Student Life #01 | What’s a student loan and how does it work?
Nobody in their right or wrong mind has ever said, “Student loans are awesome!” Why? The answer is plain and simple. Students aren’t educated about how student/study loans actually work, and what effect they might potentially have on their future goals and aspirations. Nobody ever tells you about the right way to pay for your education once you graduate, but expect you to keep going higher on your educational journey. It’s almost predetermined that if you’re going abroad to study, you’re going to have to take a massive loan or two, to get that certificate proving your academic achievement, be it a master’s or a diploma or anything else for that matter.
According to an article by MoneyControl, “The outstanding loans, as of November 2019, fell to Rs 66,902 crore compared with Rs 71,975 crore in September 2017. On a year-on-year basis, banks’ education loan portfolio has shrunk by 3.5 percent in the twelve months to November 2019. In absolute terms, the amount is not very big.”
Yep, nobody tells you how it works or even gives you a vague idea about the fact that there are different types of study loans. You didn’t know that? I didn’t know it until I started researching for my financial planning to go abroad too. So, don’t worry, I’ll tell you all about it in this ‘Student Life’ series. Just to give you context on what you can expect in this blog as well as future blogs, I will be covering concepts like what student loans are, how it works, types, interest rates, repayment options, financial aid, how it affects your credit score and more importantly, how you can avoid study loans.
What is a student loan?
A student loan is a sum of money borrowed either from a Government or Private lender by a student in order to pay for their college (tuition, books, accommodation, room, etc). These are different from scholarships and grants and will have to be repaid by the student along with the interest that piles up over time. This is definitely different from any Co-op programs or internships offered by the educational institution where the student gets paid for their services at work.
How do student loans work?
A student can get a study loan in two ways. First, they can apply for financial aid that is provided by their respective educational institution. Or, they can take a loan from a private lender on their own.
One can get federal student loans by filling out the Free Application for Federal Student Aid (FAFSA). Both the student and their parents share their financial information on the form, which is then sent to the student’s educational institute of choice. The financial aid office at each school then determines how much (if any) financial aid the student qualifies for, and then sends them an ‘award letter’ with all the details about their financial aid offer. This aid could come in the form of student loans, or it could come in the form of scholarships and grants. That’s why filing out FAFSA is recommended.
Students can also apply for private student loans straight from the lender. Irrespective of a federal or private loan, the student has to sign a promissory note (scary, right?). It’s a legal document where the student agrees to repay the loan along with interest and includes all the terms and conditions of the loan. Some may even compare it to signing away your freedom. Just kidding, but not really.
What are the types of student loans?
There are primarily two types of student loans : Federal and Private. Both are a source to expand your debt portfolio, but the main difference is that Federal Student Loans are issued by the Government while Private Student Loans are issued by a lot of different sources like banks, schools, credit unions, and state agencies.
Federal Student Loans
- Direct Subsidized Loan: These are undergraduate loans for students who show proof of financial need based on their FAFSA. The government pays the interest until the time comes to start repaying the loan. Once the student leaves school or drops below a certain number of hours, there’s a six-month grace period before repayment starts and interest begins to build up.
- Direct Unsubsidized Loan: These are undergraduate or graduate loans where students do not have to demonstrate any financial need. With unsubsidized loans, the government does not cover the interest — interest starts building up from the minute the school gets the loan money.
- Direct PLUS Loans: These are loans that parents can take out for their dependent students or that graduate students can take out for themselves. These require a separate application from the FAFSA and a credit check.
Private Student Loans
These loans are usually more expensive and have higher interest rates than federal loans. The student has to start making monthly payments while they’re still studying. It’s up to the lender to decide all of the terms and conditions of the loan. Additionally, the student is responsible for all interest payments — there’s no counting on the government for help.
What should you take away from this?
Student loans are still a means to increase your debt pile. There are various kinds of student loans that we weren’t aware of (I’m not sure who was unless they were working at financial institutions and providing the loan). We know a little bit about how it works, of course, there’s a lot, so I’ll explain all about it through the next three blogs.
What can you expect in the next blog? I’ll be writing about student loan interest rates and repayment options. So, stay tuned.