What Is the Difference Between Federal and Private Student Loans?

Private Student Loans

The United States federal government provides student loans at subsidized rates to eligible students around the country. Even though outside companies service them, they are governed by federal law and subject to significant restrictions.

Private student loans are backed and serviced by organizations that can be more flexible, enabling you to complete your education. The terms and conditions of loans vary among private student loan servicers, but generally, they can have much higher limits than federal loans.

Although private student loans usually have higher interest rates than federal ones, they can be much more helpful due to their overall flexibility. Application timelines, eligibility, and refinancing options work differently for federal loans than for private loans, so it’s essential to understand all the differences before signing any paperwork.

Application Timelines

Students must submit their application for federal financial aid by June 30 of each year. They typically must accept or decline loans by the first day of classes unless otherwise set by their college or university. If your financial needs change in the middle of the year, you may have to wait until the next semester or even the next school year to get more funding.

Private lenders can give you a loan at any time of year, which can be a massive help if you or your parents become unemployed. Although private lenders typically need a few weeks to process your loan application, these funds can act as a valuable cushion when you need it most.

Loan Servicer

Private student loans are serviced by a wide range of providers, including banks, credit unions, and other financial institutions. Many of these institutions are for-profit, and some are even publicly traded, meaning they have to prioritize making a profit for their shareholders.

Of all the private student loan options, credit unions are typically the most student-friendly. As non-profit and member-controlled institutions, they can focus on serving their members with the lowest rates possible. They’re governed by federal laws and the National Credit Union Administration, so they’re reliable and secure just like big banks.

The federal government contracts with several loan servicing companies to manage your loans. You can’t choose your loan servicer when you first get your loans, but you can choose one later if you decide to consolidate your loans. The quality of service varies between servicers, and you may find them to be a huge hassle.

Required Credit and Eligibility

There are multiple types of federal student loans available, each with their own eligibility requirements. Students must fill out the Free Application for Federal Student Aid (FAFSA) each year in order to receive loans or grants, including loans reserved for low-income students.

Undergraduate students are typically eligible for more loan and grant types than graduate students, and graduate student fixed interest rates are higher than for undergraduates. However, all U.S. citizens and certain noncitizens are eligible for loans, regardless of credit score, as long as they are enrolled in an accredited institution, make satisfactory academic progress, and aren’t in default on an existing federal loan.

There is an exception for Direct PLUS Loans, which are not subject to the same limits as other types of federal loans. These loans require a credit check, and you may be rejected for loans or required to get an endorser with better credit if you have a bad credit history within the past five years. They also typically have a higher interest rate than other student loans.

Private student loans vary in their eligibility requirements, but many require you or your parents to have a good credit history. Credit unions usually allow applicants with lower credit scores to take out loans, although they may be capped at a lower limit.

Loan Rates and Repayment Terms

Federal loans have fixed rates that will not change over the life of the loan. This means that no matter what happens with the national economy, your interest rate will be the same as the day you signed it.

Most private loans have variable interest rates, which vary based on the broader economic situation. Since they’re based on the prime rate that sets the benchmark for loans nationwide, these interest rates typically drop when the economy isn’t doing well. This can make it easier for you to still make your loan payments if you’re struggling to find a job that pays well after graduation.

Other loan terms and conditions vary as well. Federal loans’ repayment terms range from 12-30 years depending on the loan amount, while private loans’ repayment terms are typically 15-25 years.

Loan Limits

Federal loan limits vary based on the type of loan, what year of college you are in, and whether you are a dependent student. Dependent students are limited to a total of just $5,500 in their first year of college, $6,500 in their second year, and $7,500 each subsequent year. They are capped at an aggregate amount of just $31,000, which is not even enough to cover in-state tuition at many four-year public universities.

Independent students can take out $4,000-$5,000 more per year, for a total aggregate maximum of $57,500. This typically covers tuition and some room and board costs at public schools for four years, but won’t be enough to cover private universities.

The federal government also offers Direct PLUS loans for graduate students and parents of undergraduates. These funds can be used for any college-related costs and fees, up to a set amount determined by your college or university each year, with no hard limit set by the government.

Private lenders typically have higher loan limits. At T&I Credit Union, our maximum undergraduate loan amount of $75,000 is sufficient for full in-state tuition and most room and board costs at four-year public universities. When paired with federal loans, you can cover your education’s total cost and realize your dreams, even if your top choice for college is a private school.

Loan Forgiveness

Private loans cannot be forgiven, and the loan holder must eventually pay them off. While credit unions will typically give you ways to skip a payment or provide other accommodations due to financial hardship, for-profit providers will rarely provide forbearances unless your repayment plan is tied to your income.

The federal government can theoretically forgive your loans if you work in a public-sector job for ten years. However, the approval process for getting your loans forgiven is incredibly difficult. As of September 2019, only around 1% of applicants for federal loan forgiveness had been approved, in part because it can be hard to work in public-sector jobs for long enough to qualify.

In other words, choosing federal loans in hopes of having them someday forgiven isn’t the right option for most students. Other providers can provide similar rates with better service and more flexibility on grace periods.

student loan

Consolidation and Refinancing Options

Although the federal government allows you to consolidate loans, they will not fully refinance your existing loans. Consolidation without refinancing makes monthly repayment simpler but does not have a significant impact on your monthly payments.

Private lenders, including credit unions, can refinance both federal and private loans to provide graduates with one new monthly package that works with your budget. The new low monthly payments can make a huge difference in managing your existing student debt, and in some cases could save you hundreds of dollars per year.

Refinancing through a credit union can be especially beneficial because of the lower interest rates available through their non-profit structure. If your credit score has improved significantly since you first got your student loans, you may qualify for an interest rate that saves you even more.

Getting the Best Private Loans

Your education is an essential part of your future, and you shouldn’t have to pay huge fees and interest charges to afford it. Partnering with a credit union is the best way to get both flexibility and low rates because a non-profit institution can put your needs first.

T&I Credit Union serves members across a seven-county area around Detroit, Michigan. We work hard to provide the lowest interest rates possible on all our services, including student loans. Contact our team today at 1 (800)-338-3908 to learn more about how we can help you achieve your academic dreams.

About Marsha Smith

Marsha Smith was born and raised in Ohio, where she obtained her Bachelor of Arts in Public Affairs. She is passionate about financial literacy and helping other young people navigate student loans, car payments, and buying a home.

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