Federal loans vs. private loans: Understanding student loan issuer types
Miranda is an award-winning freelancer who has covered various financial markets and topics since 2006. In addition to writing about personal finance, investing, college planning, student loans, insurance, and other money-related topics, Miranda is an avid podcaster and co-hosts the Money Talks News podcast.
Doug is a Chartered Alternative Investment Analyst who spent more than 20 years as a derivatives market maker and asset manager before “reincarnating” as a financial media professional a decade ago.
Before joining Britannica, Doug spent nearly six years managing content marketing projects for a dozen clients, including The Ticker Tape, TD Ameritrade’s market news and financial education site for retail investors. He has been a CAIA charter holder since 2006, and also held a Series 3 license during his years as a derivatives specialist.
Doug previously served as Regional Director for the Chicago region of PRMIA, the Professional Risk Managers’ International Association, and he also served as editor of Intelligent Risk, PRMIA’s quarterly member newsletter. He holds a BS from the University of Illinois at Urbana-Champaign and an MBA from Illinois Institute of Technology, Stuart School of Business.
Each year, millions of college students and their parents borrow money to cover costs. After all, it’s not just the price of tuition that’s gone up. Living expenses are also on the rise. Even with different types of federal student aid and scholarships, it’s not uncommon for students to have a college funding gap that ends up being filled by student loans.
There are two main student loan options: federal loans from the government and private loans offered by other lenders. Here’s a look at federal and private loans to help you determine what’s best for you.
Key Points
- Federal loans are available to nearly every U.S. citizen, regardless of credit history.
- You generally need good credit or a cosigner to qualify for private student loans.
- Consider using federal loans first, then taking private loans as a last resort.
Federal loans vs. private loans
In general, federal student loans are available to almost any U.S. citizen attending an eligible school without the need for a credit check. The government issues these loans and then contracts with servicers to manage their administration.
In contrast, private student loans are offered by nongovernment lenders. As with other loans, you must go through a credit check, and you can be denied. Private student loans are offered by banks, credit unions, and other lenders.
| Federal student loans | Private student loans | |
|---|---|---|
| Do you need a credit check? | No | Yes |
| Are there income-driven repayment options? | Yes | No |
| What are the loan limits? | $5,500 to $7,500 per year for undergraduate students; $20,500 per year for graduate students. | Cost of attendance, minus any financial aid received. |
| Are the loans eligible for forgiveness programs? | Yes | No |
| Do you have to begin repayment during school? | No, and there’s a six-month grace period following graduation. | Depends on the lender; some will allow you to defer repayment until six months after graduation, while others require you to make payments while in school. |
How federal student loans work
To receive federal student loans, you need to fill out the Free Application for Federal Student Aid (FAFSA). Your information determines whether your family meets the income threshold to qualify for subsidized student loans. If you’re not eligible for subsidized loans, you can receive unsubsidized loans. Your available loan options are listed, along with grants and scholarships, in the financial aid letter you receive from the schools you applied to.
A formula set by Congress determines interest rates on federal student loans. Everyone who receives federal loans during the academic year pays the same interest rate. Rates are changed every year, so by the time you finish your degree, you could have multiple student loans with various interest rates. You must fill out a new FAFSA each year if you want to continue receiving federal student loans to help you pay for school.
The government allows you to consolidate your federal student loans so you have one interest rate and one monthly payment. You also have access to a variety of income-driven repayment (IDR) plans. If you have a lower income, your payments could be lower when you consolidate your federal student loans and use an income-driven plan.
Federal student loans are also eligible for various federal and state student loan forgiveness programs.
Federal student loan payment and interest pause
Thanks to the American Rescue Plan, no payments are due nor interest accruing on federal student loans through June 30, 2023. The Department of Education issued a list of which loans are eligible and ineligible.
A program announced in 2022 by the Biden administration called for student loan forgiveness of either $10,000 or $20,000, based on income and whether a borrower was a Pell Grant recipient. The student debt relief plan ran into questions of legality and, as of early 2023, is working its way through the court system.
Private loans are not a part of these programs.
How private student loans work
Private student loans work much like other loans. Rather than filling out a standard application, like the FAFSA, each lender has its own process and requirements. You aren’t guaranteed a private student loan. Instead, the lender will run a credit check and verify your income. In many cases, if you can’t qualify on your own, you will need to find a cosigner.
Your interest rate will depend on your credit history and other factors. It might be fixed or variable. Your interest rate might be different from someone else in the same cohort. As with federal loans, private loans often require you to reapply each year for the coming school year. Some lenders will give you one loan for the entire four years, but most require you to reapply, which means you could be denied in a later year if your credit situation changes.
Private loans come without the protections of federal loans. Although some lenders offer limited financial hardship programs, they’re not the same as the dedicated income-driven plans offered by the federal government. Additionally, private student loans are excluded from federal forgiveness programs like Public Service Loan Forgiveness and student loan payment pauses.
If you decide a private student loan is the right choice for you, shop around for different rates and terms. Compare offers so you get the best rate and repayment terms.
The bottom line
Both federal loans and private loans can help you pay for college, but choosing which to use can be difficult.
For the most part, experts recommend a four-part hierarchy:
- Free money. See what grants and scholarships you qualify for.
- Savings and income. Tap into your 529 plans and any money you or your parents socked away for college. Part-time jobs and work-study programs can also help fill the gap.
- Federal student loans. Start with subsidized loans, which have the most generous repayment terms. Then take any unsubsidized loans.
- Private student loans. Consider private loans as a last resort.
Consider your financial situation and needs carefully before deciding whether to get federal loans or private loans.
- Federal Student Loans for College or Career School Are an Investment in Your Future | studentaid.gov
- What’s the Difference Between Direct Subsidized Loans and Direct Unsubsidized Loans? | studentaid.gov
- Interest Rates and Fees for Federal Student Loans | studentaid.gov
- COVID-19 Loan Payment Pause and 0% Interest | studentaid.gov