A Complete Guide to Private Student Loans

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  • Use private student loans after maximizing grants, scholarships, and federal loans.
  • Private student loans consider your cost of attendance and credit score.
  • Compare private student loan interest rates and the cost of monthly payments.
  • Refinancing federal loans could disqualify you from certain loan programs.

While grants and scholarships can greatly reduce your out-of-pocket higher education expenses, they're not guaranteed to cover the full cost of college.

This is where student loans come in. Both private and federal loans can help bridge this gap in financial aid to allow you to attend the college of your choice. Unlike other forms of student aid, however, you must pay back student loans — with interest.

On average, undergraduates borrowed $6,617 in federal student loans in 2019-20. While private student loans typically come with more restrictions and higher interest rates than federal loans, they can still be a smart choice to help you pay for educational expenses, if you do your research.

This guide goes over how to find the best private student loans and the main risks of these financial agreements.

What Is a Private Student Loan?

A number of financial institutions, such as banks and credit unions, offer private student loans. These loans differ from federal student loans, which are provided by the government.

Federal loans are by far the most common student loans, thanks to their low interest rates and array of repayment options. To receive federal loans, students must submit the FAFSA. This form determines eligibility based on household income and other financial factors.

Private student loans, in contrast, tend to have higher interest rates, fewer repayment options, and more stringent application requirements. For example, you may need to have a certain credit score or income level.

Many private student loans also require a co-signer, though some may offer a way to remove the co-signer at a later date.

Why Might You Take Out Private Student Loans?

Why take out private student loans if federal loans generally offer better perks?

For many students, federal loans fail to cover the full cost of attendance. This means they'll likely need private loans to make up the difference — after all scholarships, grants, and federal loans have been applied.

With private student loans, financial institutions typically charge fixed or variable interest rates based on market conditions and the borrower's credit score and income. If you don't have good credit, you'll likely pay a higher interest rate. As such, borrowers with poor or no credit history are generally not advised to take out private student loans.

In some cases, private student loans can save you money if you qualify for interest rates that are lower than federal loan interest rates or if you deduct loan interest from your taxes. Note, however, that a variable interest rate means your payments could rise in the future.

What Are the Risks of Private Student Loans?

Private student loans come with a few risks all students should consider before applying.

The first risk of private student loans is borrowing with a low credit rating. While it's possible to qualify for lower interest rates, you typically need to have good credit to do this. Given that many students have a limited or poor credit history, they tend to pay higher interest rates on private loans than they do on federal loans.

Also, since most private student loans are issued through banks, there are few protections for borrowers. Federal loans often allow for income-driven repayment options and deferment of payments when needed.

Many private student loan borrowers do not get such luxuries, as banks primarily seek to make money with little concern for borrowers' financial situations.

Another big risk of private student loans is variable interest rates. Rather than stabilizing or decreasing over time, variable interest rates often increase. Depending on your financial state, increasing rates could significantly hinder your ability to make future payments.

How to Apply for Private Student Loans: 4-Step Guide

It's important to weigh the risks before you apply for private student loans. Students interested in taking out private loans should follow the steps below.

Step 1: Research Your Loan Options

The first step is to research loan options. Compare private student loan interest rates, repayment plans, and monthly payments. Also, consider how much your loan will cost you in the long run.

Make sure that if a loan requires you to procure a co-signer, you are able to do so. Also, find out whether you can remove the co-signer after you've made payments.

Finally, ask about any special features or benefits.

Step 2: Check Your Eligibility

To qualify for a private student loan, you must attend an eligible school and plan to use the loan money to pay for educational expenses. Some community colleges and trade schools may not participate in private student loan programs. You may also need to attend school full time.

In general, to qualify for private student loans, you must meet the following requirements:

  • Be at least 18 years old
  • Have a high school diploma or GED certificate
  • Have a Social Security number
  • Be a U.S. citizen or eligible noncitizen

Additionally, you must meet the financial institution's credit and income requirements. A co-signer, such as a parent or guardian, can help you do this if you don't meet all requirements on your own.

Step 3: Gather All Required Information and Materials

To apply for private student loans, you'll need to provide personal information, including your Social Security number (and your co-signer's), birthdate, and home address. You may need to submit proof of employment and income as well.

Furthermore, you may be asked to provide financial information such as your assets, rent or mortgage, and tax returns.

Take time to gather all the personal information and relevant documents you and your co-signer will need to fill out the loan application.

Step 4: Submit Your Application

Once you've completed your private student loan application, your financial institution will contact your school to verify your information and eligibility. It'll then process the student loan and notify you about your approval and disbursement of your money.

Can You Refinance Private Student Loans?

You can always check with your lender to get information about refinancing your private student loans and when is the best time to refinance. Refinancing can allow you to lower a fixed interest rate or convert a variable-rate loan to a fixed-rate loan.

You can also change the repayment term to a longer or shorter term. Refinancing can simplify your finances with a single payment if you have multiple loans.

While you may consolidate federal student loans, it's generally best to avoid converting these loans into private loans. If you do this, you can lose access to special programs designed to help federal borrowers, such as loan forgiveness and income-based repayment plans. Private lenders do not offer these programs.

Refinancing private student loans typically requires a new credit check and a review of your finances. Shop around to find the best interest rates and terms. Once approved, your lender will pay off your old loan and you can begin making payments to the new company.

Frequently Asked Questions About Private Student Loans

Are private student loans bad?

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While student loans can help you achieve your educational goals by allowing you to attend college, it's important to carefully consider how much to borrow. In 2018-19, 43% of first-time undergraduates received student loan aid.

Unfortunately, student loan debt continues to grow. By the end of 2021, over 40 million Americans owed around $1.75 trillion in student loans. Though the Department of Education recommends a 10-year repayment term, most borrowers need around 20 years to repay their student loans.

Private student loans, when compared to federal student loans, typically have higher interest rates, fewer repayment options, and stricter application requirements.

How much money can you borrow in private student loans?

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Private loans generally allow you to borrow up to the total cost of attendance for your school, subject to the lender's credit policies. These costs can include tuition and fees, room and board, and books and supplies. In contrast, federal student loans maintain an annual limit range of $5,500-$12,500 based on a student's undergraduate grade level.

Private student loan lenders consider your credit history, income, and debt-to-income ratio. Students who struggle to meet all these requirements may need a co-signer to secure the loan.

Do private student loans go to you or your school?

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Lenders will send your private student loan money to your school, which will then apply the loan to your current charges. Loans cannot exceed the cost of attendance. Your school must confirm your loan amount, enrollment, and projected graduation date.

The certification process can take several days. Be sure to apply early to meet any deadlines for fee payments. If you applied for a loan to cover two terms, such as fall and spring, the lender might hold half the disbursement until the start of the second semester.

Why could you get declined for private student loans?

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Lenders issue private student loans based on your credit score and requested loan amount. You may not qualify for a private student loan if you have bad credit or a limited credit history.

Even if you're eligible, the lender may charge a higher interest rate than it would for more established borrowers with a longer credit history.

You can overcome these barriers with the help of a co-signer. A co-signer agrees to be responsible for the loan if you don't make payments as required. Having a co-signer can help you secure a better interest rate and build your credit, provided you make all your payments on time.

DISCLAIMER: The information provided on this website does not, and is not intended to, constitute professional financial advice; instead, all information, content, and materials available on this site are for general informational purposes only. Readers of this website should contact a professional advisor before making decisions about financial issues.


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