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Federal Loans versus Private Loans
by Roshan Tolani

Both federal and private student loans promise can seem like good options to pay for higher education. Is one absolutely better than the other? Read on to learn the facts, and then decide yourself!

Who are the lenders?
Federal loans are issued directly by the government to the student or by a private lender such as a bank or credit union that participates in the Federal Family Education Loan (FFELP) program. Private loans are issued by lenders such as banks, credit unions, and savings and loan associations. The terms of private loan programs vary depending on the lender.

When are you required to start making payments?
The primary difference is that with the federal loans you don't have to start paying off the loan until you are out of school and your grace period is over. With private loans, depending on the lender, you may have to begin making payments immediately.

Is a cosigner required?
Private loans may have you provide a guarantor - a cosigner - to your loan. With federal loans, you are not required to have a cosigner for your loan.

How do interest rates vary in both the cases?
In the case of federal Stafford loans, the loan could be subsidized or it could be unsubsidized. If it is subsidized, the responsibility of paying the interest while you are in school is on the federal government.

Private loans tend to have higher interest rates in comparison to federal Stafford loans. They may take your credit score as a base for determining a specific interest rate. On all private loans, the borrower has to pay the interest.

The interest rate on most federal loans is a low, variable rate, which is predetermined by the government. Federal Stafford loans disbursed after July 1, 2006 have a fixed interest rate of 6.8%. Interest rates on federal loans are reset annually and capped at 8.25%. Interest on private loans are generally higher and have no cap. Some private loans may carry variable rate of up to 19%, but can vary depending on the lender.

Are the loans guaranteed?
Federal student loans are guaranteed by the federal government. Private loans do not have any such guarantee. If the borrower of a private loan defaults, the lender has no choice. Hence, lenders of private loans charge a special guarantee fee based on the risk of the loan. The higher the risk, the higher the fees. Some private lenders may not go to that extent, but as a safety measure, they increase the interest rates to offset the risk of probable defaults.

Are there any limits on loan amounts?
The amounts that you borrow on federal loans in most cases is set by your school and can vary depending on several factors. However, variable loan limits by private lenders is not uncommon. Many private lenders allow for very high loan limits.

Does credit rating affect student loans?
Unlike federal loans, private loans are credit-sensitive, meaning that the borrower's eligibility is measured by his or her credit rating. Borrowers with less-than-satisfactory credit may not qualify for a specific private loan, or be given the loan amount that they need. In some cases, private lenders do give the loans to borrowers with poor credit, but at a higher rate and less favorable terms.

Is any proof of income required?
Private lenders may require proof of income from the student or a cosigner before approving the loan. However, proof of income is not required to apply for a federal loan.

Are forbearance and deferment options available?
Federal loans offer forbearance and deferment options. In case of financial crisis you can apply for deferment and/or forbearance to temporarily postpone or reduce your monthly payments. You can have two years of forbearance over the life of the loan. Private lenders, however, may or may not offer benefits such as forbearance or deferment. Options will vary with each lender.

Which expenses are paid through student loans?
While you are a student, there are several expenses you incur other than tuition and fees. Private loans may be used to pay for testing fees, room and board, and the cost of transportation and books. Federal loans have similar restrictions in that they are to be used for educational purposes.

What are the borrower's eligibility parameters?
To be eligible for a federal loan, you must be a U.S. citizen or an eligible non-citizen. Some private loans may accept international students who can find an eligible cosigner to sign with them. While a solid credit history is not a qualifying criterion for federal loans, it can become difficult to obtain a private loan without a good credit score.

How do repayment terms of a federal loan differ from that of a private loan?
The borrower of federal loans doesn't have to make payments while enrolled more than half-time in school. He or she enjoys a standard 10-year repayment term which can be extended up to 25 years for those with at least $30,000 in student loan debt. The borrower also has the option of consolidating his or her loan. The repayment term for a private loan will vary from lender to lender.

Whether you are a student, or parent, it is imperative for you to understand educational-funding options. Regardless of the type of loan you use, remember that it must be repaid. So weigh your options objectively, be thoroughly familiar with the provisions of the loans, and choose your loan and lender carefully.

Disclaimer: This article is only for informational purposes and should not be construed or relied upon as legal advice. We do not make any claims, promises, or guarantees about the accuracy, completeness, or adequacy of any of the information provided in this article.


Article Title : Federal Loans versus Private Loans
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