Before you think about borrowing for college via a private loan, you always want to exhaust your federal loan availability first. This is because federal loans normally have lower, fixed interest rates, no cosigner requirement and better repayment terms – especially if you hit a financial rut while trying to repay your loans. Additionally, the approval process isn't based on an applicant's credit rating; good news for young borrowers with little or no credit history.
In this chapter of the student loan tutorial, you will learn about the various types of federal loans and how they work, how to apply for them, and the basics of loan repayment. (For background reading on the differences between private and federal loans, see College Loans: Private Vs. Federal.)
How Federal Loans Work
When you are borrowing via a federal loan, you are automatically approved as long as you meet a short list of requirements (listed at http://www.fafsa.gov/). None of the loan programs requires a credit check, and your – or your family's – income is only important for grants (free money) and subsidized loans (where accrued interest is paid by the government while you are at least a half-time student eligible for financial aid and several other circumstances).
Your loan is disbursed through your university, and the university will write you a check or send you a direct deposit for the difference between your tuition and fees and your semester's loan amount. Scholarships or payments you've already made toward your tuition and fees can increase your refund amount. The refund you receive can be used for housing, groceries, transportation and other living expenses.
However, you may have a balance due on your account instead of a refund. A national student loan borrowing limit per individual is set annually. If your tuition and fees for the year are higher than this limit, you will not receive payments unless you made a payment to your account before your student loan arrived. An example of this situation is if you are going to a private school where the tuition is especially high; in this case, your student loan limit may not completely cover tuition and fees, so you will need additional funding alternatives such as private loans.
If you receive grants, the federal grant amount reduces your federal loan limit amount; however, the money balances out because the grant deduction is exactly the same as the free money you received.
Your Best Financial Aid Friend : The FAFSA Application
The most critical action you can take in applying for financial aid for private and public universities is to fill out the Free Application for Federal Student Aid (FAFSA). The FAFSA can be filled out online at http://www.fafsa.ed.gov/, at public libraries, university financial aid offices and high school guidance counselors. No matter which college you decide to attend, this is the universal form you need to fill out. The form is basically an information sheet that gives your prospective colleges an idea of your financial situation. On the form, you'll need to provide proof of your income, along with your parents' income if they currently claim you as a dependent on their tax return. If you are married, you will have to provide proof of your spouse's income.
Here's the complete list of the documentation and information you will need while you are filling out your form:
- Your Social Security number
- Your driver's license, if you have one
- Your W-2 Forms, 1099s, pay stubs, or other documents that show how much you earned in the year prior to the school year for which you are applying. Records of untaxed income, such veterans' benefits and Social Security disability payments, should also be by your side while you fill out your FAFSA.
- Any federal tax return for the year prior to your return. If you are married and didn't file jointly, have your spouse's ready as well. (If the year hasn't ended yet, it's OK to estimate your total annual income.) If you are a dependent, you will also need your parents' tax returns.
- In addition to U.S. tax returns, tax returns are also accepted for Puerto Rico, Guam, American Samoa, the U.S. Virgin Islands, the Marshall Islands, and the
Federal States of Micronesia and
- For asset information, also have your investment and bank account statements ready, in addition to mortgage and business or farm ownership information. You don't have to provide asset information if your adjusted gross income is $50,000 or less for parents of dependent students or for independent students.
Filling out the form doesn't imply a commitment to attend any of the schools you select to receive your income and residency information. In addition to loans, the FAFSA is also used to determine grant eligibility. This amounts to free money if you are determined to have enough financial need. For more, see A Quick Guide to How FAFSA Loans Work.
Types of Loans You Can Receive
Federal Perkins Loans
Perkins loans are the absolute best loans you can get from the federal government - if you qualify. These loans are need-based and highly limited. The school gets a limited amount of money from the government and is in charge of distributing these loans based on income reported on the FAFSA form. Perkins loans come with a variety of loan forgiveness programs for taking certain public service jobs after graduation.
Federal Direct Loans: Direct Subsidized Loan and Direct Unsubsidized Loan
While there are loans that parents can take out for their children, subsidized and unsubsidized
Federal Direct Loans are two ways for individuals to pay for their own education. A subsidized loan is where your interest is paid by the government until you graduate – as long as you maintain half-time status (take at least six credits per semester as an undergraduate or four credits as a graduate student). A slightly less attractive option are unsubsidized loans, which do accumulate interest while you are in school. However, with either loan, you don't have to make payments until six months after you graduate, with the exception of consolidation, which will be discussed further in Chapter 8.
Direct PLUS Loans
Parents are eligible for unsubsidized, fixed-rate federal student loans to help pay for their children's education. Direct PLUS loans are distributed through the federal government's direct lending program. Similar to loans granted to the student, eligibility is determined by the information received on the student's FAFSA form. Direct PLUS loans differ in that there is a slightly higher loan origination fee, and interest rates are slightly higher than for loans that are offered directly to students. Parents are ineligible for reduced payments based on their annual income.
Lenders – Less Is More
If possible, it's best to choose the same lender for all your loans because your monthly payments can be consolidated into one loan. Having one lender will also make it much easier to track your payments and avoid missed payments and late fees.
Federal Loans – Simply Indispensable
If you are considering borrowing for college, fill out a FAFSA. Because of the fixed interest rates and guaranteed repayment terms, a federal loan is your best option. However, keep in mind that student loans are like Halloween candy: If you go overboard, you'll have a student-debt bellyache for years to come.Student Loans: Private Loans
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