Each week a new headline comes out expressing the ongoing issue of student debt in today’s society. There are more than 44 million borrowers who owe more than $1.5 trillion dollars in student debt. How did this happen? With student debt growing at an alarming rate, I feel a major contributor to this problem is the lack of financial awareness and transparency. Before any loans are taken, every student should have a basic knowledge of the various types of loans available to pay for college and what the loan repayment will look like at graduation.
As part of the college award letter evaluation, we believe families need to understand their student loan options in relation to their college affordability decision and planning. The PayForED student loan overview will give you some basic information to allow better borrowing decisions.
Student Debt Structure is Critical
Unlike most loan approvals, access to student loans is much easier and quicker. In addition, borrowers do not see the financial consequence until years later and that is the problem. Most students do not worry about their student loans total until after graduation. With most other loans, the repayment process is almost immediate while student loan repayment could be delayed years before repayment will begin.
What is often overlooked in student loan planning, is that a student debt structure will drive the loan repayment option in the future. Little adjustments in these decisions can reduce the parent’s legal exposure and credit rating. A dependent student is limited to just over $31,000 in their name and any loans over that amount will require a co-signer or parent direct loan.
Direct Federal Student loans offer better repayment and forgiveness options.
Using Direct Federal Student Loan First
To qualify for Direct Federal Student Loans, the student must submit the FAFSA. Once the FAFSA is completed, it is possible to see both Subsidized Direct Loan and an Unsubsidized Direct Loan on your award letter. Your need at each college will determine if you receive just an Unsubsidized loan or a combination of both the Subsidized and Unsubsidized loans.
To qualify for a Subsidized Direct Loan your Expected Family Contribution (EFC) must be below the Cost of Attendance (COA) at that college. If the family’s EFC is above that amount, then you will only see an Unsubsidized Direct Loan.
The different between the two loans is that a Subsidized Direct Loan interest is paid while the student is in college. An Unsubsidized Direct Loan will be charged interest while the student is in college. The Direct Loans are sometimes called Stafford Loans on the award letters.
These Direct student loans should be taken each year as it will improve the student debt structure for repayment and future debt if post graduate school is in their plans. These loans have both annual and lifetime limits based on the student’s academic progress. For freshman year, the limit is $5,500 in total. Within that total, a student could have up to $3,500 in Subsidized Direct loans.
Ignore Parent PLUS Loans on the Award Letter
Some colleges will include a Direct Parent PLUS loan in the list of award letter items. These loans are legally the parent’s and can be misleading in determining the true next cost of the college. They are a possible financing option but should be ignored during the cost comparison.
The Parent PLUS Loans have higher rates and fees compared to the Direct Student Loans. Like the other loans, there is a limit to the amount accessible under the Parent PLUS loan. To find your individual allowable amount, subtract the cost of attendance from the financial award. A Parent PLUS loan does not qualify for the various repayment and student loan forgiveness options.
State and College Loans
There are colleges and some states that offer student loans as part of their financial award packaging. The student will need to evaluate these loan terms and compare them to the alternatives. These loans do not qualify for the federal loan repayment and forgiveness options.
Federal Interest Rate on Student Loans
The federal interest rates are not established at the time of the award letters. They are based on the Treasury auction that happens in May. The new rates are established and become effective on July 1 of each year. You are unable to pre-borrow the money. The federal loan interest rate is based on the time of distribution.
Student Loan Award Letter Summary
In our series of Decoding the Financial Award Letter, we have addressed various topics. One of the most important details for a student’s financial future is the amount of debt they will graduate with and how it is structured. The PayForEd software helps students and parents make informed decisions by increasing the transparency to the outcome.
To prevent the student debt crisis, families must realize both the “WHAT” and “HOW” of their college financial decisions.
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