College Loan Options
How to Tell a Perkins from a PLUS
Most students receive a loan as part of their financial aid package. Unlike scholarships and grants, loans need to be repaid—with interest. Not all loans are alike and it's easy to get confused. But borrowing responsibly and minimizing the total amount you'll have to repay begins with getting to know the different types of loans.
The table below provides an overview of four types of federal loans plus private, or alternative, and state loans. The loans range from least to most expensive:
| Loan | Need-Based & Subsidized? | Sponsor | Borrower | Interest Rate |
|---|---|---|---|---|
| Perkins | Yes | Federal government | Student | 5% (fixed) |
| Subsidized Stafford | Yes | Federal government | Student | 5.6% (fixed), effective July 1, 2009 4.5% (fixed), effective July 1, 2010 |
| Unsubsidized Stafford | No | Federal government | Student | 6.8% (fixed) |
| Parent PLUS | No | Federal government | Parent | 7.9% or 8.5% (fixed), depending on program |
| Private (Alternative) and State | No | Banks, colleges, foundations, state agencies | Usually student with creditworthy parental cosigner | Usually higher than federal rates; variable |
Note: The federal Grad PLUS Loan, available only to students in graduate or professional school, is not included.
How Loans Differ
What does subsidized mean? Why are need-based loans preferable? Learn about key loan characteristics.
Need-Based vs. Non-Need-Based
Loans can be divided into two main categories: those that are based on need and those that are not. Need-based loans are awarded only to students whose families have financial need. Demonstrating financial need begins with completing the Free Application for Federal Student Aid (FAFSA). By doing so, you'll also make sure you're considered for other types of financial aid like grants (money you don't have to repay) and student employment.
Need-based loans typically have better terms, so consider them first. They usually share these advantages:
- They have lower interest rates than other forms of credit.
- You won't have to make any payments on the principal until after you leave school.
- They're subsidized. In other words, you save money because the government pays the interest while you're in school and for up to six months after graduation. This benefit makes the loan much less expensive for you. If you qualify, always borrow a subsidized loan first.
Non-need-based loans are designed to help families pay their share of college costs if they can't afford to do so from savings and current income.
Federal vs. Private (Alternative) and State
Federal loans make up about 45 percent of the total aid awarded to undergraduates each year. They're usually less expensive than private or state loans.
Private loans are offered by banks and other financial institutions as well as some colleges, universities, and private foundations. State agencies also provide loans. Generally, neither private nor state loans are subsidized or based on need.
Student vs. Parent
Most loans, with the notable exception of the federal parent PLUS, are intended for student borrowers. However, parents usually play an important role as cosigners when students take out private loans, agreeing to repay the loan if the student doesn't.
Interest Rate
The lower the interest rate, the less expensive the loan, and the less you'll repay. One advantage of government loans is that they tend to have lower interest rates than private loans, and the rates are usually fixed while private loans tend to have rates that change periodically.
Loan Options
Each type of loan is described below. Note that federal Stafford and PLUS loans are available through two different programs: the Federal Direct Loan Program and the Federal Family Education Loan (FFEL) Program. Most schools participate in either one or the other. Loans made from the Direct Loan Program are funded by the government while funds for FFELs come from a bank or other private lender. If your college participates in the FFEL Program, you'll need to choose a lender.
Federal Perkins Loans are awarded by colleges to students with the highest need, using limited pools of money provided by the government and by prior borrowers in the form of repayments. The interest rate is very low—5 percent—and you don't make any loan payments while in school.Undergraduates can borrow up to $5,500 a year, totaling not more than $27,500 overall.
Federal subsidized Stafford Loans are also need-based loans. Currently, the fixed interest rate is 5.6 percent. Beginning on July 1, 2010, the fixed interest rate drops to 4.5 percent. The government pays the yearly interest while you're in school. Undergraduates with the greatest need can borrow up to $3,500 for their freshman year. This limit rises as they progress through school.
Federal unsubsidized Stafford Loans are sponsored by the government but are not based on financial need. The interest rate is fixed at 6.8 percent. As a dependent undergraduate, you can borrow up to $5,500 minus the amount of your subsidized Stafford, if you have one. That's for your freshman year; the limit rises as you progress through school. If you're an independent student or if your parents can't borrow a PLUS Loan, the limit rises by $4,000.
Unsubsidized Staffords can be used to help pay the family share of costs. You're responsible for paying interest on the loan while in school, unless you, like most students, choose to have the interest added to the principal during your years at school. This is known as capitalizing the interest. If you do that, however, you'll be borrowing the amount of the interest as well, and that means you'll end up repaying more money.
Federal parent PLUS Loans are sponsored by the government but are not based on need. Generally, parents can borrow up to the total cost of education, minus any aid received. PLUS Loans are the largest source of parent loans.
The interest rate depends on which federal loan program your school participates in. If it participates in the FFEL Program, the interest rate is fixed at 8.5 percent. If it takes part in the Direct Loan Program, the interest rate is fixed at 7.9 percent.
Private (alternative) and state education loans are generally not subsidized or based on need. Although some colleges lend money to parents, private loans are most often intended for students. Still, a parent is usually a cosigner, since good credit tends to be a requirement. If the student defaults on the loan, the parent is responsible for repaying it.
Private education loans are available from three types of institutions:
- Banks and other financial institutions usually offer loans that carry a higher interest rate than federal loans.
- Some colleges and universities have their own loan funds. Interest rates may be lower than federal student loans. Contact the college's financial aid office to learn what's available.
- Some private organizations and foundations have loan programs with quite favorable borrowing terms. You can use Scholarship Search to find these.
To learn what state loans are available to you, visit the website of your state's higher education agency. Find it in the Department of Education's list.
Next Steps
What do you need to do to make sure you're considered for the most attractive loans? When do you need to do it? Learn How the Borrowing Process Works.
