsidized Stafford rate is 6.8%. The subsidized Stafford's rate is typically significantly lower than that.
Perkins Loans are federally subsidized and based on need. They carry a fixed interest rate, currently 5%. It is set by law, rather than pegged to the fluctuating interest rate environment. The interest is deferred while the student is in college and for a grace period of nine months after graduation.
PLUS Loans are those the government sponsors for parents. Loans have a fixed interest rate of 7.9%. Parents can borrow enough to cover attendance minus any other financial aid and loans that they're receiving. A school may certify an even higher amount to cover additional costs, such as living expenses. Parents must start repaying the loan immediately. Note that there is also a type of PLUS loan called GradPLUS, which is available to graduate students. Unlike regular PLUS loans, they are originated by the student, not the parent.
Who should borrow you or your child? Parents are eligible to borrow the entire cost of college whether or not their children take advantage of the Stafford program. But even if you plan on repaying the loan yourself, have your child borrow first. Students get the lower rate on Stafford loans and an attractive fixed rate on Perkins loans, and they can defer the interest payments. Moreover, your child is more likely to benefit from the deductibility of student loan interest, whereas you may not, depending on your income (there are income limits for eligibility to deduct interest). Finally, some employers agree to help new hires pay their educational debts, so there's a chance your kid may get bailed out at work.
If you still need to borrow from the PLUS program, you will have to clear a credit check. There are no credit checks for the Stafford and Perkins loans, but parents don't get off so easily. "If parents fail the credit check, the student may be able to get an additional unsubsidized Stafford loan," says Kalman Chany, author of "Paying for College Without Going Broke."
The most common repayment plan is a fixed amount per month for 10 years. But you can also opt for income-based repayment plans, such as a graduated plan that assumes income will rise over time. Payments can be deferred if your child decides to go back to school at least half time or takes on volunteer work. Unemployment, internships and fellowships may also entitle your child to defer. Parents facing economic hardship can defer PLUS payments as long as the child for whom the loan was taken out is still in school.
While the details of the various loans can take time to digest, the good news is that the process of taking out a loan is simpler than it used to be. Prior to mid-2010, private lenders were allowed to offer government-sponsored loans and their payment plans, methods of calculating interest and rewards programs varied. So students had the task of shopping for a lender. These days, private lenders are cut out of the process, and students and parents apply through their college's direct loan program. "There's no need to shop around," Chany says.
Where extra legwork is needed, however, is in uncovering other good loan options aside from the federal progams. Some states have loan programs, but students and parents often aren't told about them through their colleges. The state programs can have interest rates that are competitive with the federal loan programs. So be sure to ask your college or search the Internet for any options in your state. Keep in mind, however, that only the federal loan program has an important perk: If a borrower dies, the loan is forgiven. If a parent borrows through a state program and dies before the loan is paid off, the student is on the hook for the payments.