Federal vs. Private Loans: What’s the Difference?

There are two types of student loans: federal student loans and private student loans. If you’re trying to figure out how you are going to pay for college, you’ve likely encountered both. Federal and private student loans are not the same, and it’s important to know the difference.

Let’s start with federal student loans.

Federal Student Loans

Federal student loans are made and funded directly by the federal government. There are a few types of federal loan programs, and they are awarded based on set eligibility criteria. The main federal student loans break down as follows:

  • The Direct Subsidized Loan is available to undergraduate students with financial need, and recipients are not responsible for paying the interest charges on the loan while in school.
  • The Direct Unsubsidized Loan is available to undergraduate and graduate students who meet the eligibility requirements, but there is no requirement to demonstrate financial need.
  • The Direct PLUS Loan is available to eligible graduate students and parents.

Direct Unsubsidized and Direct Subsidized Loans – also known as Stafford Loans – are the most common type of federal student loans for undergrad and graduate students. Direct PLUS Loans – also known as Grad PLUS and Parent PLUS – have higher interest rates and disbursement fees than Stafford Loans.

Federal student loan interest rates and fees are set at the start of each academic year and remain fixed for the life of the loan. Federal loans come with a standard repayment schedule and offer a wide range of repayment assistance options. For more details on eligibility criteria, repayment assistance, and current rates, visit https://studentaid.ed.gov.

To apply for federal student loans, you need to complete the Free Application for Federal Student Aid (FAFSA). You can use this step-by-step guide for help filling it out, and be sure to avoid these 10 common errors.

Private Student Loans

Private student loans, sometimes referred to as non-federal or alternative loans, are made and funded by private lenders, such as banks and financial companies. Private student loans usually require a credit and income review to determine an individual’s anticipated ability to repay the loan.

Since many students have limited credit history and income, private student loans typically require a cosigner. A cosigner is often a parent or other family member who has established credit and income who agrees to take equal responsibility to repay the loan if the student borrower is unable.

Some private lenders also offer parent loans, which are made to a parent or guardian who is helping a student pay for school; the student is not legally responsible to repay a parent loan.

Private loan terms, including interest rates and fees, vary by lender and usually are determined based on your credit history (and potentially other factors). Most lenders offer both variable and fixed interest rates. When it comes to repayment after graduation, many private student loan lenders will offer payment assistance if it’s needed, but the available options are more limited than federal loans. For example, private lenders typically cannot offer income-contingent repayment plans or loan forgiveness.

Summary

Because of the low fixed rates and repayment assistance programs that are available, it’s generally best for students to exhaust their federal Direct Unsubsidized and Subsidized Loans before considering private student loans. There are, however, limits to how much you can borrow under the Direct Loan program, which is where private student loans come into the mix if the federal funds are not enough to cover the cost of attendance.

Also, if you are a parent or graduate student considering a Direct PLUS loan, you may want to consider a private student loan. If you have strong credit history, you may be able to save money with a private student loan. Just make sure you review the benefits – such as public service forgiveness – that are unique to the federal program before you make your final decision.

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