How Do Student Loans Work for 2025?
Student Finance & Loan Expert
Student loans are a common way to pay for college, with a 2023 Federal Reserve report indicating that 30% of all adults borrowed money for their education. But how do student loans work? To help you make informed decisions about paying for college, we explain everything you need to know about taking out a student loan, including interest rates, and alternatives.
Key Things You Should Know About How Student Loans Work
- Student loans cover a wide range of college expenses, but they cannot be used for personal expenses or past-due debts.
- Federal loans generally offer lower interest rates and more borrower protections than private loans, but eligibility is based on financial need.
- Private loans are awarded based on creditworthiness and can have higher interest rates.
- The maximum loan amount depends on factors like your year in school, dependency status, and cost of attendance.
- Federal student loans typically offer a grace period before repayment begins, while private loan grace periods may vary.
Table of Contents
- What can I use student loans for?
- Types of Student Loans
- What is the maximum a student can borrow for college?
- What are the current student loan interest rates?
- How do I apply for a student loan?
- How do I qualify for a student loan?
- When do I start repaying student loans?
- How do I repay my student loans?
- Could Alternative Degree Paths Lower My Loan Burden?
- Can a Master's Degree Improve My Financial Outlook Amid Student Loan Debt?
- Can Choosing an Easier Degree Program Reduce My Student Loan Burden?
- Are Specialized Student Loans a Better Fit for My Program?
- Should I Use a Cosigner for Private Student Loans?
- What Are My Options If I Struggle With Making Student Loan Payments?
- Alternatives to Student Loans
- How Do I Choose the Right Student Loan for My Needs?
- How does student loan refinancing and consolidation work?
- How Can My Degree Choice Impact My Loan Outcomes?
- Other Things You Should Know About How Student Loans Work
What can I use student loans for?
As the term suggests, student loans cover the costs of being a student in postsecondary or postgraduate school. Student loans cover an extensive list of college tuition costs, including:
- Tuition and fees
- Room and board
- Books and supplies
- Computers and related equipment
- Transportation
Student loans cannot be used for personal expenses, like clothes or travel not related to education. Moreover, you cannot take out student loans to cover past-due debts, like personal loans or home loans.
Although they are not free like scholarships or grants, students say the benefits of their degree outweigh the cost of their loans. Nearly half (44%) of graduated student loan debt holders share this sentiment, according to a 2023 report by the Federal Reserve.
What are the Types of Student Loans?
You have two options for private loans: federal and private. Federal loans are provided by the U.S. government, while private loans come from banks, online lenders, and credit unions.
Federal student loans generally come with more benefits for borrowers, like lower interest rates than private loans and access to income-driven repayment plans and loan forgiveness programs. There are also subsidized student loans for those with demonstrable financial need. You may ask: How do student loans work in this setup? The government pays interest on the loan while the student is enrolled in school at least half-time, during grace periods, and during deferment periods.
Private student loans are quite different. Interest rates are typically higher than those on federal loans, and the loans come with fewer borrower protections. They are a good option for those who do not qualify for federal loans, since eligibility for private loans is based on creditworthiness rather than financial need.
You can apply for multiple loans if one does not cover your college budget. For example, you can get both a federal and private loan to pay for the average private university tuition.
What is the maximum a student can borrow for college?
When considering how do student loans work, you might wonder how much you can borrow. According to research by Hanson, the average student at a private nonprofit university student borrows $33,700, while a student at a for-profit school might borrow closer to $49,700.
The maximum amount you can borrow will depend on factors like your year in school, dependency status, and cost of attendance at your school. Students at Title 1 schools, for example, might be granted less in loans considering the tuition is low. This may be the case whether you apply for a federal or private loan.
What are the current student loan interest rates?
Federal student loans come with fixed interest rates, meaning the rate you receive stays the same throughout the life of the loan. These rates are set by Congress each year and can vary depending on the type of loan you borrow. For the 2023-2024 school year, interest rates for federal student loans were set between 6.53% and 9.08%.
Private student loan interest rates, on the other hand, can be either fixed or variable. But how do student loans work for variable-rate loans? Variable rate loans can fluctuate over time based on market condition, which means your interest rate may dip below the initial rate you were granted. To compensate for this risk, private lenders typically charge a higher starting interest rate on variable loans compared to fixed loans.
The private student loan rates you get are determined by the lender and your creditworthiness. Credible reports that in July 2024, the lowest fixed interest rate for private student loans was 4.04%, while the lowest variable rate was 5.37%. The table below compares the interest rates for federal and private loans.
How do I apply for a student loan?
The first thing you can do to apply for financial aid is to fill out the Free Application for Federal Student Aid (FAFSA). The government uses this form to assess your financial need and determines your eligibility for federal aid. The amount and type of aid you get will depend on factors like financial need, the school’s cost of attendance, and if you can get in state tuition for out of state students. They might also consider the demand for professionals in your field of study and how much income you stand to earn after graduation.
After submitting the FAFSA, you will get a Student Aid Report (SAR) outlining your options. Your school's financial aid office will then help you accept or decline your federal loan award.
But how do student loans work if you cannot get federal loans, or if your loan does not cover your full budget? In these cases, you can look up private loans. Most private lenders allow online applications through their websites.
How do I qualify for a student loan?
Now, how do student loans work in terms of prerequisites?
Requirements for federal loans are extensive because they are need-based. The FAFSA application process allows the government to assess a student's financial situation and provide loans to those who need them most.
Apart from financial need, you must satisfy the following qualifications for a federal student loan.
- Be a U.S. citizen or eligible non-citizen
- Have a valid Social Security number
- Be enrolled at least half-time in an eligible degree program at a Title IV school
- Not be in default on any federal student loans
- Meet satisfactory academic progress (SAP) requirements
Private student loans have different eligibility requirements than federal loans. While requirements vary depending on the lender, a strong credit history is typically a major factor. If you have limited credit history or your credit score is not yet where you would like it to be, you may need a cosigner with good credit to qualify for a private student loan.
When do I start repaying student loans?
Before you take out a student loan, you should understand the loan terms inside and out. This includes how do student loans work when it is time to repay. Research by Hanson shows that student borrowers pay an average of $203 for student loans each month. However, the repayment period will differ depending on your lender.
Federal student loans typically offer a grace period before repayment begins, typically six months after you graduate, leave school, or drop below half-time enrollment. During this time, you are not required to make any payments, and interest will not accrue on subsidized federal loans. However, interest does accrue on unsubsidized federal loans during the grace period.
Private student loans may have different grace periods or no grace period at all. You can start making payments on your student loans before the grace period ends to save on interest accrued. Some lenders may even offer a reduced interest rate if you sign up for automatic payments.
How do I repay my student loans?
Every lender offers different loan terms and repayment plans. You can ask your lender how do student loans work and what repayment plans they offer.
- Choose a Repayment Plan. For federal student loans, you can choose from various repayment plans, such as the Standard, Graduated, Income-Driven, or Extended plans. For private loans, you can set up automated payments. Many lenders offer a small interest rate reduction for enrolling in automatic payments.
- Make Payments on Time. Pay at least the minimum amount due each month to avoid delinquency or default, which can damage your credit score.
- Consider Refinancing. You may be able to lower your interest rate and monthly payment by refinancing your student loans with a private lender. However, if you refinance federal loans, you will lose access to federal repayment plans and benefits.
- Look into Loan Forgiveness Programs. Federal programs like Public Service Loan Forgiveness (PSLF) and Teacher Loan Forgiveness may forgive all or part of your federal student loans if you qualify. Some state and employer-based programs also offer student loan repayment assistance.
- Make Extra Payments When Possible. Paying more than the minimum each month can help you pay off your loans faster and save on interest. However, you should specify that the extra payment should be applied to the principal balance and not to interest.
How will my student loan affect my long-term financial health?
Evaluating the long-term impact of your student loan is critical for sustainable financial planning. Consider how your repayment schedule, interest accrual, and potential adjustments in your income can influence future creditworthiness and investment opportunities. Reviewing the overall cost of borrowing—including fees and variable rate risks—helps in determining affordability over time. Additionally, understanding how different loan structures may interact with other financial obligations can offer a more balanced perspective. For those considering private options, research options like the best private student loans to ensure the terms align with your long-range financial goals.
Could Alternative Degree Paths Lower My Loan Burden?
Pursuing more affordable education options can help reduce reliance on student loans by lowering overall tuition costs and minimizing debt accumulation. For instance, exploring programs like an associate's degree online may offer a cost-effective pathway to enter the workforce sooner while maintaining quality education. Consider comparing program outcomes, including job placement rates and return on investment, to determine if a shorter or more affordable degree aligns with your long-term career objectives.
Can I Deduct My Student Loan Interest on My Taxes?
Student loan interest may be deductible if you meet federal criteria, potentially reducing your taxable income by up to $2,500 per year. The deduction is subject to income thresholds and filing status limitations, and you must not be claimed as a dependent on another taxpayer’s return. Eligibility is determined by your adjusted gross income and other factors, so consulting a tax professional can ensure you take advantage of all available benefits. Graduate students can also explore education tax credits when investing in programs such as highest paying master's degrees.
Can a Master's Degree Improve My Financial Outlook Amid Student Loan Debt?
Exploring advanced education as a financial strategy can offer higher earning potential and improved career prospects, which in turn may alleviate the weight of student loan repayment. An investment in a master's degree often provides specialized skills and access to competitive salary brackets in growing industries. Analyze industry-specific trends and potential return on investment to determine if the additional academic pursuit aligns with your long-term financial objectives, ensuring that the immediate costs do not undermine overall debt management strategies.
Can Choosing an Easier Degree Program Reduce My Student Loan Burden?
Research shows that selecting a degree path with lower associated costs can directly influence the total amount of borrowing needed. Evaluating program tuition, duration, and post-graduation income potential allows students to strategically minimize debt without compromising career prospects. For those interested in programs that may limit overall student loan reliance, consider exploring the easiest BA degree, which offers an alternative academic pathway with potentially lower financial barriers.
Are Specialized Student Loans a Better Fit for My Program?
For certain academic paths that demand higher tuition or involve unique career trajectories, tailored student loan options can offer distinct advantages. These specialized loans may provide flexible repayment terms, customized borrower protections, or interest rates that better align with the projected income in specific fields. For example, when considering advanced programs in veterinary medicine, it is worthwhile to explore options that cater directly to the financial challenges in that area. Compare offerings such as the best student loans for vet school to assess benefits that general loan products might not deliver.
Should I Use a Cosigner for Private Student Loans?
For borrowers facing limited credit history, enlisting a cosigner can broaden access to competitive rates and higher loan limits. A qualified cosigner, typically with a strong credit profile, may help secure terms that otherwise might not be available. However, both parties should carefully assess the financial responsibilities involved, as the cosigner becomes legally obligated if repayment issues arise. Understanding these implications and comparing offers can aid in selecting the most advantageous lending option. For further insights, refer to private student loans with cosigner.
What Are My Options If I Struggle With Making Student Loan Payments?
If unforeseen circumstances impact your ability to meet monthly payments, consider exploring available borrower relief programs. Income-driven repayment plans, deferment, and forbearance can provide temporary payment relief while you navigate financial hardships. Assessing consolidation or refinancing options may also help align payments with current income, though these require careful review of long-term obligations. Additionally, evaluating lower-cost educational pathways—such as those offered by an affordable online college—might serve as a proactive strategy to mitigate overall debt exposure.
What are the Alternatives to Student Loans?
With the U.S. leading the cost of university by country, it is common for students to apply for multiple types of financial aid. But how do student loans work alongside other forms of aid?
A 2023 report by Sallie Mae shows that student loans cover just 19% of college costs for the typical family, while free aid like scholarships and grants cover over a quarter (29%). Still, most families must dip into their savings and income despite securing financial aid. As shown in the chart below, families pay for about 50% of college costs out of pocket.
How do I choose the right student loan for my needs?
Choosing the right student loan requires careful consideration of your financial situation, academic goals, and future earning potential. Federal loans are generally the first option most borrowers explore due to their lower interest rates, flexible repayment plans, and borrower protections like deferment and loan forgiveness programs. Private loans, however, can be a viable alternative for students who exhaust federal options or pursue education at schools with high costs.
When comparing private loans, it’s important to evaluate lenders based on interest rates, repayment terms, and eligibility requirements. Reputable student loan companies often provide useful tools to estimate loan affordability and compare rates before applying. If you’re considering private loans, start by reviewing some of the best options available through trusted lenders.
Additionally, consider your post-graduation financial outlook. Research the typical salaries in your field of study to ensure your anticipated income will comfortably cover monthly loan payments. Understanding how your repayment plan fits into your long-term financial goals can help you make an informed borrowing decision and avoid unnecessary debt accumulation.
How does student loan refinancing and consolidation work?
Student loan refinancing and consolidation are two strategies borrowers can use to streamline their repayment process or reduce overall costs. Refinancing involves replacing one or more of your existing loans with a new loan from a private lender, often at a lower interest rate. This option is typically best for borrowers with strong credit and steady income who want to save on interest over the life of the loan. However, refinancing federal loans into a private loan means losing access to federal benefits, such as income-driven repayment plans and loan forgiveness programs.
Consolidation, on the other hand, is offered for federal loans and allows borrowers to combine multiple federal loans into a single Direct Consolidation Loan. While consolidation doesn't lower your interest rate, it simplifies repayment by combining all debts into one monthly payment. Consolidation may also grant access to repayment plans and forgiveness programs specific to certain federal loans.
When evaluating whether to refinance or consolidate, it's essential to weigh the benefits and drawbacks in the context of your financial situation. Borrowers seeking private refinancing should evaluate competitive options from reputable lenders. For a comprehensive guide to institutions offering private refinancing, learn about the best banks that offer bank student loans.
How Can My Degree Choice Impact My Loan Outcomes?
Evaluating your college major plays a critical role in managing student loans effectively. Selecting a field with strong job market demand and competitive earning potential can help ensure that future income aligns with repayment obligations. Leveraging industry salary data and employment trends supports a data-driven decision process that minimizes financial risk. For detailed insights on degree profitability and career prospects, review what is the best major in college.
Key Findings
- Nearly half (44%) of student loan borrowers believe the benefits of their degree outweigh the loan cost.
- The average student loan amount for students in private nonprofit universities is $33,700.
- Federal student loan interest rates for the 2023-2024 school year ranged from 6.53% to 9.08%.
- Private loan interest rates can be fixed or variable, ranging from 4.04% to 17% as of July 2024.
- The average monthly payment is $203.
- Student loans typically cover only 19% of college costs, with families paying for about 50% out of pocket.
Here's what students have to say about their loans
"I got into my dream school, but the tuition was way out of my budget. Fortunately, I was able to get a federal student loan and attend the college that was the best fit for me." - Kalani
"I wouldn't have been able to afford college without student loans. My loan allowed me to pursue my dream of becoming a nurse. The financial aid office helped me navigate the process, and I feel confident I can manage the repayments with my future career." - Maddie
"Graduate school tuition is steep, so I appreciate my low-interest student loans. The knowledge and skills I'm gaining will open doors to exciting career opportunities in my field. It's an investment in my future that I believe will pay off for years to come." - Michael
Other Things You Should Know About How Student Loans Work
Are student loans paid directly to you?
How do student loans work as far as disbursement? Student loans are not paid directly to you. Once you receive a loan award, the funds are typically sent to your school's financial aid office. The school then deducts any outstanding tuition and fees from the loan amount and disburses the remaining funds to you, often via direct deposit or check.
How long do you have to pay back a typical student loan?
On average how long does it take to pay off student loans? The repayment period for a student loan will vary depending on the loan program and repayment plan you choose. Standard repayment plans for federal direct loans typically last 10 years, while income-driven repayment plans can extend for 20 or 25 years. Private student loans may offer different terms between five and 20 years depending on the lender.
What are the consequences of not repaying student loans?
Not repaying your student loans can have serious consequences. Delinquency, which occurs when you miss payments for 90 days or more, can damage your credit score and make it difficult to qualify for other loans. The federal government can garnish your wages or tax refunds to collect outstanding debt. In the most severe cases, defaulting on your loans (which happens after 270 days of delinquency) can lead to legal action.
References:
- Hanson, M. (2023, May 22). Average Student Loan Debt [2024]: by Year, Age & More. Education Data Initiative. Retrieved July 4, 2024, from https://educationdata.org/average-student-loan-debt
- Hanson, M. (2023, May 30). Average Student Loan Payment [2023]: Cost per Month. Education Data Initiative. Retrieved July 4, 2024, from https://educationdata.org/average-student-loan-payment
- Horymski, C. (2023, June 8). Average Student Loan Payments to Top $200 Once Resumed. Experian. Retrieved July 4, 2024, from https://www.experian.com/blogs/ask-experian/research/average-student-loan-payments
- Medine, T., & Pimplaskar, E. (n.d.). Private Student Loans: Compare Top Lenders | July 2024. Credible. Retrieved July 4, 2024, from https://www.credible.com/student-loans
