FINANCIAL FRESHMAN #059
TL;DR → To fund your higher education, you may have to leverage both federal student loans from the government and private student loans from an external financial institution. You can use private student loans for external purchases like housing, as long as the amount you borrow fits within your institution’s published Cost of Attendance (COA) budget.
Private Student Loan Introduction
If you’re one of those students that will graduate without any private student loan debt, consider yourself very lucky! Recent reports from the Education Data Initiative highlighted the following facts:
- The total outstanding student loan debt balance is $1.814T, which is…certainly a number
- Today, federal student loan debt represents 91.6% of all student loan debt, leaving only 8.4% to private student loans
- The average borrower with outstanding student loan debt currently owes a balance of $42,673
When you look holistically at student loan debt in this manner, you can easily lose the details between federal and private student loans. For this week’s post, let’s make sure that everyone is clear on the difference between these two types of loans. Just in case you need to take out private student loans, we’ll also talk through what you can expect when your funds are disbursed.
Lastly, we’ll talk about the rules that you have to follow once you have those funds in-hand. Do private student loans cover off campus housing? Can I use private student loans to cover my groceries? Can I use private student loans to go to a concert? Easy “no” for that last one, but we’ll cover the others!
Federal vs. Private Student Loans
Before we answer any of those questions on rules, let’s talk through the differences between these types of loans in the first place. For a high-level summary, refer to the graphic below.
Fund Source – When you fill out your FAFSA, the government determines how much federal aid you are eligible for from the U.S. Department of Education. Private student loans, on the other hand, would be through an external financier such as a bank or credit union.
Interest Rate – According to StudentAid.Gov, interest rates for federal loans currently sit in the 6-7% range. Some of these loans will be subsidized however, meaning you will not have to pay the interest that is accruing while you’re still in school. For private student loans, the range is unfortunately much larger.
Basis – For federal loans, the eligibility question is extremely simple. An active student status and a completed FAFSA is all that you’ll need. Part of the reason that the interest rates for private loans is so unpredictable is that your eligibility will be based on your personal credit, or your parent’s credit if they intend to cosign for your debt.
Borrowing Limit – For undergraduate direct loans, you’ll be capped at borrowing $5,500 per year in most situations. Private loans, on the other hand, could cover your full cost of attendance.
Payment Flexibility – Federal loans come with some inherent protections, such as Income-Driven Repayment (IDR) or Public Student Loan Forgiveness (PSLF) for some career paths. With private loans, you will go without these additional safety nets.
Now that we’re clear on the difference, let’s focus in on private student loans a bit more.
Private Loan Disbursement
Imagine you have filled out your FAFSA, received your federal aid package, and still have a $12,000 gap to cover for the school year. You decide to apply for a private student loan, and you are approved with your parents as a cosigner.
In most cases, the lender will send the funds directly to your school’s financial aid office. The school applies the loan toward your tuition, fees, and (if applicable) on-campus housing. Any excess funds, after tuition and fees are paid, are sent to you as a refund. This is the money you would use for off campus housing, groceries, and other approved education-related expenses.
If you end up with more money than you need, the smart move is to send the extra back to your lender right away. Doing so reduces your principal balance and saves you interest in the long haul.
Do Private Student Loans Cover Off Campus Housing?
Yes. Colleges and Universities in the U.S. are required by the Department of Education to publish what is called a COA, or a Cost of Attendance Budget. Private student loans can be used for off-campus housing, as long as it falls within your school’s published cost of attendance budget.
Want to check out some COAs?
That means your monthly rent, utilities, and basic living expenses can be covered, but the total amount you can borrow will still be capped by this official cost estimate. Yes, your lender will check this budget for your institution. No, if you spend less than this budget, the FBI won’t come to your door to ask where the extra money went.
Beyond housing, private student loans can also cover:
- Tuition and fees, obviously
- Books, supplies, and required equipment
- Transportation
- Meal plans or groceries
- Dependent care expenses
- Certain personal expenses deemed education-related
Final Thoughts
Private student loans can be a helpful tool to fill funding gaps, but they come with their own rules, limits, and trade-offs. Understanding how disbursement works and what you can and cannot use the money for will help you avoid costly mistakes.
If you found this post helpful, you might also enjoy some of our other published posts on student loans:
- Tackling Student Debt: How to Inventory Your Loans and Build a Repayment Strategy
- Student Loan Repayment Strategies: Should You Snowball or Avalanche?
Until next time!
