Federal vs. private student loans

21 federal student loans vs private loansAre you considering taking out a student loan but don't know whether to choose a federal or private lender? This guide breaks down the differences between these loan options, including interest rates, repayment plans, and eligibility requirements.

The government provides federal student loans, which generally come with attractive terms like fixed interest rates, income-based repayment options, and loan forgiveness programs. In comparison, private student loans from lenders such as banks and credit unions often have higher interest rates and various borrowing limits and do not require you to demonstrate financial need.

The biggest differences

While you can use both types of student loans to pay for college, here are the significant differences between federal and private student loans outlined below.

  • Interest rates. The interest rate on federal loans is consistent for all borrowers and is typically lower because the loan is backed by the government. In contrast, private loan rates vary depending on the borrower’s creditworthiness and tend to be higher.

  • Refinancing. Federal student loans cannot be refinanced at a lower interest rate with the federal government. They can only be consolidated under specific government programs, though sometimes that offers access to lower monthly payments through income-driven repayment plans. In general, student loans can be refinanced with a private lender to get better terms, such as a lower interest rate or a more favorable repayment plan.

  • Loan limits. Private student loans can have higher borrowing limits and pay for more expensive schooling.

  • Credit checks. Private student loans may require you to pass a credit check or provide a cosigner, while federal loans do not require a credit check.

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Federal student loans

If you can’t afford tuition, a federal student loan can help finance your higher learning.

What is a federal student loan?

Federal student loans are a form of financial aid offered by the U.S. government to help students pay for higher education expenses. The process starts with filling out the Free Application for Federal Student Aid (FAFSA). The colleges that offer you admission will then provide you with a letter outlining your financial aid options, including scholarships, grants, work-study, and loans.

When federal loans are better

Consider a federal student loan over a private loan if you’re looking for a low-cost, flexible loan option with a wider range of repayment options. You can also get a federal loan regardless of your credit history.

Benefits of federal loans

Federal student loans offer access to an affordable loan with several perks, including:

  • Lower interest rates. Federal student loans often have lower interest rates than private loans, which can result in lower monthly payments and less interest paid over the life of the loan.

  • Wider range of repayment options. Federal loans offer a more comprehensive range of repayment options, including income-driven repayment plans, which can make repaying the loan easier and more affordable.

  • No credit check. Federal loans do not require a credit check, making them a better option for students with limited or no credit history.

  • Repayment flexibility. Federal loans have more flexible options for deferment (postponing payments) and forbearance — allowing payments to be temporarily suspended — in the event of financial hardship.

  • No co-signer required. Unlike many private loans, federal student loans don’t require a co-signer, making them a better option for students who do not have a co-signer available.

Drawbacks of federal loans

Federal loans are instrumental in financing the education of millions of Americans. However, they do have some drawbacks, like:

  • Lower loan limits. Federal student loans have maximum loan limits that can limit the amount of funding you receive. You may be forced to seek additional financing from private lenders if the cost of attendance exceeds your federal loan limits.

  • Origination fees. Origination fees are a one-time charge deducted from the loan amount before it is disbursed. This fee reduces the amount of money you receive and increases the total cost of borrowing.

  • Not available for all schools. Federal student loans are only available to students enrolled in eligible schools, which can limit your higher education options.

  • Strict eligibility requirements. Compared to private student loans, federal student loans typically have more stringent requirements and eligibility criteria, such as demonstrating financial need or being enrolled at least half-time in a qualifying program.

Private student loans

You may find it challenging to qualify for a federal student loan because of the requirements. In that case, private student loans may offer a way out.

What is a private student loan?

Private student loans come from non-government sources such as banks and credit unions. Generally, you’ll need a good to excellent credit score to secure a private student loan. Before taking on any student loan, compare the terms and conditions to weigh your options carefully.

When private loans are better

Under certain circumstances, private student loans may be better than federal student loans. These circumstances include:

  • Ineligibility for federal aid. Borrowers who do not meet the criteria for federal aid, such as international students, may consider private loans as their only option to finance their education.

  • Federal loan limits reached. If you’ve exhausted your federal loan limits, you may consider private loans to cover additional education costs.

  • Interest rate flexibility. Some private loans offer the option of a variable interest rate, which can be appealing for borrowers comfortable with potential interest rate fluctuations. On the other hand, federal student loans have fixed interest rates.

  • Good credit scores. Borrowers with good credit scores may secure a lower interest rate with a private loan compared to a federal loan, reducing the overall borrowing costs over the life of the loan.

Benefits of private loans

College education costs are constantly rising, and as financial aid options for students dwindle, private student loans are becoming increasingly popular. Here are reasons you may want to consider a private student loan:

  • Higher loan limits. Private loans may provide more funding than federal student loans, thereby covering more educational expenses.

  • No origination fee. Unlike federal student loans, private loans typically don't have an upfront fee.

  • Quick approval process. Students that need funds quickly may favor private student loans, which can be approved faster than federal loans.

  • Co-signer option. Private loans may permit a co-signer, which can help you obtain a lower interest rate and a larger loan.

  • Build credit. Repaying a private student loan on time can help build your credit history and boost your credit score.

Drawbacks of private loans

Private student loans can offer you an excellent alternative to federal loans. Still, they are not without drawbacks.

  • Higher interest rates. Unless you and/or your cosigner have stellar credit, private student loans often come with higher interest rates compared with federal student loans, potentially resulting in higher overall repayment costs.

  • Fewer consumer protections. Federal student loans offer many consumer protections, such as loan forgiveness and income-driven repayment plans. Most private loan lenders don’t offer these benefits.

  • No deferment or forbearance. Private loans typically don't offer deferment or forbearance options, which allow you to pause or reduce your loan payments temporarily.

  • Variable interest rates. Some private loans have variable interest rates that can change over time, making it more difficult to predict future monthly payments.

  • Lack of standardization. Private loans vary widely in terms of interest rates, repayment terms, and other features, complicating the comparison and selection process.

  • Co-signer responsibility. If you have a co-signer on your private student loan, they are equally responsible for repayment. If you cannot repay the loan, your co-signer will be responsible for repaying the loan.

Can you use both?

It’s possible to use both federal and private student loans to pay for your education. Some students use federal loans to cover their basic expenses, such as tuition and room and board, while using private loans to cover additional costs, like textbooks and living expenses.

Using both types of loans can provide more funding options. Federal student loans often come with a hard cap, which may make it necessary to supplement with a private student loan.

Can you consolidate federal loans with private loans?

Many private lenders offer the option to refinance your federal loans into one larger, private loan. Doing so involves taking on a private loan with a new rate and term. The loan pays off your original loan to replace your balance.

Consolidating your student loans means you’ll end up with just one loan and interest rate, which means just one monthly payment. However, if you consolidate your federal loans with a private lender, you’ll lose certain benefits, such as access to income-driven repayment plans and loan forgiveness programs.

More questions?

Choosing between federal vs. private student loans is a weighty financial decision that will have long-term financial impacts. That’s why it is essential to understand all your options and make an informed choice, but you might need support. FinanceHQ can connect you with a financial advisor who can analyze your financial situation and determine the best loan options for you based on your individual needs and goals.

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Anna Yen
Written byAnna YenContributing writer

Anna Yen is a CFA charterholder, financial wellness expert, writer, and investor at FamilyFI.