Student loans let you borrow money to help pay for higher education, whether that's for undergrad or medical school, law school, or other graduate schooling. But you're not alone if you have fears about taking out large loans when you're just entering adulthood.
Before signing on any dotted lines, it's important to fully understand the debt you're getting into. That's why we've compiled 10 answers to common questions everyone could benefit from knowing before taking out student loans. Because when it comes to your finances, the more you know, the better.
1. What are the different types of student loans?
There are 2 main types of student loans: federal and private. Federal student loans are available through the US Department of Education. To apply, you must complete a Free Application for Federal Student Aid (FAFSA). Federal loans have annual and aggregate maximums that determine how much money you can borrow. Translation: Federal loans alone might not cover enough of your total higher education costs. Still, federal loans have some benefits, including the following:
- Most federal loans don't require credit checks. So if you have poor or limited credit history, you can't be denied.
- Interest rates are the same for all federal loan borrowers for each academic year, and these rates tend to be lower than what private student loan providers offer.
- There aren't prepayment penalties, so you won't get dinged with extra fees for paying down your loans early.
- You may qualify for income-driven repayment plans that could offer low monthly payments if your income is low, though these might take longer to pay off.
- You may also be able to consolidate multiple federal loans, which could lower your monthly payments—but again, it might extend your payment period.
- Low-income individuals may qualify for subsidized loans—the government chips in on interest if certain conditions are met.
Private student loans are issued through banks, credit unions, and other financial institutions, and these loans don't have universal rules like federal student loans. That means each issuer can determine borrowing limits, interest rates, and repayment terms. Private loans are usually also exempt from federal loan forgiveness. On the plus side, private loans are available to international students, and the terms of private loans are determined by your credit score, which, if you have a good one, could score you favorable rates.
2. How does student loan interest work?
Student loans charge interest, so you'll pay more than you use to cover your education costs. Your interest rate is a percentage of your principal (aka the amount you borrowed) that you're on the hook to pay for as a fee for borrowing that money. That fee is on top of the principal you also must repay. The interest on your student loans is calculated daily by multiplying your remaining principal by your interest rate factor (the interest rate of your loan divided by the number of days in the year, so usually 365).
Interest rates on loans can come in 2 different forms: fixed or variable. A fixed rate means the interest rate you received upon signing the loan will remain the same through the life of the loan. A variable rate, on the other hand, means your student loan rate can change over time. All federal student loans have fixed interest rates, but private student loan interest rates can be either fixed or variable.
3. When does interest start to accrue on student loans?
For both federal and private loans, interest starts to accrue, or grow, as soon as you get funds to use toward school. But with subsidized federal loans, the government pays the interest while you're a student for at least half the time, or during deferment periods. Typically, only lower-income individuals qualify for subsidized loans. With unsubsidized loans, it's on you to pay the full amount of interest, though you might not have to pay it as soon as funds are disbursed, depending on your loan terms.
4. What is capitalized interest and when does it occur on student loans?
Capitalized interest is unpaid interest that gets added to your principal. That interest could then accrue interest of its own. Generally, interest on federal student loans only capitalize after a period of forbearance or deferment; if you no longer qualify for a repayment plan you're on, perhaps because your income has made you ineligible; or after a grace period for beginning repayments if you have a federal loan that isn't managed by the US Department of Education. Interest could capitalize on some private student loans after a grace period following your leaving school.
5. When do student loan payments start?
For many federal loans, student loan payments start once you graduate, drop below part-time enrollment, or leave school. If you have direct subsidized, direct unsubsidized, or federal family education loans (FFEL), you get a 6-month grace period after any of those events before you have to make payments. Or if you have a Perkins loan, that grace period is 9 months.
Private loans don't have consistent rules around when student loan payments start. Some start immediately upon disbursement, some start right when you graduate, leave school, or drop below part-time enrollment, and some give you a grace period after any of those events. Before taking out any private loans, it's important to fully understand your repayment schedule.
6. Do student loans affect your credit score?
How well you keep up with your student loan payments could affect your credit score. What's a credit score? It's a numeric value of your "creditworthiness" and is impacted by several factors, including how you've handled paying loans and credit card bills in the past. Lenders generally report missing student loan payments to the credit bureaus—after 30 days for private loans, after 90 days for federal loans. Reported missed payments could drop your score, making it more difficult and expensive to borrow money in the future. And if someone co-signed your loans, reported missed payments could hurt their credit score too.
7. What happens if you miss a student loan payment?
The penalties for missing student loan payments depend on how late you are, how many payments you miss, and whether your loans are federal or private. Federal student loans might have rehabilitation and payment plan options. Private loans often go to collection agencies.
8. What happens if you default on a student loan?
For most federal student loans, if you don't make payments for 270 days, you will default. For private loans, lenders and even individual loans may have different default criteria, but generally you could default after 3 missed payments, so in as little as 3 months. A loan default looks worse on your credit report than a late payment. And once your loans go into default, there's more serious action, including the following:
- Late fees
- Credit score damage
- Loss of loan benefits, such as applying for deferment or forbearance
- Wage garnishment
- Treasury Offset, when payments from other government agencies (such as an IRS refund) instead go toward federal student loans
- Legal action
- Collection agency involvement
- Loss of professional licenses
For more information around these potential penalties, check out what happens if you don't pay your student loans.
9. What is the average monthly student loan payment?
Although your average monthly cost will depend on your personal financial situation, the typical monthly payment is up to $500 before the federal student loan repayment pause that started in 2020.1
10. How long does it take to pay off student loans?
There are many payment plans that allow a borrower to pay off their loans in just 10 years. Other payment plans can take 20.1
Although you might not have to make a single student loan payment until you're out of college, spending wisely and saving up money before then, by earning more and spending less, could help you better tackle that debt later. Picking up part-time work and setting and sticking to a budget could set you up for student loan payment success—or even make it possible to make some payments while you're still studying. Check out our guide to saving money while in college for more tips on how to help grow your bank account as a student.