When it comes to borrowing money for college, students usually have two choices: federal student loans or private student loans. Federal student loans, as the name suggests, are made by the U.S. Department of Education and backed by the federal government. Private student loans are made by financial institutions such as banks or credit unions.

Most financial experts advise students to use federal rather than private student loans for a number of reasons. For one thing, most students will be eligible for federal student loans as long as they are citizens or eligible noncitizens, have a valid social security card, and have a high school diploma or equivalent. In contrast, lenders who make private student loans will use factors such as a student’s credit score, credit history, income, employment history, and other debt to determine whether a student is eligible for a private loan.

Another benefit to federal student loans is that they usually come with lower interest rates than private student loans. Unlike private lenders, the government is not trying to make a profit from lending students money. Instead, the money students repay back to the government goes toward making more loans to other students. However, private lenders must make profits from the loans they make. For this reason they are not only more selective about who they loan money to, but they also charge higher interest and may charge various fees for loans.

One significant advantage to federal student loans is that they often come with flexible repayment plans. Students can choose from a standard ten-year plan with equal monthly payments, an income-driven plan that requires them to make payments based on a percentage of their monthly income, or a graduated repayment plan that starts with small payments that increase over time. If a student’s financial situation changes while they are repaying their loan, they have the option to switch to a different plan with no penalty. This is different from most private lenders. While every private lender sets their own rules for repayment, the terms of the loan usually dictate how quickly the loan must be paid, the size of the payments, and any penalties that will be incurred for missed payments. Changing these terms may cost the borrower.

You can read about these differences in more detail in our article “What's The Difference Between Federal And Private Student Loans?

When Should You Get A Private Student Loan?

Although federal student loans come with many advantages, sometimes private student loans are a good option.

  1. Your school costs more than the maximum amount you can borrow. The U.S. Department of Education has placed limits on the amount of money college students can borrow each year. These limits are based on many factors such as which year of school you are in, whether you are a dependent of your parents or not, and whether you are borrowing subsidized or unsubsidized loans. There are also limits on the total overall amount you can borrow.

    Because the cost of college has increased quickly over the past few decades, some students may find that even borrowing the full amount in federal student loans won’t cover the entire cost of their education. In these cases, students may take out private loans to cover the difference in cost. Financial experts still encourage students in this situation to max out federal student loans first because of their advantages, but private student loans can be an excellent way to pay for the remainder of your college costs.

  2. You need to take summer classes. Some students take courses during the summer term either to finish their degree more quickly or to have more resources to focus on particularly challenging courses. But depending on the cost of your school, you may not receive enough funding to attend school between regular semesters. In this situation, a private student loan could be a good option.

  3. Your Expected Family Contribution is much higher than is realistic for your family. Students must submit the Free Application for Federal Student Aid (FAFSA) in order to apply for federal student loans. This form looks at a student’s financial situation, including family income, to determine how much and what kind of aid a student may be eligible for. As part of that process, the FAFSA calculates an Expected Family Contribution, which is the estimated amount of money the student and their family can afford to pay toward college costs. If this Expected Family Contribution is high because a student’s household income is high, this may limit funding for the student. In this case, the student may need to supplement their federal student loans with some private student loans.

  4. You want a variable rate loan. Federal student loans come with a fixed interest rate. Many borrowers find this helpful for budgeting and find peace of mind in knowing the rate on their loan will not suddenly increase significantly. However, other borrowers want the freedom to take advantage of market changes that could bring lower interest rates. This change in interest rate could save you in interest charges, but it could also cost you if interest rates rise.

  5. You are ineligible for federal student loans. Federal student loans are open to students who hold U.S. citizenship, green card status, or special refugee status. If you do not meet this criteria, there may be other options available to you such as grants, scholarships, and special financial aid from your state or school (such as in the case of DACA students). Once you have exhausted those options, then private student loans may be a good choice for you.

Before You Take Out To A Private Student Loan

Before you commit to a private student loan, be sure that you have exhausted all other options. Complete the FAFSA even if you do not think you will be eligible for federal student loans because you may find that you are still eligible for other funding options like grants or Federal Work-study. The FAFSA is also required by many colleges and universities, which may offer funding that you are eligible for.

Many students never apply for scholarships through their school or other organizations because they assume they are ineligible. However, you do not need to have a perfect GPA to be eligible for scholarships. Contact the financial aid office at the college you plan to attend to find out about financial aid resources available there. You can also contact your local public library or your high school guidance office to learn about scholarship opportunities. When you have exhausted those resources, you can turn to websites like College.net, FastWeb.com, and FinAid.com that help students find and apply for scholarships.

Consider the cost of the school you plan to attend and determine if a degree from that institution is worth the debt you will take on to go there. Remember, a student loan will burden someone with a debt that typically takes between ten and twenty years to pay off. That debt will impact other areas of your life, such as your ability to buy a car or house, other loans you may take out, and the jobs or opportunities you will be able to afford to take advantage of after graduation. If the debt is too high, it may be better to attend a less expensive school, or to reduce your college costs by attending a community college for the first year or two.

If possible, finding a cosigner can help you reduce the interest rate on private loans you take out. Many recent college graduates have little or no credit history, so it is common for parents to cosign with their children to help them get a lower interest rate. Just remember, even if your parents cosign on a private loan, you are still responsible for repaying the loan yourself.

Research Your Private Student Loan Options

If you decide to take out a private student loan, be sure to shop around before committing to a lender. Unlike with federal student loans, the terms on private student loans can be very different depending on who you borrow from. And remember, most lenders who make loans to students do so to make a profit, not out of the goodness of their hearts. 

However, not all private lenders are profit-driven. There are nonprofit organizations that make competitive, low-cost, private student loans for college-bound students. While you will still have to repay a student loan from these lenders, the money you repay will go back into the organization to help fund other students like yourself. These institutions are motivated to make college more accessible for promising, high-achieving students with big dreams.

If you’re looking for a private student loan lender, consider Pickett & Hatcher. We’ve been helping students pay for the college of their dreams since 1938. High college costs should not stand between you and your education. Contact Pickett & Hatcher today and take the first step toward your future.