Student Loans Guide

Many thanks to Mark Kantrowitz for serving as a valuable source.

You sport an unblemished high school GPA, and you're All-State in football, basketball, and badminton. You spent your summers tending to blind orphans in Guatemala and securing peace in the Middle East. Congrats, Doogie Howser, you'll get into your dream college!

Now how are you gonna pay for it?

Most of us will foot the bill with student loans-and maybe scholarships and help from our parents. If you're like the average student, expect to graduate with your diploma and a bill for $19,200 in student loan debt. If you continue on to graduate or professional school, the figure will likely grow - big time.

It sounds scary, but don't panic. With the rising costs of college, school loans are nearly inescapable. Even more, the interest rates for educational loans are generously low, and your degree will give you a better shot at making some good money as opposed to skipping college. And you can gradually pay off your college debt over 10 years (or more), making that $19,200 more manageable as you start your career.

We've put together this school loans guide to help you understand the key elements of financial aid and get the most favorable package of loans, grants, and scholarships to pay your way through college. Learning about financial aid can make your head spin, but it's important that you're armed to manage your future debt right from the start. Knowing your options now can save you thousands after graduation. (Even you, Doogie.)

If you don't have the time or patience to read this whole guide - then just check out our Grilling Guide section . It will arm you with the questions you must ask your lenders and school when figuring out how to pay for your education.

1. For those of you going for an A+ in student loans - lets get started with the basic terms:

Expected Family Contribution - The dollar amount the government thinks you and your family-if you're still a dependent, which most college students are-ought to pay out of pocket each year for your education. It's derived from various factors, mainly your and your parents' annual income and assets, household size, and tax returns.

Financial need - The gap between your expected family contribution and the total cost of your college. This disparity is the amount you should be awarded in financial aid in order to cover your education and living costs.

Grace period - A short period of time after graduation-normally 6-9 months-where you're not required to start repaying your student loans. Federal loans are more generous in this regard, whereas private loans may demand that payments start right away.

Repayment schedule - The timeline for paying back your loans. Most common is a 10-year schedule. It will also outline your interest rate, the monthly payment, the principal and interest owed, and payment due dates.

Subsidized loan - A loan where the government pays the interest while you're in school, during your grace period, and if the loan is in deferment. These loans have the most favorable terms, because interest does not accrue while you're in college. It does not apply to private loans.

Unsubsidized loan - A loan where the government does not pay the interest. You're responsible for the interest from the moment you accept the loan, even while you're still in school. You can pay the interest while you're a student. Otherwise, the interest will be capitalized and added to your principal, increasing the overall balance of the loan.

Now that you have a handle on the language of student loans, let's cover the basic types of aid.

Scholarships are awards for your academic performance, athletic abilities, creative talents, or other characteristics that set you apart. They vary in size and do not have to be repaid.

Grants are typically awarded based on your financial need. They might come from the federal government, your state, or directly from your school. No repayment needed.

Loans , on the other hand, must be repaid. Federal and state loans have far better interest rates and repayment terms than private loans. Lenders can't charge more than a mandated fixed interest rate on new federal loans, a rate set by the government. The rate doesn't change during the life of the loan. Federal loans come in three varieties, usually dependent upon your family's ability to finance your education.

Here's a breakdown of federal loans:

Of the federal loans, Perkins is the best because of the low rate and the subsidized interest. They are reserved mostly for undergraduate and graduate students with the greatest financial need. Perkins is the only loan of the three that can only be administered by your school-not a bank or any other lender-from a limited pool of funds that the government supplies. Therefore, you would pay the loan back directly to the school, not the lender.

Next best are Stafford loans, which can be subsidized or unsubsidized depending on your financial situation. Subsidized is preferable, of course, because the government pays your interest while you're in school.

The caps varied based upon your tax status. If your parents claim you as a dependent, you can't borrow more than $23,000 in Stafford loans during your academic career. Non-dependent students (or those whose parents where denied a PLUS loan) can borrow double that amount, with no more than $23,000 being subsidized. Graduate students can't borrow more than $138,500 cumulative, with no more than $65,500 being subsidized. There are also annual limits that escalate depending upon your year in school.

You can qualify for a Perkins, a subsidized Stafford and an unsubsidized Stafford in the same year. In fact, you want this to happen. The object here is to max out on all of the best loans before looking at alternatives. So if you're eligible for $2,000 in subsidized Stafford loans based on your need and the annual Stafford limit is $3,500, you can borrow $1,500 in an unsubsidized Stafford to make up the difference.

PLUS loans have the least favorable terms among government-backed loans. They are only available to graduate students or parents of undergraduates. They come with a fair bit of flexibility. First, you can borrow up to the total cost of attending school, minus other financial aid. Also, it doesn't matter how much you make or what kind of savings you have. Lenders only look at your credit history-although it doesn't have to be pristine-not your need.

Even if your credit is lousy, you may still be able to get a PLUS loan if you are able to explain to the lender extenuating circumstances that caused the problems. Some lenders may also let you have a friend or a family member cosign for the loan, whether you are a parent or a graduate student.

The interest-rate on PLUS loans is set at 8.5% and just like with the other federal loans, it cannot go above this percentage regardless of which lender you use. These loans are not considered part of your financial-aid package since financial aid only consists of need-based awards.

Repayment on PLUS loans begins 60 days after the lender sends the money to your school. So if the bank hands out the money in August for a freshman starting school, the first payment will come due in October. However, as is the case with the unsubsidized Stafford loan, you can choose to defer the payments by allowing interest to pile up.

If you are an undergraduate student whose parents took out a PLUS loan in order to avoid private loans, be sure to discuss in advance who will be paying off these loans. Technically, the parent is responsible for paying off this loan, but since these lower interest loans can prevent the student from having to take on costlier private loan debt, it may make sense to work out a system where the student pays off the loan or at least helps with the repayment. Better to broach this with your parents beforehand.

Unlike federal loans, private loans often do not have a cap on interest rates or borrowing amounts, and the repayment terms are often less forgiving. Private loan rates can go as high as 18%, and their rate is often variable, which means it changes over time. There's typically no limit on the dollar amount - and when there is, it's as high as $200,000 to $300,000. You can get a private loan from both big banks and random little lenders that you've never heard of that do nothing but student loans.

You don't have to fill out any federal paperwork in order to get these loans. As a result, it's sometimes tempting to only get private loans, since you can get them faster than federal loans. This is particularly true when you find yourself short of money at the beginning of a semester, and the tuition bill is past due. But resist this temptation because private loans will hurt your bank account for years.

The weird thing about private loans is that you won't be able to find out what interest rate you'll be paying until you actually apply for these loans. The rate and certain fees will typically depend on your credit score and that of your cosigner if you have one. Usually, the cosigner is someone with a longer (and often better) credit score than your own. You really want to try to have a cosigner, since the rate on a private loan is usually based on the better of your two scores.

Finally, if you're unemployed or fall on difficult times after school, it's unlikely that a private lender will show much sympathy. With federal loans, you can often defer your payments-which will increase the amount you ultimately pay back-until you get back on your feet. Most private lenders offer no such assistance.

2. Do You Need Student Loans?

Unless you're a math whiz or basketball star who nets a full ride, chances are you'll need to take out student loans to pay for school. (Use our student budget calculator to figure out how much a year at school will cost.) In fact, according to FinAid figures, nearly two-thirds of students enrolled at four-year colleges have to borrow during their college career.

But that doesn't mean you shouldn't seek out scholarships or grants in place of some (or all) of loans. There are scores of organizations willing to dole out scholarships. By one count, 2.7 million scholarships are up for grabs every year. That's loads of free money that goes right to your tuition bill. Try search engines like FastWeb, MeritAid, and the CollegeBoard's application to find the scholarship that fits you. No matter your talents, there are scholarships out there for everyone.

Some colleges have taken it into their own hands to make college affordable. Your choice of school can actually save you a considerable amount. For example, MIT provides matching money to low-income students that have received Federal Pell Grants. So if you receive a $4,000 as a Pell Grant, MIT will contribute another $4,000. Similarly, many Ivy League institutions have rolled out programs to eliminate loans altogether for low-income students.

Emory University offers Loan Replacement Grants. Under this program, students whose family income is $50,000 or less will graduate with no federal loans-Emory replaces federal loans awarded to these students with grants. Do your research and you might uncover some unexpected advantages to attending a school you were already considering.

Finally, don't forget to check what your state has to offer. In addition to federal aid, some individual states offer their own financial aid in the form of loans and grants to their residents (or if you attend school within the state). The Michigan Higher Education Student Loan Authority for example, offers loans to Michigan residents and non-residents who attend school in the state with interest rates that fall to zero after 36 on-time payments.

The Missouri Higher Education Loan Authority (Mohela), offers another deal that is open to anyone in the country-not only people attending state school in Missouri or state residents. That means that if you're from New Jersey and attend school in California, you can still use Mohela. This non-profit lender reduces the interest rate by two percentage points for borrowers making automatic payments from their bank accounts on federal loans. Yes, you read that correctly-it's an amazing deal.

Each state's programs are different, so talk to your guidance counselor or go here for a list of state agencies that you can contact to learn more about state aid.

It pays to do your research. With all of these programs, you are never automatically eligible for anything unless you apply.

3. Advice for Getting the Best Deal on Student Loans

Whether you think you'll need school loans or not, you should first fill out the FAFSA (Free Application for Federal Student Aid). The government and your school will use this form to determine your eligibility for federal loans, work-study programs, grants and state and institutional aid. If you want to have an idea of what your package will look like before filling out the FAFSA, use the FAFSA4caster tool.

Even if you don't think that you will be eligible for federal aid because you or your parents make too much money, you should still complete the FAFSA. There are certain federal loans with excellent terms that are available to anyone-regardless of your income-but they are based on your FAFSA data.

Fill out the FAFSA as early as possible

Technically, you can't submit the form before January 1st of the year you plan to enter college due to required tax information, but you should download it and begin filling it out as early as November. Deadlines for aid from state institutions that dole out their own grants and loans are often earlier than federal deadline, but the states use the FAFSA, too. Also, some colleges distribute financial aid on a first-come, first-served basis, and they'll need a completed FAFSA in order to consider your application.

Once you've completed the FAFSA and your school has crunched the numbers, they'll send you a financial-aid packet that should indicate the total expenses of the school (tuition, room and board, etc.) minus the aid that the school is offering you, although each award letter is organized differently. The number that is left over-your Expected Family Contribution-is what you will be expected to cover on your own. However, the EFC may not always be realistic in terms of what you can afford to pay, and you'll often need loans to cover the difference.

Whether you're a prospective freshman looking over your aid package for the first time or a new graduate beginning to pay back your loans, following these tips could help you reduce your student debt and get the best possible loan terms:

Try to negotiate a better package with your school

Many people don't realize that you can often go back after receiving your financial aid package and negotiate a better one. Federal aid programs give financial aid officers authority to make adjustments. If you can't afford to attend the school with the aid that you've been given, you should call a financial aid officer and say so. Sometimes this involves filing an appeal form that takes some time to process.

Just be polite but firm and draw attention to anything the school may have overlooked, like a death in the family, when examining your family finances for a particular year. Have documentation ready to prove any big change in circumstances.

You might be surprised how cooperative schools can get when they think they might lose you. In fact, you can file an appeal every year that you're in school if you feel you have been awarded too little. You have little to lose by trying.

Avoid private loans at all costs

We've hammered away at this point, but it can't be said enough. If you're taking loans, turn first to federal loans and only take private loans if it's absolutely necessary. With federal loans, you have the security of a lower, fixed interest rate and a more generous repayment schedule. It's also difficult to shop for private loans because you don't know the interest rate you'll be charged until you apply. If you apply through numerous lenders, this can be a blow to your credit when they make separate inquiries into your creditworthiness.

Repayment terms on private loans are not as attractive as they are on federal loans. You have to start paying them back as soon as you take them out, unless you defer the payments until after you leave school. In that case, interest will build up and get added to your balance while you're still in school, as with unsubsidized Stafford loans, but at possibly more than double the interest rate.

Once you graduate, the differences become starker. With subsidized federal loans, if you're experiencing some kind of hardship, lenders will let you push back repayment without charging you interest. If a private lender allows you to defer payments at all, the interest will keep piling up. And at interest as high as 18%, this can be a real downer. There's no private-loan forgiveness program for public-school teachers and police officers, as there is with federal loans. And if you happen to die young, your family will get stuck with the remainder of your balance. Basically, private loans may actually make you wish you did die young.

Shop around for the optimal lender

When choosing a lender for federal loans, don't just shop the banks or use the lender your school tells you to. It's also worth checking out state agencies like Mohela, since they often offer special discounts.

Talk to multiple lenders, and make a chart comparing the costs. For instance, some companies will only give discounts or waive certain fees if you ask. And remember, it is your right to shop around for loans. You are not bound to use a lender on the preferred lender list that most schools send you and may try to push on you. This list of lenders is a mere recommendation. Still, don't ignore these lenders either since your school may have worked out some sort of deals with these businesses.

In some cases, if you find a lender on your own independent of your school, you might encounter loan processing delays, extra paperwork, and unwillingness from your financial aid office to process the loan. However, this is completely illegal and the financial aid office is required by law to process a loan with any lender you choose.

Think about a career that qualifies for loan forgiveness

If you take a job in public service, you may qualify for loan forgiveness that reduces your education debt. For instance, teachers or nurses working for governmental institutions can benefit from debt forgiveness. It's meant to encourage young adults to take lower-paying federal and state jobs or volunteer for public service. As an incentive, the government pays off part or all of your student loans. In nearly all cases, this perk applies to government loans only.

The amount of you receive depends on the type of work you do. FinAid has a full rundown of programs that offer to repay some of your student loans.

Inquire about borrower benefits and discounts

If you ask, some lenders will waive the loan origination fee, a cost that's incurred when you first take out the loan. Others will give you a break on interest after a pre-set amount of on-time payments. Or you might receive an interest reduction for enrolling in a direct-debit option that lets lenders suck payments directly from your account each month. Other still might forgive your loan balance if it gets below a certain amount or wipe out your last six months of repayment.

These discounts can be very beneficial, but pay attention to the fine print. The number of on-time payments that you must make before receiving the rate discount is sometimes as many as 48 payments, and even after you receive the rate reduction, you can still lose the discount if you are late just one time. Most young people don't succeed at making consecutive 48 on-time payments. The lenders, knowing this, tout this as a benefit even though few people qualify for it.

If you consolidate, you sometimes have to pay back rebates you might have received. With some discounts, lenders require you to have a minimum loan balance to qualify. Ask lenders a lot of questions about their policies and look for deals that are easiest to attain.

Know your options for repayment

Federally guaranteed loans generally have much more attractive repayment terms than private loans. It is typically very easy to ask for a deferment or forbearance if you experience difficulty repaying your federal loans or cannot find employment. A deferment is a suspension of the loan-with interest not charged on subsidized federal loans-that lasts up to three years in the case of economic hardship or unemployment. A forbearance is a limited period-granted at the discretion of the lender-during which payments are postponed and interest is charged regardless of the type of loan.

If you have a subsidized loan, you won't have to pay interest in the time that you are deferring your loan. And even with the unsubsidized loans, there is a grace period before you have to start paying the money back.

With federal loans you can explore alternative options to standard repayment, such as extended repayment, graduated repayment, income sensitive repayment for Stafford loan borrowers and income contingent repayment for Direct Loan borrowers. These are payment plans that can lessen your payment burden in the short-term to allow you time to get established in your career.

Deferments and forbearances aren't always granted by private lenders, and there is no grace period. You want to find a lender that will allow you to defer payments in the case of economic hardship and extend your repayment term if you need to. Since private loans are not controlled by the government, it is entirely up to the lender if they want to grant you these options. However, remember that even if a private lender allows you to defer payments, the interest will still build up and be added to your original balance. That technically makes this a forbearance rather than a deferment, although lenders tend to use these terms interchangeably to confuse people. You should try to at least pay your interest each month to keep future payments from spiraling out of control.

Finally, if you drop out of school or take time off, your grace period kicks in for federal loans. So you won't have to make payments for six months on your Stafford and for nine months on your Perkins. But you'll have to start paying back your private loans immediately. If you chose to defer your private loans until after you graduate, you would still have to start paying them back if you take time off. To qualify for in-school deferment, you have to be just that-in school.

Don't default on your student loans

This sounds obvious, but sometimes young adults let their loans slip into default. The consequences can be severe. You can have your wages confiscated, your tax refunds withheld, and your credit damaged. You may also end up in court and have your social-security checks withheld once you retire. Neglecting to pay off your student loans is a serious matter, and you should call your lenders and arrange payment options in order to preempt such trouble.

4. Grilling Guide: Questions to Ask Lenders and Your School

Remember, it pays to shop around and get the best possible terms on your loans. Make sure you're clear on these points with your lender and your school before signing off on your aid package:

For Lenders:

What is the lowest and highest interest that you offer?

This one is for private loans only, since federal student loans have fixed rates. Since lenders determine your interest rate based on your credit score, there is no way to know what you rate will be without applying. But, if you know your credit score and the range of rates that a lender offers, you can assume that if their best rate is 8% and you have a stellar score, that your rate will be close to 8%.

Are there origination or guarantee fees?

You want to get the full list of fees that a lender will charge you upon taking out the loan. Some lenders waive these fees, but in turn make their rates a tad higher to make up the money. Go here for a full list of student loan fees that different lenders charge.

Is the interest on the loan fixed or variable?

Again, this does not apply to federal student loans. Most private loans have variable interest rates. As of today, MEFA (Massachusetts Education Financing Authority), a non-profit, is the only lender offering a fixed rate private student loan. Hopefully if lenders see a demand for this type of thing, more of them might introduce it, but it is your job to complain for not offering it.

How long is the repayment term on the loan?

Most often you will be able to set this yourself. We suggest you try to make this as short as possible-ten years if you can handle it. This will make your monthly payments higher, but you will pay off the loan sooner and get charged less interest over the life of the loan. Plus, you can always negotiate with the lender to extend the term later if you need to.

Am I required or allowed to have a cosigner?

You want to see if the lender cares about lending to someone with a short and possibly not so pristine credit history. And if they will let you take on a cosigner since this can often improve your rate. Depending on your credit and whether or not you have a willing cosigner, choose the lender that best suits your situation.

If I choose to consolidate after I graduate, are there fees attached?

It's good to know up front, if you choose to consolidate later to extend your term or lower your rate, what kinds of fees the process will involve. For more on consolidation, see our guide .

Can I extend my repayment term if I want to later on?

If the lender charges consolidation fees, but the only reason you wanted to consolidate was to extend your term, see if they'll let you do that without consolidating. If they want your business, the lender should be flexible enough to let you shorten or extend your repayment period based on your post-college situation.

Will I be eligible for a deferment or forbearance if I am unable to make the payments?

You want to know how the lender will treat you if you graduate and don't yet have income to pay off the loans. See if they would be willing to grant you a deferment or forbearance for a certain period of time if you are in trouble. This is typically easy to do with federal loans, but not always with private loans, which will still charge you interest in the event of forbearance.

What borrower benefits and discounts are available to me?

See what kinds of discounts the lender has to offer. Sometimes these will be pretty shabby like a rate reduction after 48 on-time payments. But, other times you might get a reduction just for directly depositing the money from your bank account each month.

For Financial Aid officers:

What forms do I need to fill out to apply for financial aid (FAFSA, Profile, other forms)?

Sometimes, different schools use different forms to determine your financial aid. Best to ask upfront before you've missed a deadline.

Do you have need-based or merit-based scholarships and grants?

You want the most help you can get and you want to know if your school has some additional funds to help you cover tuition. Depending on whether you're an ace student or come from a low-income household, decide which school will help you the most.

Does your school have any special financial aid practices where you match grants or offer grants instead of loans?

Again, a few schools have introduced such programs. If they haven't, best to remind them about what schools like MIT and Emory offer.

My financial aid package is not enough for me to be able to afford your school. Is there anything you can do?

Often, financial aid officers are given the authority by federal aid programs to make adjustment to your package. If you feel they've overlooked something be sure to explain the situation and have paperwork ready to back it up.

Do you have special discounts with the lenders on your preferred lender list?

As we've said before, you don't have to use a lender from a school's preferred lender list. But sometimes the school has established discounts with a lender that are only available to its students-good to know as you're shopping around.