Federal Direct Loan Program: Definition and How It Works

The Federal Direct Loan Program provides low-interest student loans to post-secondary students (undergraduates and graduate students) and their parents. The William D. Ford Federal Direct Loan Program, managed by the U.S. Department of Education, is the only government-backed student loan program in the U.S.

How the Federal Direct Loan Program Works

The Federal Direct Loan Program offers several types of loans, including subsidized direct loans, unsubsidized direct loans, direct PLUS loans, and direct consolidation loans for refinancing student loans. Federal Direct Loans Program loans would be eligible for student loan forgiveness proposed by President Joe Biden, but private loans are not. (Biden's student loan forgiveness program is pending approval by the U.S. Supreme Court.)

Subsidized direct loans are the only student loans from the federal government based on financial need. The U.S. Department of Education pays the interest on these loans while the student is in school.

All loans granted through the Federal Direct Loan Program have maximum amounts set each year, with each successive year allowing for an increase in the total maximum yearly amount, with set aggregate amounts. Students who wish to apply for funding must first submit the Free Application for Federal Student Aid (FAFSA).

Undergraduate students can borrow $5,500 to $12,500 per year, depending on what year they are in school and their dependency status. These amounts are for both direct subsidized loans and direct unsubsidized loans. Professional and graduate students may borrow $20,500 each year in direct unsubsidized loans, and parents of undergraduate students can borrow using a direct PLUS loan.

Types of Federal Direct Student Loans

Direct Subsidized Loans

Direct subsidized loans are for undergraduate students who are eligible for financial assistance due to their or their families' economic circumstances. These loans help to cover the costs of a professional career school, college, or university. Qualified individuals can borrow up to $12,500 per year in direct subsidized loans and $57,000 in total during their undergraduate years.

Direct Unsubsidized Loans

These federal loans are available to eligible undergraduate, graduate, and professional students, and they are not based on financial need. Undergraduate borrowers can take out up to $57,000 in total, or $12,500 per year, and graduate and professional students can borrow up to $20,500 per year and $138,500 in total.

Direct PLUS Loans

These loans are offered to both parents of undergraduate students and graduate or professional students to help offset the costs of education not covered by other financial aid. Eligibility is not based on financial needs like subsidized loans, but you will need decent credit to qualify without meeting additional requirements. Borrowers with less than stellar credit may still access these loans, but they will have to meet additional criteria.

Direct Consolidation Loans

These loans allow a student or family to combine all eligible federal student loans into one loan with a single service provider, making it easy to make all of your payments in one location. Direct consolidation loans also allow you to gain access to additional loan repayment programs.

How to Get a Federal Direct Loan

To receive any federal direct loan (subsidized or unsubsidized), you must fill out FAFSA to find out if you qualify. On the FAFSA, you will be asked to create an account with the U.S. Federal Student Aid Office, which will issue you an ID to access the site.

After you file your FAFSA, your college will send you a student financial aid letter outlining the aid available to you, including federal direct loans. If you qualify for subsidized direct loans, you should take them first because they come with lower interest. Unsubsidized direct loans are also available, and PLUS loans are the most costly of all the federal direct loans because they have fees and higher interest rates.

When you decide on the federal direct loans you want to take out, you will do so via your school's financial aid office, and the money will be sent directly there and used for tuition, room and board, and other costs. If you have any money left over, it will be given to you. All of the money must be repaid.

Advantages and Disadvantages of the Federal Direct Student Loan Program

Taking out federal direct student loans has advantages and downsides to consider. One advantage of taking out federal direct student loans versus private loans is the low-interest fixed rates. Federal loans (except for PLUS loans) do not require strong credit, and the interest on subsidized federal student loans is paid by the government while you are enrolled at school. Federal direct student loans have several pathways to repayment via federal repayment and loan forgiveness plans too.

Drawbacks to federal direct loans include the fact that only unsubsidized loans are available to graduate students, who are also charged higher interest rates than undergraduates. Borrowers who default on their federal student loans cannot discharge them by declaring bankruptcy.

Federal direct loans have lower loan limits for undergraduates claimed as dependents on their parents' or guardians' income taxes. Finally, students must apply each year for direct loans.

Federal Direct Loans vs. Private Loans

Private lenders also provide student loans to use instead of—or in addition to—federal loans. Still, the federal program often has more favorable interest rates and other provisions, such as loan consolidation and forgiveness programs. Those seeking student loans should carefully investigate all available options.

Federal direct student loans have a cap on much they will lend. Private loan companies do not often impose a cap on how much they will lend. Interest rates are higher, but private loans may be more flexible in their rules of how the money can be used. All in all, private student loans usually end up being more expensive than federal student loans.

Federal direct student loan payments are deferred until you graduate, but not all private loan payments offer the same option. In addition, while direct loans may be eligible for student loan forgiveness and repayment plans, but private loans may not be eligible.

The Bottom Line

The Federal Direct Student Loan program offers a number of advantages, including low interest rates and a fixed interest rates, but there are downsides as well. For example, you can only borrow a certain amount each year. Consider all your financing options before deciding which type of student loan is best for you.