Zina Kumok is a freelance personal finance writer based in Indianapolis. She paid off her own student loans in three years. She also offers one-on-one financial coaching sessions at ConsciousCoins.com.
Zina Kumok ContributorZina Kumok is a freelance personal finance writer based in Indianapolis. She paid off her own student loans in three years. She also offers one-on-one financial coaching sessions at ConsciousCoins.com.
Written By Zina Kumok ContributorZina Kumok is a freelance personal finance writer based in Indianapolis. She paid off her own student loans in three years. She also offers one-on-one financial coaching sessions at ConsciousCoins.com.
Zina Kumok ContributorZina Kumok is a freelance personal finance writer based in Indianapolis. She paid off her own student loans in three years. She also offers one-on-one financial coaching sessions at ConsciousCoins.com.
ContributorUpdated: Jun 30, 2022, 9:48pm
Editorial Note: We earn a commission from partner links on Forbes Advisor. Commissions do not affect our editors' opinions or evaluations.
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The federal student loan process is pretty standardized, and most borrowers will have a similar experience. But private student loans come with a lot more variability, and it can be helpful to understand how they work before diving in.
In this article, we’ll go over the private student loan basics: what they are, how they work, how to apply for one and more.
There are two types of student loans: federal loans and private loans. Federal loans are provided by the federal government and are available to nearly any student who is a U.S. citizen or eligible noncitizen and completes the Free Application for Federal Student Aid (FAFSA). While federal loans are serviced by private companies, the loan is funded by the federal government.
Private student loans are given out by individual banks and lenders. They usually have stricter eligibility requirements than federal loans because the funds are provided by private institutions. Private lenders will typically run a credit and income check on potential borrowers, which makes it harder to qualify.
To take out a private student loan, you first must complete an application. If you’re approved, the money will typically be disbursed to your university. Your school will apply that money to tuition, fees, room and board and any other necessary expenses. If there are funds left over, the money will be given for you to use toward other education-related expenses.
Most private student loans, especially for undergraduate students, will require a co-signer. A co-signer is someone with a good credit score and stable income who agrees to take over the loan payments if you can’t afford them. Lenders typically require a co-signer if the borrower doesn’t meet their income and credit score requirements.
When you receive a private student loan, you often aren’t required to make payments while you’re attending school—though policies vary by lender. If you defer your loans while enrolled, payments typically begin six months after graduation or when you drop below half-time status. However, interest typically begins accruing as soon as you receive the loan money.
Like most financial decisions, there are risks and rewards to consider. Review the benefits and drawbacks of private student loans before committing.
Federal student loans have strict annual and aggregate limits. For most dependent undergraduate students, the federal lifetime limit is $31,000; graduate students can borrow a total of $138,500 for their education.
Private student loans often have higher loan limits, usually up to the annual cost of attendance as certified by your school. This can make it easier for students attending expensive schools to finance their education.
Private student loan companies usually offer fixed or variable interest rates, while federal loans only offer fixed-rate loans. Fixed rates remain the same over the life of the loans; variable rates can change throughout the loan term, depending on certain economic benchmarks.
Variable-rate loans usually have lower starting interest rates than fixed-rate loans. If you can afford to pay off your student loans quickly, you may pay less interest with a variable-rate loan from a private lender than a fixed-rate federal loan.
Unlike federal student loans, which offer the same standardized interest rates and origination fees to every borrower, private student loans offer different terms to borrowers based on their creditworthiness.
Most undergraduate students don’t have a long credit history or high income, but graduate students or parents of undergrads may have much stronger credit profiles. For highly qualified borrowers (or applicants with a highly qualified co-signer), private student loans may offer lower interest rates and fewer origination fees than federal debt.
For many applicants (especially undergraduate students), private student loans offer higher interest rates than federal loans. Interest rates for federal loans are the same for every student, no matter their income or credit score, but interest rates for private student loans are determined on a case-by-case basis.
Exact rates vary depending on the lender, but can range from roughly 3% to 12% APR for fixed-rate loans and 1% to 11% APR for variable-rate loans. For the 2022-23 school year, interest rates for federal student loans are 4.99% for undergraduate students.
Federal student loans come with multiple repayment plans, including income-driven repayment (IDR) plans, which calculate your monthly payment as a percentage of your income. Eligible borrowers who choose an IDR plan may have monthly payments as low as $0.
But private student loans generally don’t offer flexible payments (though exact policies vary by lender). The only way to reduce your monthly payment with most private student loans is to refinance it to a lower interest rate, longer repayment term or both.
Many private student loan companies offer up to twelve months of loan forbearance if you lose your job or encounter another qualifying event. If you have federal student loans, forbearance can last for up to three years in total.
Flexible forbearance can be particularly helpful during times of economic uncertainty. Due to the Covid-19 pandemic, for example, federal student loan payments have been paused since 2020 and interest rates were set at 0%. Private student loans did not receive any widespread forbearance during this time.
Federal student loans come with several different forgiveness programs, including Public Service Loan Forgiveness (PSLF), IDR forgiveness and Teacher Loan Forgiveness. While federal loan forgiveness has strict eligibility requirements, there are multiple programs designed to help low-income borrowers.
However, there are virtually no forgiveness programs for private loans. You might qualify for a loan repayment program, but these are usually only offered to narrow groups, such as people who work in healthcare or law.
If you don’t have a good credit score and steady income, you likely won’t qualify for private student loans. If you can’t qualify on your own, you could add a co-signer to your application—but this comes with its own set of risks. Your co-signer is legally responsible for your student debt, and any missed payments or negative marks will hurt their credit. If you can’t repay your loans, your co-signer is responsible for the entire amount.
If you don’t have a co-signer, you can look for lenders that don’t require them—but you’ll usually pay a significantly higher interest rate. Almost all types of federal student loans do not require co-signers.
For most student borrowers, federal student loans should be the first course of action when it comes to borrowing money for school. As mentioned above, federal loans are easier to qualify for and offer more protections for borrowers. To maximize your federal student loans, fill out the FAFSA every year. Doing so may also make you eligible for additional scholarships and grants.
One of the biggest mistakes that students make is not applying for more scholarships before turning to student loans. Scholarships do not have to be repaid after graduation and are among the best ways to finance your education.
Students can find scholarships through their college, local governments or private and nonprofit organizations. There are dozens of ways to qualify for awards, including academic merit, athletic achievements, musical skill or even special talents.
Federal and state grants are available to students who usually qualify based on need. The Pell Grant and the Federal Supplemental Educational Opportunity Grant are the most common opportunities at the federal level.
Your school, state or local nonprofit organizations may also offer grants to students in need. Searching for grants could earn you thousands of dollars towards your education.
Getting a part-time job can help you earn enough to support yourself while attending college. You likely won’t earn enough to cover tuition, but you may be able to pay for incidentals like gas, groceries and utility bills without resorting to student loans. Plus, having a part-time job on your resume can help you land a full-time job after graduation.
While this may not eliminate the need for student loans entirely, it can reduce the amount you have to borrow. That means your debt could be more affordable after you graduate.
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