Words like “deferment,” “consolidation” and “income-based repayment” aren’t part of a typical high school senior’s vocabulary. But understanding how they’ll eventually apply to you could make you feel much more secure as you repay student loans in your 20s.
These terms describe benefits that are exclusive to federal student loans — those issued by the government — that make repaying them easier and cheaper than repaying private loans. When you’re looking for ways to pay for college, federal loans should be your next choice after grants and scholarships.
Here are 10 reasons why.
1. You can get federal loans without a credit history.
You can take out a private loan (one from a financial institution such as a bank or credit union) independently only if you have a credit history — for example, if you have credit cards or a car loan in your name. If you’ve paid these bills on time and in full in the past, you’ll have a good credit score, and you’ll be offered more private loan options and lower interest rates. However, many financial aid applicants will have short credit histories and low credit scores, if they have scores at all. Federal loans, on the other hand, are available to any enrolled undergraduate with financial need. You can apply for federal loans by filling out the Free Application for Federal Student Aid.
2. You can get federal loans without a co-signer.
High school seniors and college students without long credit histories can still qualify for private loans if they have a co-signer — usually a parent or grandparent who agrees to pay the loan balance if the student can’t. It’s hard to release a co-signer from a private loan later on, though. Since federal loans aren’t credit-based, they don’t require a co-signer, meaning your family members won’t have to be concerned about taking on the repayment responsibility.
3. Federal loans offer lower interest rates than private loans.
Undergraduates who take out federal loans during the 2015-16 school year will pay 4.29% in interest on those balances. Private loan interest rates can be twice or three times as much, depending on your credit score or that of your co-signer.
Additionally, rates for federal loans are fixed, meaning they’ll remain the same during your entire loan term. Private loans frequently offer variable rates, which increase when the Federal Reserve raises the interest rate benchmark — as it did on Dec. 16, 2015, for the first time since 2006.
Keep in mind that if your interest rate is too high, whether you have a federal or private loan, student loan refinancing is an option, as long as you’ve built up your credit and earn a steady paycheck.
4. You can postpone federal loan payments for up to three years.
If you can’t afford your payments temporarily, federal loan programs offer two options. Deferment allows you to postpone or lower your payments due to economic hardship for a total of three years. Forbearance lets you pause payments for up to a year at a time. Private student loans have significantly less generous options. Some lenders will lower your interest rate or let you pay only the interest for a period of time, but not all.
5. The government pays the interest on deferred subsidized federal loans.
Students who need greater financial assistance to pay for school qualify for federal subsidized loans. The government pays the interest on subsidized loans when they’re in deferment, both while you’re in school and if you take a break from payments. Private loans don’t have this benefit. Interest accumulates on private loans — and on unsubsidized federal loans — as soon as they’re paid to you.
6. You can choose from seven federal student loan repayment plans.
The repayment period on your private loans is often difficult to negotiate. But if you have federal loans, you can choose from seven student loan repayment plans with different monthly payments and loan terms. You can even tie your bill to your income.
The government established an income-driven repayment plan called REPAYE in late 2015 that lets all federal loan borrowers put a maximum of 10% of their incomes toward repayment each month. If you have only undergraduate loans, your balance will be forgiven after 20 years, or 25 if you have graduate school loans. No such option exists for private loans.
7. Federal loans offer forgiveness opportunities.
Private loans don’t offer any forgiveness opportunities: You’re responsible for repaying the full balance. But federal loans can be dissolved if you participate in an income-driven repayment plan or work at a nonprofit or for the government. The Public Service Loan Forgiveness program forgives federal loans after 10 years. Perkins Loan cancellation forgives this type of loan after an even shorter time.
8. It takes longer for federal loans to go into default.
Some private loans go into default the day after you miss a payment. While private lenders don’t have as much power as the federal government does to recover the money you owe, missing a payment will severely affect your credit. That will make it harder for you to take out other loans or even get an apartment in the future.
Federal loans give you more time to get your payments on track if you fall behind. Your loans aren’t considered “delinquent” — and you won’t be reported to the credit bureaus — until you’ve missed three months of payments. Your loans will go into default after nine months of missed payments, and at that point, the government can take money from your paycheck or tax return to recover your debt.
9. You can consolidate federal loans without having good credit.
If you have multiple federal loans — perhaps you’re even paying separate bills to different loan servicers — you can easily consolidate your student loans into one payment. Consolidation makes some loans eligible for Public Service Loan Forgiveness and income-driven repayment plans. It’s also one of three structured ways to get out of default. But it won’t save you money: Federal consolidation just results in a weighted average of your prior interest rates.
You can also consolidate and refinance private loans, which might lower your rates. Refinancing requires a credit check, though, so you’ll need good credit or a co-signer to get a new private loan.
10. Your federal loans will be canceled if you die.
If you die or are permanently disabled, the government will discharge your federal loans — meaning that they no longer need to be repaid. It will also discharge any parent PLUS loans taken out on your behalf if the parent who holds them dies.
Private loans don’t work the same way. Lenders aren’t required to offer death or disability discharge, though some do. If you die, your co-signer might be responsible for repaying the remaining balance. Private loans can also go into “auto default” if a co-signer dies, requiring the student to repay the total outstanding balance right away.
Avoid taking on that extra risk by borrowing the maximum annual amount of federal loans before you take out private loans. Many students miss out: Almost half of all college students who took out a private loan in 2011-12 didn’t max out their federal loans first, according to the Institute for College Access and Success, an education advocacy nonprofit. But now you know better.
Next, NerdWallet’s resources will help you apply for, and choose the best forms of, financial aid:
This post has been updated. It was originally published on Sept. 13, 2012.
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