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Tuesday, September 16, 2008



A loan is a type of debt. All material things can be lent but this article
focuses exclusively on monetary loans. Like all debt instruments, a loan entails
the redistribution of financial assets over time, between the lender and the

The borrower initially receives an amount of money from the lender, which they
pay back, usually but not always in regular installments, to the lender. This
service is generally provided at a cost, referred to as interest on the debt. A
borrower may be subject to certain restrictions known as loan covenants under
the terms of the loan.

Acting as a provider of loans is one of the principal tasks for financial
institutions. For other institutions, issuing of debt contracts such as bonds is
a typical source of funding. Bank loans and credit are one way to increase the
money supply.

Legally, a loan is a contractual promise of a debtor to repay a sum of money in
exchange for the promise of a creditor to give another sum of money.

Student loans are loans offered to
students to assist in payment of the costs of professional education. These
loans usually carry a lower interest rate than other loans and are usually
issued by the government. Often they are supplemented by student grants which do
not have to be repaid.

Student loans in the United States

While included in the term "financial aid" higher education loans differ from
scholarships and grants in that they must be paid back. They come in several
varieties in the United States:

Federal student loans made to students directly: No payments while enrolled in
at least half time status. If a student drops below half time status, the
account will go into its 6 month grace period. If the student re-enrolls in at
least half time status, the loans will be deferred, but when they drop below
half time again they will no longer have their grace period. Amounts are quite
limited as well.

Federal student loans made to parents: Much higher limit, but payments start

Private student loans made to students or parents: Higher limits and no payments
until after graduation, although interest will start to accrue immediately.
Private loans may be used for any education related expenses such as tuition,
room and board, books, computers, and past due balances. Private loans can also
be used to supplement federal student loans, when federal loans, grants and
other forms of financial aid are not sufficient to cover the full cost of higher

Student loans
in the U.S.

Regulatory framework

Higher Education Act of 1965

US Dept of Education


Cost of attendance

Distribution channels

Federal Direct Student Loan Program


Loan products




Consolidation Loans

Private student loan

Federal loans to students


Federal Perkins Loan

Stafford loan

Federal Family Education Loans

Ford Direct Student Loans
, and

Federal student loan consolidation

Federal student loans in the United States are authorized under Title IV of
the Higher Education Act as amended.

The first type are loans made directly to the student. These loans are
available to college and university students and are used to supplement personal
and family resources, scholarships, grants, and work-study. They may be
subsidized by the

U.S. Government
or may be unsubsidized depending on the student's financial

Both subsidized and unsubsidized loans are guaranteed by the

U.S. Department of Education
either directly or through guarantee agencies.
Nearly all students are eligible to receive them (regardless of credit score or
other financial issues). Both types offer a
of six months, which means that no payments are due until six months
after graduation or after the borrower becomes a less-than-half-time student
without graduating. Both types have a fairly modest annual limit. The limit
effective for loans disbursed on or after July 1, 2007 is as follows: is $3,500
per year for freshman undergraduate students, $4,500 for sophomore
undergraduates, and $5,500 per year for junior and senior undergraduate
students, as well as students enrolled in teacher certification or preparatory
coursework for graduate programs. Subsidized federal student loans are offered
to students with a demonstrated financial need. Financial need may vary from
school to school. For these loans, the federal government makes interest
payments while the student is in college. For example, those who borrow $10,000
during college will owe $10,000 upon graduation.

Unsubsidized federal student loans are also guaranteed by the

U.S. Government
, but the government does not pay interest for the student,
rather the interest accrues during college. Those who borrow $10,000 during
college will owe $10,000 plus interest upon graduation. For example, those who
have borrowed $10,000 and had $2,000 accrue in interest will owe $12,000.
Interest will begin accruing on the $12,000. The accrued interest will be
"capitalized" into the loan amount, and the borrower will begin making payments
on the accumulated total. Students can choose to pay the interest while still in
college; however, few students choose to exercise this option.

Federal student loans for graduate students have higher limits: $8,500 for
subsidized Stafford and $12,500 (limits may differ for certain courses of study)
for unsubsidized Stafford. Many students also take advantage of the Federal
Perkins Loan. For graduate students the limit for Perkins is $6,000 per year.

Private student loan rates and interest

Private student loan rates are lower than non-specialized private loans
(e.g., "signature" loans) but slightly higher than government loan rates. That
may be changing, as pending legislation would raise government student loan
rates to similar rates as private student loans. Consumers should be aware that
some private loans require substantial up-front origination fees. These fees
raise the real cost to the borrower and reduce the amount of money available for
educational purposes.

Most private loan programs are tied to one or more financial indexes, such as

Wall Street Journal

Prime rate
or the

rate, plus an overhead charge. Because private loans are based on the credit
history of the applicant, the overhead charge will vary. Students and families
with excellent credit will generally receive lower rates and smaller loan
origination fees than those with less than perfect credit. Money paid toward
interest is now tax deductible.

Private student loan fees

Private loans often carry an

origination fee
. Origination fees are a one-time charge based on the amount
of the loan. They can be taken out of the total loan amount or added on top of
the total loan amount, often at the borrower's preference. Some lenders offer
low-interest, 0-fee loans, but these are usually available only to those with
high credit scores (800 or more). Each percentage point on the front-end fee
gets paid once, while each percentage point on the interest rate is calculated
and paid throughout the life of the loan. Some have suggested that this makes
the interest rate more critical than the origination fee.

In fact, there is any easy solution to the fee-vs.-rate question: All lenders
are legally required to provide you a statement of the "APR (Annual Percentage
Rate)" for the loan before you sign a promissory note and commit to it. Unlike
the "base" rate, this rate includes any fees charged and can be thought of as
the "effective" interest rate including actual interest, fees, etc. When
comparing loans, it may be easier to compare APR rather than "rate" to ensure an
apples-to-apples comparison. APR is the best yardstick to compare loans that
have the same repayment term; however, if the repayment terms are different, APR
becomes a less-perfect comparison tool. With different term loans, consumers
often look to 'total financing costs' to understand their financing options.

Eligible loan programs generally issue loans based on the credit history of
the applicant and any applicable cosigner/co-endorser/coborrower. This is in
contrast to federal loan programs that deal primarily with need-based criteria,
as defined by the EFC and the
FAFSA. For many
students, this is a great advantage to private loan programs, as their families
may have too much income or too many assets to qualify for federal aid but
insufficient assets and income to pay for school without assistance.

Additionally, many international students in the United States can obtain
private loans (they are ineligible for federal loans in many cases) with a
cosigner who is a United States citizen or permanent resident.

The terms for alternative loans vary from lender to lender. A common
suggestion is to shop around on ALL terms, not just respond to "rates as low
as..." tactics that are sometimes little more than bait-and-switch. Examples of
other borrower terms and benefits that vary by lender are deferments (amount of
time after leaving school before payments start) and forebearences (a period
when payments are temporarily stopped due to financial or other hardship). These
policies are solely based on the contract between lender and borrower and not
set by Department of Education policies.

Federally subsidized consolidations are not available for alternative student
loans, though several lenders offer private consolidation programs. Borrowers of
privately subsidized student loans may face the same restrictions to bankruptcy
discharge as for government based loans: New legislation makes clear that these
loans are, like federal student loans, not dischargeable under bankruptcy. Even
before the legislation was passed, however, private student loans that were
guaranteed 'in whole or in part' by a nonprofit entity are non-dischargeable in
bankruptcy (and most private loans, regardless of the lender, were indeed
guaranteed by a nonprofit).





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