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Written by Gregory Palacorolla, CFP ®

college savingsYour child is in their last year of high school. College is on the horizon, and much like countless other families, you are wondering where you are going to get the funds needed to open the doors of opportunity for your child. Those that can pay for their children’s college education outright without any assistance are few and far between. Most must secure some form of financial assistance, which means traversing the land of loans.

Loans can come from the Federal government, or private sources such as a bank, credit union, financial institution, or other organizations. Each has its own eligibility requirements, application process, and terms and conditions. Typically loans via the Federal government have more benefits than loans from other sources. Having a fixed and lower interest rate than private loans combined with the flexible repayment plans and options to postpone loan payments are a few of the reasons it is encouraged to start here first before moving to private loans, parent plus loans, or other borrowing methods.

Types of Loans Under the Federal Student Loan Program

There are four types of loans that fall under the Federal student loan program (also known as the William D. Ford Federal Direct Loan Program):

  1. Direct subsidized (Stafford) loans – For eligible undergraduate students demonstrating financial need.
  2. Direct unsubsidized (Stafford) loans – For eligible undergraduate, graduate, and professional students with eligibility NOT being based on financial need.
  3. Direct plus loans – For graduation or professional students and parents of undergraduate students to aid in educational expenses not covered by financial aid. Financial need is NOT a requirement, but a credit check is required.
  4. Direct consolidation loans – Provide the ability to combine all eligible federal student loans into a single loan with one service provider.

Differences Between Federal Loans, Private Loans & Parent Plus Loans

To illustrate some of the primary characteristics of Federal loans, private loans, and parent plus loans, we have put together a grid:

Federal Student LoansPrivate Loans Parent Plus Loans
Fixed interest rate and lower than private loans (For 2017-2018 school year, direct undergrad. Loans came with a 4.45% interest rate. Direct graduate loans came with a 6% interest rate).Charge interest. (Individual lenders set interest rates on private student loans based on the credit profile of each applicant). Can be fixed or variable.Charge interest. (Interest rate for all parent plus loans awarded from July 2017 to July 2018 was 7%).
Flexible repayment plans and options to postpone loan payments. Payment begins after you leave college or drop below half-time.Offer different repayment plans such as interest-only or fixed payments while in school. Will be outlined in your loan agreement.Enter repayment once the final disbursement has been made. As a parent borrower, you may have the option to request a deferment if your child is enrolled in school at least half-time, and for an additional six months after your child ends their college experience. Interest will accrue on your loan this entire time, however, whether you begin making payments or not.
Don’t need co-signorMost private student loans require a co-signor. However, there are a few who do not.A parent taking out the loan is serving as co-signor essentially, but if the parent has adverse credit, they may need to secure an endorser. This person acts in a similar fashion to that of a co-signor, agreeing to pay the debt if the parent can’t.
No credit check requiredMost require a credit check. A score of 690 and higher will get you access to better loans and lower student loan rates. However, some do not require a credit check, but this will come with a much higher interest rate.Credit check required. Look for adverse credit history (foreclosure, bankruptcy, any payments later than 90 days, etc.)
No origination feeMany private lenders do not charge an origination fee.4.264 percent origination fee for the 2017-2018 school year.
Must complete and submit a FAFSA form. Based on the results, your college will send a financial aid offer. The school will explain how to accept all or part of the loan.Application and note can be completed online directly with bank organization.Application and promissory note can be completed online.
 

Must be enrolled at least half-time to be eligible for direct loan program funds, be a U.S. citizen or eligible non-citizen, have valid social security number, demonstrate financial need, be enrolled or accepted to be enrolled as a regular student in an eligible degree or certificate program.

 

Must be enrolled at least half-time and at an eligible school (most 4-year schools qualify but not all 2-year community colleges and trade schools do). Must be a U.S. citizen or legal resident. Must meet credit and income criteria.

 

Must be enrolled at least half-time in an eligible school and working toward an undergraduate degree. The parent can’t have an adverse credit history. Must meet general eligibility requirements such as having a social security number and being a U.S. citizen.

Undergraduate students can borrow a maximum amount of between $5,500 to $12,500 per year in direct subsidized loans and direct unsubsidized loans. Amounts are dependent on what year you are attending school.Borrowing limit varies by lender. Often, you can borrow up to the school’s cost of attendance.Borrowing limit set to the full annual cost of attendance minus other financial aid received by the student. There is no aggregate (cumulative) loan limit.
If needed, the government can pay the interest on some loans while you are in school and during some periods after school.Private loans exhibit stricter criteria for approvals then parent plus loans.If a parent is denied a parent plus loan, the student can become eligible for the higher unsubsidized Federal Stafford loan limits available to independent students.

Other options available are:

Personal Loans

These loans are typically a feasible option for students who don’t need a lot of cash. For example, if you need $5,000 for remaining tuition or need to cover the cost of books and supplies, and your credit is in good shape, a personal loan may be a good fit. However, they can be expensive. College students typically have lower credit scores, therefore are charged higher interest rates. Oftentimes they also require a co-signor.

Tuition Payment Plans

These plans are offered through some colleges. They split the annual college bill into equal monthly installments.

Home Equity Loans

Loans that allow the borrower to use the equity of their home as collateral. The amount available is the difference between the current value of your home and current balance on the mortgage. They have fixed interest rates, and monthly payments are required. They typically have 5 to 15- year terms. There are additional costs such as closing costs, application fees, attorney fees, and the cost of an appraisal.

Disadvantages worth noting:

  • If you are unable to make payments, the lender has the right to foreclose on your home.
  • There is a long application process.
  • These are no longer tax deductible if used for paying for college.
  • There is no debt forgiveness.

Advantages worth noting:

  • Low and fixed interest rates are available.
  • The term can be extended up to 15 years, which can decrease the monthly payments.

Home Equity Line of Credit (HELOC)

Allow the borrower to draw from a fixed amount of money when you need the cash. HELOC’s typically have the lowest interest rates, charge little or no annual fees, and there are usually no application fees. A HELOC adds to the mortgage amount, extending the time to pay off the loan.

Speak with an Experienced Advisor Today

There are various borrowing options available to students and parents. No matter which option(s) you decide to utilize, don’t get in over your head. According to student loan expert, Mark Kantrowitz, parents should borrow no more than their annual income for all their children in total. Do your research early, understand your personal financial situation, and pay close attention to the terms, interest rates and repayment options being offered. Working with an experienced advisor can make a world of difference by helping you set goals and determining targeted amounts to save each month based on your choice of in state or out of state college options, time horizon, and budget. Visit HERE for an interactive guide to help you get started.

Sources: Studentaid.ed.gov/ studentloanhero.com/ nerdwallet.com/ lendingtree.com

© Geier Asset Management, Inc. Jan. 2019. Gregory Palacorolla, CFP ® is Director of Wealth Management for Geier Asset Management, Inc., a Registered Investment Advisor. The articles & opinions expressed in this material were gathered from a variety of sources, but are reviewed by Geier Asset Management, Inc. prior to its dissemination. All sources are believed to be reliable but do not constitute specific investment advice. The views expressed are those of the firm as of January 2019 and are subject to change. These opinions are not intended to be a forecast of future events, a guarantee of results, or investment advice. Any advice given is general in nature and investors must consider their own individual circumstances. In all cases, please contact your investment professional before making any investment choices. Geier Asset Management, Inc. is not responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.