Student Loans

The content contained on or made available through this website is not intended to and does not constitute as legal or investment advice. Please use and refer to the information at your own risk, and consult with a professional before making any finance-related decisions. Refer to the full Terms & Conditions here. Last updated January 4th, 2020.

Takeaways

  1. Critically evaluate your choice of school, major, and the need for student loans

  2. Apply through FAFSA to determine need and merit based aid

  3. Typically prioritize Federal over Private loans (and Subsidized over Unsubsidized)

  4. Predict future salary and ability to repay loans

  5. Select the repayment plan that best suits your needs

If you have decided that a college degree is the best path forward, strongly consider the following: school, major, and the need for student loans. Then, if student loans are a likely part of your future, be sure to proceed with a plan.

 

The first thing to consider is the availability of need or merit based aid and scholarships. And the first place to look for this is the Free Application for Federal Student Aid (FAFSA). Quick Google searches can also yield opportunities for grants supplied by the school itself and other benevolent organizations. Once these resources have been exhausted, the next step is to consider student loans.

 

In addition to grants and work-study programs, the FAFSA will also determine your eligibility for Government loans. Federal student loans come in three major forms: subsidized, unsubsidized, and Parent/Graduate PLUS.

 

Subsidized student loans do not accrue interest while you are in school (including a 6 month grace period after graduation), but are limited to students that demonstrate financial need. Unsubsidized loans, however, do accrue interest and are available to all students. 

 

Undergraduates may take out up to $12,500 a year in unsubsidized Federal student loans, with an overall maximum of $57,500. Graduates have higher (combined undergraduate/ graduate) borrowing limits at $20,500 a year and $138,500 total. Only a portion of these limits may be made up of subsidized loans ($23,000 undergraduate and $65,500 combined undergraduate/graduate as of 2019).

 

Lastly, Parent/Graduate PLUS loans offer additional options to parents with undergraduate children and graduate students that require more than the Federal unsubsidized limit. Although these loans often come paired with higher interest rates, they provide more flexible repayment options and easier qualification than the other option: private loans.

On the whole, Federal loans are preferable to their private counterparts, as they have the following advantages:

  • Payments are not due until after graduation (or becoming a part-time student)

  • A fixed interest rate that is often lower than their Private counterparts

  • Principal remains flat while enrolled (for subsidized loans)

  • No credit checks required

  • Higher payment flexibility

  • Loan forgiveness for work in public service

Private loans exhibit very different characteristics to what is listed above. They are typically offered by banks, state agencies, credit unions, and universities. Each Private loan will have unique restrictions and contractual language, which should be carefully studied before engaging with them.

 

Note that private loans may occasionally sport lower interest rates than Federal loans, depending on your credit score. However, they do not offer nearly the same level of protection and forgiveness potential. Check out studentaid.gov for a comprehensive comparison of Federal and Private loans.

If your plan is to take on student loans, you will want to carefully consider which school you attend and what you major in. Paying off tens of thousands of dollars in student loans can be extraordinarily difficult with a low-income profession. For example, monthly payments by principal for a 10-year term student loan at 5% interest would be as follows:

If the school you wish to attend requires loans on the higher end of this spectrum, STEM (science, technology, engineering and mathematics) majors offer the best chance at paying them off quickly. If you are unsure which school to attend, consider local Community Colleges, trade schools, and other 2-year degree programs. Frequently, these credits will be transferable to standard 4-year universities. If you are certain you would like to attend a 4-year college immediately, state schools often offer the best “bang for you buck.” Whichever path you choose, make sure that your future salary potential will be sufficient to meet the monthly payment requirements of your student loans.

Although it may be more lucrative to major in STEM, it is equally if not more important to major in something you are passionate about. If you choose the latter, and your particular major is not known for bringing home the big bucks, strongly consider a less expensive university to minimize your debt and maximize the chances that you will be able to pay it back.

Once you’ve graduated, there are a few options for repaying the loans:

Federal & Private:

  • 10-Year Full Repayment Plan: The ideal scenario is that you have entered into a career path that will allow you to keep up with your monthly payments. The most common student loan term is 10 years, with a 6-month grace period after graduation before payments begin. You may also contribute more than the minimum monthly payment in order to reduce the term of the loan.

 

Federal Only:

  • Income-Driven Repayment (IDR) Plans: These attempt to match your payments to some function of your current yearly income and family size. They typically last from 20 to 25 years, after which the remaining balance is forgiven. Keep in mind, however, that any forgiven balances under IDR plans will be taxed as income. Below are the four major types of IDR plans:

    • Revised Pay as you Earn (REPAYE): With payments targeting 10% of your discretionary income, REPAYE plans have a 20-year term for undergraduate study and 25 years for graduate study. After 20 and 25 years respectively, the remaining balance will be forgiven. All Federal loan borrowers are eligible for REPAYE plans. The Federal Government will fully subsidize (i.e. foot the bill for) unpaid interest on subsidized Federal loans for the first three years, and subsidize 50% thereafter. Unsubsidized Federal loans will receive the same 50% partial interest subsidy for all years, including the first three. Any remaining unpaid interest will be capitalized (i.e. added back to the loan principal) upon completion or termination of the plan. (Unpaid interest will begin to accrue its own interest once capitalized). Lastly, a spouses income must be included in REPAYE minimum payment calculations (thus increasing minimum payments), even if filing for taxes separately.

    • Pay as you Earn (PAYE): These plans also target 10% of your discretionary income and will be forgiven after 20 years (regardless of undergraduate vs. graduate); however, unlike REPAYE plans, your payments will never exceed what they would have otherwise been under the standard 10-year repayment plan. PAYE plans have slightly higher restrictions than REPAYE plans, including demonstrable financial hardship (essentially, calculated payments under a PAYE plan must be lower than those under a standard repayment plan). They do, however, also include full subsidies on unpaid interest (during the first three years) on subsidized Federal loans, but do not include partial subsidies (on subsidized or unsubsidized Federal loans) thereafter. Similar interest capitalization rules apply. Finally, a spouse's income does not need to be accounted for under PAYE plans if filing separately.

    • Income-Based Repayment (IBR): In many ways similar to PAYE, IBR plans have a 25-year term, after which the balance forgiven. Payments equal either 10% or 15% of your discretionary income depending on whether you are a new or repeat borrower.

    • Income-Contingent Repayment (ICR): These plans have a 25-year term, after which the balance is forgiven. Payments are the lesser of: 20% of your discretionary income and those equivalent to a 12-year fixed payment loan. Similar to REPAYE plans, you may at some point make payments in excess of those under the traditional 10-year fixed loan, depending on your income growth.

  • Lower Payment Options: If your income is too high for an Income-Driven Repayment plan, there are a few additional options that can reduce your monthly payments:

    • Graduated Repayment: A Graduated Repayment plan allows you to pay very little early on (potentially just covering interest), then increase your payments in two year increments throughout the full 10 year term. Note that payments in later years may be much higher than those in the beginning.

    • Extended Term: If you owe at least $30,000 in Federal student loans, your payments may be stretched up to 25 years. Extended Term loans can use either standard (flat) or graduated repayment options.

  • Public service loan forgiveness (PSLF): If you work for certain organizations or companies after graduation, you may be eligible for PSLF. If so, your loans will be forgiven after 120 monthly payments (10 years). Payments made in order to qualify for PSLF may be calculated under any of the IDR plans. Below are a list of organizations that may make you eligible for PSLF:

    • Government organizations

    • Tax-exempt non-profit organizations under 501(c)(3) of the Internal Revenue Code

    • Non-tax-exempt non-profit organizations whose purpose is qualifying public services

    • Serving full-time on the Peace Corps, or other qualifying organizations

Each plan listed above is subject to term, condition, and name changes. And there is a lot that goes into determining eligibility for each one. Visit studentaid.ed.gov to get the most up to date information and studentloans.gov to check eligibility and potential IDR payments. 

 

While private loans do not have the same flexibility as Federal, many do offer some version of a reduced payment plan. And depending on your credit score, refinancing to receive a lower interest rate may also be a possibility. Contact your private lender to discuss your options.

Check out the Finance in a Flash Student Loan IBR Calculator!

Conclusion

The impact that student loans can have on your post-graduate life is often not fully considered. Attending college has become a given. More over, the university people attend is too often decided by "the highest rated school I was accepted to." What about the cost? What about that university's reputation in the major you are most interested in? Are the projected salaries in that major enough to pay off the student loans you will require for this "top rated" school? There is no perfect answer. What matters is this: if you do decide to take on student loans, it is essential to proceed with knowledge, understanding, and a plan.

The content contained on or made available through this website is not intended to and does not constitute as legal or investment advice. Please use and refer to the information at your own risk, and consult with a professional before making any finance-related decisions.

© 2020 London Levinson LLC