The New Financial Aid Rules

The changes, which go into effect July 1, are part of the Deficit Reduction Omnibus Reconciliation Act that President Bush signed into law Feb. 8. The legislation aims to reduce the deficit by cutting nearly $40 billion in government spending over the next five years. A significant portion of those cuts — $12.7 billion — will come out of government subsidies for education lenders.

But don't panic. This doesn't mean there will be less federal financial aid available for students. In fact, thanks to a new provision included in the law, new grants will be made available to low- and middle-income families, says Kalman Chany, president of Campus Consultants in New York and author of "Paying for College Without Going Broke." But it does mean that there are some new rules — some good, some not so good — that all families need be aware of. Here's the deal:

Stafford loans
Right now, these government-sponsored student loans have variable interest rates that are reset each July 1, pegged to the rate of the 91-day Treasury. The current Stafford loan rate is 4.7% during the in-school period and 5.3% thereafter.

As of July 1, 2006, however, the interest rate on Stafford loans changes to a fixed rate of 6.8%. While that may seem like a significant hike, the news isn't all bad, says Tom Joyce, spokesman for education lender Sallie Mae. That's because, in this rising-interest-rate environment, when the rate on Stafford loans is reset this July 1, it would have jumped to somewhere around 6.8% anyway, given the current 91-day T-Bill rates. And if interest rates continue to rise in the near future, a fixed 6.8% may be a good deal. (Should rates start falling, of course, the opposite will be true.)

Additionally, the borrowing limits for freshmen increase from $2,625 to $3,500. For sophomores, the increase is from $3,500 to $4,500. The limits for junior and senior students remain the same, at $5,500. For graduate students, the limit on unsubsidized Stafford loans increases from $10,000 to $12,000 per year.

Origination fees for Stafford loans will also be gradually eliminated, starting with a one-percentage-point decrease (from 3% to 2% of the loan amount) this July 1. Thereafter, fees will drop by 50 basis points each year until they are eliminated in 2010.

PLUS loans
These are government-sponsored loans for parents, who are allowed to borrow up to the cost of their child's college bills minus what is received in financial aid.

Starting July 1, the interest rate on these loans changes from a variable rate of 6.1% to a fixed rate of 8.5%. PLUS loans will also be made available to graduate students for the first time, starting July 1. Since there are no limits on PLUS loans, they become a fixed-rate alternative to private education loans, which typically carry higher, variable rates.