Thursday, November 27, 2014
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Private Student Loans Can Help Fill the Gap



Say your child is starting college next semester. He or she submitted the FAFSA (Free Application for Federal Student Aid) earlier this year and had it sent to the university. The school's financial aid office then sent a financial aid award letter telling your family what federal grants, work study awards, and loans your child's eligible for and how much your family is expected to contribute to the education costs. Your son or daughter has applied for every scholarship available, borrowed the maximum in federal loans, and you all plan to contribute money you've saved for education.

Then—and only then—should you consider a private student loan to fill any remaining financial gap.

"Exhaust all sources of free money and federal loans first," agrees Vince Passione, founder and CEO of Fynanz Inc., in New York. His company administers private student loans for credit unions nationwide.

Edie Irons, communications director, Institute for College Access and Success, Oakland, Calif., goes further. "Private student loans should only be used as a last resort," she says. "They're generally more expensive than federal loans and lack important consumer protections those loans have."

For instance, while the government sets the fixed interest rates and terms for all federal student loans, individual lenders define the rates and terms for private educational loans, which usually have variable interest rates. New legislation, effective in February 2010, includes new disclosure requirements.

New consumer protections

Lenders are now required to inform students—before they borrow—about the initial and maximum interest rates for private student loans and the difference between those rates and federal student loan rates. Once a lender approves an application, but before closing the loan, the lender must disclose the approved loan amount, the interest rate, the loan term, the total finance charge, and a sample repayment schedule. Students then have 30 days to accept the loan. A third disclosure—after the borrower contacts the lender to accept the loan—reiterates the terms, and then the borrower has three days to change his or her mind and decline the loan.

"The first place you should go for advice is your school's financial aid office."

Borrowers must complete self-certification forms indicating their total cost of education, the free money and federal loans they're eligible for, and the financial gap between the two. Lenders are only supposed to finance the gap amount.

Many lending organizations involve schools in the certification process to ensure accuracy. "When we approve a loan, before we disburse it to the school, we send the school a certification request to confirm the gap amount," Passione says. "We reduce our loan amount if necessary to ensure the student doesn't accidentally overborrow. And we follow a regimented process to make sure students and parents are aware of all the free money available to them."

Think hard before you borrow

Clearly, a private student loan is nothing to take lightly. "Think hard about the college and the program you're borrowing for," urges Irons. "Will it be a valuable degree that enables you to pay back your debt?"

Remember that private student loans have variable rates. "In today's interest-rate environment, the rates are low, but it's important for students to understand that they can go up, and by how much," says Passione. "This is the only loan type that, when borrowers shop for it, they often don't consider the payment. When you buy a car, the payment needs to fit into your budget. But student loan payments generally don't start until [students are] out of school, so they tend not to pay too much attention to the loans until they go into repayment."

Credit unions often offer the best deals on student loans.

He gives a sobering example. "If you graduate with $75,000 in private loans at an average of 7%, you're looking at a payment somewhere around $675 a month for the next 15 years. What federal loan payments will you be making at the same time? And will your field require graduate school? What will your total costs be?

"Higher education is an expensive proposition and becoming more so," he continues. "But there are so many schools out there. Might it make sense to go to a community college for two years and figure out a path you can support?"

Shop carefully

If you decide a private student loan is right for you, shop carefully, because the rates and terms lenders offer differ greatly. "The first place you should go for advice is your school's financial aid office," emphasizes Passione. "Web sites such as FinAid.org, and our Web site, CUStudentLoans.org, also give advice about student loans."

When you compare lenders and loans, you're likely to find that credit unions offer the best deals. While Irons' organization doesn't recommend specific lender types or lenders, she acknowledges, "Credit unions may have better interest rates, but you should always shop around."

Since credit unions are member-owned and not-for-profit, their cost of funds typically is lower than many banks'; they pass that on to their members in lower interest rates on their loans, Passione notes. "They tend to have higher approval rates because they know their members and can better assess their needs."

Borrowers should evaluate each loan on its own merit, Irons says. "Read the fine print. Go into the situation with your eyes open and some awareness. Be sure you're confident you'll be able to handle the debt."

Passione offers this advice for comparing loans: "Look at the interest rate and fees. Determine whether there's an origination fee to process the loan," he advises. "Look at the term—some are 20-year loans and some are 15-year loans—that will affect the total amount of interest you pay. Look for borrower benefits, too, like a reduction in interest rate once you pay up to 10% of the loan."

As the year progresses, lenders' capacity gets depleted. They may tighten lending criteria, making less funding available, or it would cost more.

Students generally need co-signers for private educational loans, so look for a loan that releases the co-signer after the student makes a certain number of on-time payments. "A good friend of mine has five kids, so if he co-signs [for] the first two, he may not get approved for the last three unless he's released from the first ones," says Passione.

Passione's organization and some others require a small monthly loan payment—$25 in his case—while borrowers attend school. "It helps students save significantly on total interest costs and gets them accustomed to making regular payments, so they'll do a better job of managing their debt after graduation," he says. "It also helps them build a good credit history, which will be important when they want to purchase a car or rent an apartment later on."

Apply early

If you decide you need private student loans, apply early. "As the year progresses, lenders' capacity gets depleted and they may tighten their lending criteria, which would make less funding available, or it would cost more," says Passione.

"When you get your financial aid award letter, do your research and determine all other sources of funding," he adds. "If you know you'll go down the path of private loans, contact your financial aid office as soon as possible and begin the process."



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