College  |  September 23, 2020  |  Connor Peoples

Applying for a private student loan? Read this first

What you’ll learn
  • The importance of a cosigner
  • The difference between fixed and variable interest rates
  • How to choose your private student loan repayment option

If you’re reading this article, chances are you’re currently enrolled or looking to enroll in a higher education institution. Congratulations! Continuing your education is a big deal and it will help to open doors to endless opportunities, maybe even your dream job, and higher earnings potential. You may also be wondering, “How am I going to afford college?” That’s okay, you’re not alone. Let’s dive into some pointers to help you develop your paying-for-college strategy.

As you embark upon your higher education journey, consider this 1-2-3 approach to help you pay for college:

  1. Start with money you won’t have to pay back. Supplement your college savings and income by utilizing college scholarships, grants, and work-study. If you’re looking/student-loans/manage-your-private-student-loan/understand-student-loan-payments/learn-about-interest-and-capitalizat for scholarships (and you should be, early and often) check out this free online Scholarship Search Tool. It can connect you to scholarships tailored to your interests, background, and future career goals. The search tool has more than 6 million scholarships, worth a total of $30 billion. That’s a lot of free money waiting to be used!
  2. Explore federal student loans. Apply by completing the Free Application for Federal Student Aid (FAFSA). The government sets aside $150 billion in student aid each year, including federal student loans, and the FAFSA is the form you need to fill out to access that aid. In addition, schools use the FAFSA to put together aid packages, states use it to determine eligibility for state aid, and it is required for many scholarship applications.
  3. Consider a responsible private student loan. After completing the FAFSA, and understanding how much federal student aid you will receive, you may still have a funding gap between your available resources and the cost of college. That’s where private student loans can help. Offered by banks and credits unions, private student loans can help cover any remaining costs up to the cost of attendance.

Here are some tips to help you make an informed decision while choosing the perfect private student loan:

Find a cosigner

While you’ll learn about your eligibility for federal student loans by filing the FAFSA, if you need a private student loan (or even if you want to compare interest rates), you’ll need to apply for a private student loan directly through a bank or credit union. Part of that application will include a credit check.

Since most students don’t have a strong credit history yet, many lenders encourage potential customers to add a cosigner to their application. In fact, about 92% of undergraduate private student loans in the academic year 2019-2020 were cosigned, according to a recent report from MeasureOne. Having a cosigner can even lower your interest rate, particularly if the cosigner has a good credit score.

Your cosigner doesn’t necessarily need to be your parent. A cosigner can be a relative or any other creditworthy individual that can help you get approved. It’s smart to have a conversation with your cosigner to establish who will be responsible for the loan’s repayment so you’re both on the same page. A cosigner is also legally responsible for your private student loan. If for any reason you stop repaying the loan, your cosigner will be on the hook, too, and their credit will be affected.

Know the difference between fixed vs. variable interest rates

When a bank, credit union, or financial institution issues you a private student loan, you’ll pay it back with interest, so you’ll end up paying back more than the amount you originally borrowed. While you’re applying for a private student loan, there’s a general rule of thumb to remember: the better your and/or your cosigner’s credit score, the lower the interest rate.

Here are two interest rate options you may be offered when you apply for a private student loan:

1. Fixed-rate private student loan

By choosing a fixed rate, you will know your total loan cost off the bat because your interest rate is locked in. Your interest rate will not be affected if the market moves up or down, and your monthly payments will stay the same over the life of your loan.

2. Variable-rate private student loan

A variable interest rate can change, hence the name “variable.” Your interest rate may go up or down over the life of your loan due to an increase or decrease in the loan’s index. Some lenders use the Prime Rate or London Interbank Offer Rate (LIBOR) as their index.

Your overall rate is determined by your lender. For example, your lender may add a 3% credit-based margin to the index rate and your student loan’s rate will be quoted as “LIBOR/Prime + 3%.” The LIBOR may change to reflect the overall markets. This means that your monthly payments could also increase or decrease over time. In some cases, variable rates start lower than fixed interest rates, which could save you money.

Research your repayment options

You might think repayment is a topic you don’t have to consider while applying for a private student loan, but that would be a missed opportunity. Lenders provide repayment options during the application process that can help you save money.

Three popular private student loan repayment options are the deferred repayment option, the fixed repayment option, and the interest repayment option. Each option will affect your total private student loan cost differently. Let’s dive into them:

1. Deferred repayment option

This repayment option is as simple as it sounds. When you choose a deferred repayment option, you’re postponing all of your student loan payments until after school and your grace period. Your student loan grace period is a set amount of time after you leave school before you begin repaying your student loan. However, your grace period doesn’t necessarily just start after graduation. Grace period begins after you leave school, whether you graduate or not, or when you drop below half-time enrollment.

With a deferred repayment option, you’ll pay more over the life of the loan. This is because the unpaid interest that has been accruing during your time in school will be added to your principal amount when it’s time to begin repayment (that’s called interest capitalization). Deferral is a good option if you have no income while you’re going to school and can’t commit to making payments each month. However, if you do choose to defer, you can still make payments when you can.

2. Fixed repayment option

By choosing a fixed repayment option, you are required to make a payment while you’re in school. However, that payment can be as low as $25/month. Similar to the deferred repayment option, your remaining unpaid interest (that is still accruing while you’re enrolled in school) will be added to the principal loan amount after your grace period expires. That said, it’ll be a lower amount than if you defer all payments.

This is one of the easiest ways to save $$$ on your total loan cost.

3. Interest repayment option

The interest repayment option requires you to pay the monthly interest that accrues on the loan while in school. This is the most financially rewarding option. Your total private student loan cost will be lower by choosing the interest repayment option over the deferred and fixed repayment options.

Regardless of which repayment option you select for in-school payments, once your grace period ends, you will then be required to pay your remaining principal and interest amounts together.

Take the time to research each private student loan option to find the right fit for you. If you run into any roadblocks during your research or application process, don’t hesitate to contact the private student loan lender, they should be able to help explain your options in detail.

footnote Sallie Mae does not provide, and these materials are not meant to convey, financial, tax, or legal advice. Consult your own financial advisor, tax advisor, or attorney about your specific circumstances.

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