There are numerous private loans offered by commercial banks and credit unions to help students pay for their education. These loans (sometimes called alternative loans) are quite different than federal student loans. So what's the difference? Read on!
We highly recommend that you borrow the full amount of federal student loans offered to you in your financial aid package before borrowing a private education loan. This may include a Direct Subsidized and/or Unsubsidized loan, the Federal Perkins loan, and--for law students--the Graduate PLUS loan. We also recommend that parents of undergraduates consider borrowing a Parent PLUS loan and graduate students consider borrowing a Graduate PLUS loan before applying for a private loan. Here's why:
- Interest rate: Historically, private loans have typically had higher interest rates than federal student loans, and many have variable interest rates (unlike federal student loans, which have fixed rates).
- Repayment timeline: You do not have to start repaying your federal student loans until you graduate or are enrolled less than half-time (below 6 credits). Some private loans require payments while you're still in school.
- Repayment plans: Federal student loans have many repayment plan options, including plans that base monthly payment amounts on your income. Most private loans have very limited repayment plans available.
- Forgiveness options: You may be eligible to have a portion of your federal loans forgiven if you work in public service. It's highly unlikely that your private loan lender will offer any loan forgiveness plans.
Find a complete summary of the differences between federal and private loans on the Federal Student Aid website.
In a small number of situations, a private education loan may be a better option. Reasons to consider a private loan include:
- Repayment responsibility: Private loans are typically borrowed by the student (usually with a cosigner). This means that in the case of undergraduates, the student is responsible for paying back the loan, unlike a Parent PLUS loan where the student has no repayment responsibility. This has the potential to improve the student's credit.
- Overall cost: If you have good credit, and can obtain a low interest rate, it may cost you less over the life of the loan. This depends on repayment options, length of repayment and total borrowing, however.
- Non-traditional enrollment: Federal loans require at least half-time enrollment to receive funding (6 or more credits for undergraduates, 4 or more credits for graduate students). Unlike federal student loans, you may be able to borrow a private loan if you are enrolled less than half time or need to pay for courses taken during an interterm (which are not eligible for federal aid).
- PLUS loan unavailable: For undergraduate students, if you are considered independent (according to the FAFSA), or your parent is unable or unwilling to borrow a Parent PLUS loan, a private loan can help cover your educational expenses. If you are a graduate student and are unable to borrow a Graduate PLUS loan due to poor credit, you may want to consider a private loan.
Choosing the right loan to help pay for your education is an important decision, and you should carefully review all details before selecting a private loan program. Here are some additional tips to help you make the best choice:
- Exhaust federal loan options. As we mentioned above, more often than not, Federal Direct loans (including Parent/Graduate PLUS loans) have more favorable terms for borrowers. So exhaust those options first. But, if you do decide to pursue a private loan.
- Compare, compare, compare! Private loans vary significantly in repayment features, eligibility criteria, and borrower benefits. Download our loan comparison worksheet to help you thoroughly evaluate each lender you may be considering.
- Pay attention to fees. The fees charged by some lenders can significantly increase the cost of the loan. A loan with a relatively low interest rate but high fees can ultimately cost more than a loan with a somewhat higher interest rate and no fees. A good general rule is that 3% in fees is about the same as a 1% higher interest rate.
- Only borrow what you need! This may seem obvious, but many students will borrow up to their total cost of attendance, even if they don't need to. Be sure that if you decide to apply for a private loan, you are only borrowing the absolute bare minimum you need to pay for educational expenses.
- Think long term. Remember that if you need to apply for an additional loan during your first year at DU, you'll likely need to borrow additional loans over the next 3 years. Loan debt can accumulate quickly; if you get in over your head, you may have trouble getting approved for a car loan, a credit card, or a home mortgage after you graduate!
To help you find the best loan option, our office researches and evaluates many different lenders every year. We search for companies who provide the most competitive loan products for students, and those lenders are chosen to appear on our preferred lender list. The lenders on this list are chosen because of a variety of factors, including available borrower benefits, zero origination or repayment fees, and competitive interest rates.
Our preferred lender list is hosted by FASTChoice. This site will help you learn about your options and understand your responsibilities, and allows you to compare lenders side-by-side according to overall cost, interest rate and repayment benefits. We encourage you to visit FASTChoice first if you are considering a private education loan, but we will certify a private loan from any lender you choose (even if they don't appear on our list).
If you decide that a private education loan is the right choice, you will need to apply directly with the lender you have chosen. A credit check is always a part of the application process, which may include an evaluation of your credit score and debt-to-income ratio (depending on the lender). You will also be required to complete a Self-Certification Form. Once you apply, the lender will send us a request to certify your eligibility for the loan. If we are able to certify it, the loan will be added to your existing financial aid package.
Federal Student Loans versus Private Student Loans
Student loan debt is one of the hottest topics over the last few years. Large media outlets have been having a heyday profiling individuals with massive amounts of student loans and poor future prospects brought about partially from a slow economy and partially from a poor choice in career-to-debt ratio. I can relate to these stories in a way as I certainly had my fair share of student loan debt after graduating college in 2005: $36,000. However, I worked hard to pay off these loans within five years. Because of my own experience and choices, sometimes I think that student loan debt is given a bad rap. After all, if I could pay off my debt in five years through the choices and sacrifices that I made, then why can’t others?
Federal Student Loans versus Private Student Loans
Something that can make a big difference in being able to pay down debt sooner rather than later is the type of debt. Not all student loan debt is created equal, and I learned this firsthand as I held both federal subsidized loans as well as private student loans. It turns out that these types of loans are treated differently in the areas of consolidation, repayment options, debt forgiveness options, and potentially even when interest begins to accrue.
Of my $36,000 in student loan debt, approximately $21,800 of it was federal subsidized loans. This really gave me an edge in not accruing lots of interest debt on top of principal debt, as federally subsidized loans do not begin to accrue interest until a six month grace period after your graduation. In contrast to this, federally unsubsidized loans and private student loans begin to accrue interest the day the loan is disbursed. This means that your pile of loans has potentially been accruing interest when you were sitting in Biology 101 all the way to grabbing that diploma in Biology (and beyond!).
Both federal loans and private loans may offer repayment options and flexibility, but the key word for private loans is “may”. With federal student loans, you are guaranteed more flexibility in repayment, but with private loans, you need to check with your lender. An example of flexible repayment options on federal loans is the new Pay As You Earn (PAYE) program. This program is available as an alternative to the standard repayment plans of federal loans from the Direct Loan Program. It accelerates debt forgiveness by five years, as well as lowers the maximum monthly payments from 15% to 10% of discretionary income.
Both federal loans and private loans offer options to stop or reduce monthly payments without going into default for a period of time in the case of hardship. Federal student loans also offer repayment options for when you face a tough financial situation. These include forbearance and deferment. A deferment is a period of time you are granted where payment towards interest and principal is not necessary. Forbearance can be either mandatory or discretionary, and can buy you up to 12 months of no payments or reduced monthly payments (though interest will still accrue).
Each private lender offers their own plans, so be sure to check with your private lender.
Private lenders typically only forgive a loan in very severe cases. For example, Wells Fargo will only forgive the co-signer of a private loan in the event that the student has died or become permanently disabled.
The federal government offers many options for loan forgiveness. If you go into public service, then you may be eligible for loan forgiveness after a set number of years. For example, if you are teacher and have been teaching for five consecutive years in a low-income elementary or middle school, then you may be eligible for up to $17,500 of loan forgiveness through the Teacher Loan Forgiveness Program. Other programs include Public Service Loan Forgiveness (PSLF), and the new Pay As You Earn (PAYE) program.
You should always look into scholarships and grants first when figuring out whether or not you can afford a college education. This is because these types of financial aid do not have to be paid back. Once you have exhausted those possibilities, check your eligibility for federal student loans before going to private student loans. No matter what, be sure to fill out the Free Application for Federal Aid (FAFSA).