By Mario Gabalda
Preparing for college requires a financial strategy – especially as the cost of higher education continues to rise. Rapidly. The average debt for graduates who fund their education with loans tops $25,000, and that number is expected to rise.
It seems simple to borrow money with the expectation the loan repayments will be manageable, but too often students experience setbacks during college or after graduation that makes repayment difficult. With all the conflicting information and opinions out there, it’s important to understand the basic considerations that go into borrowing to pay for college.
Student loans are categorized in two distinct ways. Federal loans are those issued directly by the federal government, while private loans are provided by banks and other private lenders. For most people, federal loans will offer the most favorable terms in the long run. But if money provided by federal loans is not sufficient, students may need to consider private loans.
There are three primary types of federal student loans:
• Stafford Loan – These fixed rate loans can be “subsidized” or “unsubsidized.” A subsidized loan means that the interest charged on the loan is waived while the student is enrolled in school and for a period of time after graduation. Unsubsidized loans calculate interest accrued from the time the loan is given.
• PLUS Loan – These loans are available to creditworthy parents of dependent undergraduate students at a fixed interest rate. They can be used to cover education expenses not covered by a Stafford Loan or other forms of financial aid. PLUS Loans are also available for graduate and professional students.
• Perkins Loan – This loan program is available through schools that choose to participate. A Perkins Loan is made directly by the school to the student using federal government funds. These loans are typically reserved for students with the greatest financial need.
Students can qualify for federal loans regardless of their credit history. If the student were to lose his or her job in the future, the payments may be deferred. Federal loans also have a six-month grace period before repayment begins to allow students extra time to find employment after they graduate.
Private Education Loans are offered by many banks and lending institutions. Private loans can help bridge the gap between the actual cost of education and the amount available through federal loan programs. Private loans offer features different from the Federal loans.
• Interest rates on private loans tend to be variable, which means they may increase in the future. Depending on the amount borrowed and the repayment schedule, they could ultimately end up being more costly than federal loans, even if they initially carry a lower interest rate.
• A co-signer is often required for a private loan. The co-signer presumably has a more substantial credit history than the student and will be required to pay for the debt if the student fails to do so. Unlike with federal loans, the balance may not be forgiven if the student becomes disabled or dies.
• Deferment may not be an option if the student is laid off or faces financial hardship while trying to find a job. Some institutions may consider even a single missed payment as default on the loan causing serious damage to the borrower’s and the co-signer’s credit ratings.
It’s crucial students recognize how their student loan debt may affect them in the future. A college education is a significant part of a student’s life and future career. Starting early with careful financial planning can make paying for it affordable and less overwhelming.
Consider working with a financial advisor who can help parents and their students plan for the financial aspect of college. When it comes to student loans, a little financial education can go a long way.
Mario Gabalda is a Financial Advisor with Ameriprise Financial Services, Inc. in Vienna, VA. He specializes in fee based financial planning and asset management strategies and has been in practice for over 10 years. To contact him: 703-610-7228, 8045 Leesburg Pike, Suite 500, Vienna, VA, 22182, [email protected]