What is Financial Aid? Pt. II: Loans5 min read

Today we’ll be talking about what will undoubtedly be your favorite part of college – student loans! Specifically, we’ll be talking about the different federal loans that you might qualify for.

Why would I take out a federal loan?

Loans might feel like Monopoly money, but you will have to pay them back eventually.
Loans might feel like Monopoly money, but you will have to pay them back eventually.

Apart from Direct Subsidized Loans, federal loans capitalize no differently from private loans, so you might be asking why you would want to borrow from Uncle Sam instead of that cool banker down the street. For one, the interest rates on federal student loans are usually much lower than what you’d find from private banks. This is because the majority of undergraduate college students applying for a loan will have little to no credit history and few or no possessions to act as collateral. If your parents co-sign for a private loan, they become equally responsible for this debt, whereas with federal loans, there is no need for a co-signer. Another significant consideration with federal loans is that you will not be required to begin payments on these  loans until after you graduate, with many of these loan types even having brief “grace” periods where repayment is not required for several months after graduation (enough time, presumably, for you to find a job). Compared to private loans, oftentimes, you’ll have a monthly minimum payment, which might be difficult to make if you’re only earning $7 an hour washing laboratory equipment on the weekends.

Direct (Stafford) Subsidized Loans

These loans are available to students with demonstrated need, as determined by the financial wizards at FAFSA.  What’s particularly notable about Direct Subsidized Loans is that while you’re in school, and for the first six months after you graduate, the government will pay the interest on that loan. Normally, the moment a loan disburses into your account, the interest begins capitalizing; this is not the case with Stafford Loans.

With an unsubsidized loan, the total amount you owe grows. Direct Subsidized Loans put a halt on this snowball effect, at least for a little bit. Specifically, Direct Subsidized Loans carry a 4.29% interest rate, which is the interest you’ll begin paying at the end of the subsidized period.  For more information, the following chart taken from the federal student aid website shows the maximum amount of subsidized loans you can take out if qualified.

YearDependent Students (except students whose parents are unable to obtain PLUS Loans)Independent Students (and dependent undergraduate students whose parents are unable to obtain PLUS Loans)
First-Year Undergraduate Annual Loan Limit$5,500—No more than $3,500 of this amount may be in subsidized loans.$9,500—No more than $3,500 of this amount may be in subsidized loans.
Second-Year Undergraduate Annual Loan Limit$6,500—No more than $4,500 of this amount may be in subsidized loans.$10,500—No more than $4,500 of this amount may be in subsidized loans.
Third-Year and Beyond  Undergraduate Annual Loan Limit$7,500—No more than $5,500 of this amount may be in subsidized loans.$12,500—No more than $5,500 of this amount may be in subsidized loans.
Graduate or Professional Students Annual Loan LimitNot Applicable (all graduate and professional students are considered independent)$20,500 (unsubsidized only)
Subsidized and Unsubsidized Aggregate Loan Limit$31,000—No more than $23,000 of this amount may be in subsidized loans.$57,500 for undergraduates—No more than $23,000 of this amount may be in subsidized loans.$138,500 for graduate or professional students—No more than $65,500 of this amount may be in subsidized loans. The graduate aggregate limit includes all federal loans received for undergraduate study.
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Direct (Stafford) Unsubsidized loans

For unsubsidized loans, the interest begins compounding, or snowballing, as soon as the loan deposits into your account.
For unsubsidized loans, the interest begins compounding, or snowballing, as soon as the loan deposits into your account.

Direct Unsubsidized Loans are closely related to Subsidized Loans, and they’re best characterized as the unattractive sibling that no one really wants to pay attention to. Direct Unsubsidized Loans begin capitalizing as soon as the loan is taken out, meaning that 4.9% interest will compound every month you’re still studying. This isn’t good because this is no different from how loans usually operate. However, one benefit to this form of financial aid is that the government charges you the same 4.9% interest that they will eventually charge subsidized loan holders. This interest rate is often much lower than you a student would be able to receive from a private institution, as private loans can even head into the 8-10% range. The limits on how much you can borrow via unsubsidized loans are also listed in the table above.

PLUS Loans

In addition to Direct Stafford loans, the federal government offers the PLUS loan, which is only available to graduate students or parents of undergraduate students. Unlike Stafford loans, the federal government will run a credit check on the loan holder to determine if he/she is available to take out a PLUS loan. If you are eligible, PLUS loans work very similarly to unsubsidized Stafford loans in that the loan holder is not required to make payments until six months after graduation, although interest begins accruing the moment the loan is dispersed. If you are a graduate or professional student, your loan will automatically be placed into deferment, meaning you’re not required to make monthly payments until six months after you graduate, but if your parent takes out an undergraduate PLUS loan for you, they will have to apply for deferment—that is not automatic.

What differs about the PLUS loan system from the Direct (Stafford) loan system is that with PLUS loans, there is no hard cap on the amount you can take out—the limit is simply your school’s cost of attendance, minus any grants or scholarships you might receive. In contrast, Direct loans have a hard cap on the amount you can take out, so if your cost of attendance is higher than the Direct loan limit, you’ll either have to take out private loans or have a parent take out a PLUS loan for you.

Federal Perkins Loan

The Federal Perkins Loan was another subsidized loan, but these were only offered to families with exceptional financial need. The Perkins program expired on October  1, 2015, though those already in possession of the loan would still be grandfathered into the program.

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This post is part of a series. Part I of this series can be found here:

What is Financial Aid? Pt. I: Scholarships vs. Grants vs. Loans.

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