A diploma and caffeine addiction aren’t the only souvenirs many college graduates take with them.
Student loans are an increasingly unavoidable part of the American college experience, according to the Institute for College Access and Success. In October 2015, the institute reported that nearly 70% of those who graduated from public or private nonprofit colleges in 2014 had student loan debt. And that debt load is larger than ever: The average loan balance rose more than 50% between 2004 and 2014 to $28,950 per student.
Student loans are complicated, and if you don’t understand how they work, you could end up with more debt than necessary. Follow our basic guide to understanding student loans to navigate the process confidently from the start.
1. There are two types of student loans: federal and private
- Federal loans: The federal government disburses these loans, and nearly every student with a high school diploma is eligible to receive them. There are three main types of federal loans: direct loans, direct PLUS loans (for parents and graduate students) and Perkins loans.
- Private loans: These are offered by private banks and financial institutions. Your interest rate and eligibility will be based on your credit score, but you can apply with a parent or guardian as a co-signer. They often come with less generous repayment options and higher interest rates than federal loans.
2. To get federal loans, fill out the FAFSA
You can’t get the federal loans unless you fill out the Free Application for Federal Student Aid (FAFSA) first. It’s available for the 2016-17 school year starting Jan. 1, 2016.
The government uses FAFSA to determine how much you and your family can pay toward college costs. The schools you get into will recommend a mix of loans, grants and scholarships to cover the difference.
You can apply for private loans directly with the bank or financial institution you want to borrow from.
Read more: 5 Hacks to Save Time on Your 2016 FAFSA
3. Loans might be part of your financial aid ‘award’
Soon after you’re accepted to college, you’ll get a financial aid award letter. That’s a misleading name for it, though. Along with scholarships and grants, which are free money, the financial aid you’re offered might include loans you have to pay back.
You’re not required to borrow the full amount you qualify for, and you can even return loan money your school has disbursed to you within 120 days.
4. Interest can kick in as soon as you get the loan
A student loan carries an interest rate, which you can think of as a fee for borrowing money. Congress sets federal loan interest rates each year. Private loan interest rates are based on conditions in the economy and the borrower’s or co-signer’s credit score.
Interest starts accruing as soon as a loan is disbursed to you. The government pays the interest on subsidized federal loans, so you won’t be responsible for paying it until after you graduate. If your loan is unsubsidized, the interest that builds up while you’re in school will capitalize after you graduate, making your loan balance bigger.
5. Most loans have grace periods
You’re not obligated to start repaying most federal student loans until six to nine months after you graduate. The specific length of time for that break, called a grace period, varies among loan types. Private loan grace periods aren’t usually as generous, but it depends on the lender.
Unsubsidized loans will accumulate interest during the grace period. It’s a good idea to pay off the interest before your first payment is due so your loan balance doesn’t increase.
6. You have repayment options beyond the standard 10-year plan
If you have federal loans, you’ll end up on the government’s standard repayment plan by default when you graduate — unless you choose a different one during online exit counseling.
The standard plan gives you a fixed monthly bill for 10 years, which can be difficult to afford if you have a big balance, so it’s important to explore other options. Some federal repayment options, called income-driven plans, cap your loan bill at 10% or 15% of your earnings. You can switch plans at any time.
Private loans have fewer repayment alternatives. Call your lender as soon as you have concerns that you won’t be able to pay your bill on time. Some lenders will let you make interest-only payments for a few months, for instance.
7. Federal loans could be forgiven if you work in certain professions
Income-driven repayment plans forgive your remaining balance after you make payments for 20 or 25 years. If you work at a nonprofit, as a teacher or at a government agency, though, your federal loans could be forgiven after 10 years through Public Service Loan Forgiveness.
There are loan forgiveness programs for Perkins loan borrowers too. Take advantage of these options if you qualify, and follow the certification guidelines closely so you don’t miss out.
Your student loan decisions don’t end with the repayment plan you choose. You might also want to consolidate multiple federal loans into one so it’s easier to keep track of them, or refinance your loans so you get a lower interest rate. Learn what you can do with your loans now to create a solid plan to pay them off:
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