What a student loan is and how the money reaches you
A student loan is money you borrow from the federal government or a private lender to pay for college, graduate school, or career training. The lender gives the money directly to your school, which applies it to tuition, fees, room and board, and other costs. You do not receive cash in hand. The school deducts what you owe them and sends any remainder to you, usually by check or direct deposit, to cover other expenses.
Federal student loans come from the U.S. Department of Education. Private student loans come from banks, credit unions, and other financial companies. The two work differently in terms of interest rates, repayment rules, and what happens if you run into trouble paying back the money.
You must complete the Free Application for Federal Student Aid (FAFSA) to be considered for federal loans. This form tells the government your family's income and assets so they can determine how much you can borrow. Private lenders typically require a credit check and may ask for a cosigner—usually a parent—if your credit history is thin or poor.
Key Takeaways
- Federal loans charge a fixed interest rate set by Congress, while private loans charge rates that vary by lender and your credit score.
- You do not begin repaying federal loans until after you graduate or drop below half-time enrollment, but interest may accrue during school depending on the loan type.
- Private loans often require repayment to start while you are still in school, and they do not offer income-based repayment plans.
- Federal loans can be forgiven under certain circumstances, such as working in public service for ten years, but private loans cannot.
- The total amount you can borrow each year and over your lifetime is capped for federal loans but not for private loans.
Federal loans: interest rates, borrowing limits, and the grace period
Federal student loans carry an interest rate set by Congress, not by market conditions. As of 2024, undergraduate federal loans charge 8.25 percent interest, while graduate and parent loans charge higher rates. Congress changes these rates periodically, so the rate you lock in depends on the year you borrow. Once your loan is issued, your interest rate does not change.
The amount you can borrow each year depends on your year in school and whether you are a dependent or independent student. A dependent undergraduate can borrow up to $5,500 in the first year, $6,500 in the second year, and $7,500 per year after that. Independent undergraduates and graduate students can borrow more. Over your entire education, the lifetime limit for undergraduate federal loans is $31,000 for dependent students and $57,500 for independent students.
Federal loans enter a grace period after you graduate or drop below half-time enrollment. During this time—usually six months—you do not have to make payments. Interest still accrues on unsubsidized loans, meaning the amount you owe grows. On subsidized loans, the government pays the interest during school and the grace period, so your balance does not increase.
Private loans: how they differ from federal loans
Private student loans are issued by banks and credit companies, not the government. The interest rate depends on your credit score and the lender's policies. A borrower with excellent credit might receive a rate of 5 percent, while someone with fair credit might pay 10 percent or more. Unlike federal loans, private loan rates can be variable, meaning they change over time based on market conditions.
Private lenders typically require repayment to begin while you are still in school, though some offer an option to defer payments until after graduation. You will not find income-based repayment plans with private loans. Your monthly payment is fixed based on the loan amount, interest rate, and repayment term you choose—usually 10 to 20 years.
Private loans do not offer forgiveness programs. If you work in public service or teaching, a private loan will not be forgiven. If you become permanently disabled, some private lenders will discharge the loan, but this is not may provide and varies by company.
How interest accrues and what you owe at repayment
Interest is the cost of borrowing money. It accrues, or builds up, every day your loan is outstanding. On a federal unsubsidized loan, interest begins accruing the moment the money is disbursed to your school, even if you are still enrolled. On a federal subsidized loan, the government covers the interest while you are in school and during the grace period.
When you enter repayment, any accrued interest is added to your principal—the original amount you borrowed. This is called capitalization. From that point forward, you pay interest on the larger amount. For example, if you borrowed $20,000 and $2,000 in interest accrued during school, you now owe $22,000, and future interest is calculated on $22,000.
The total amount you repay depends on your repayment plan. On a standard 10-year plan, you pay a fixed amount each month. On an income-driven plan, your payment is based on your annual income and family size, and the repayment period can stretch to 20 or 25 years. Longer repayment periods mean lower monthly payments but more interest paid overall.
Repayment plans for federal loans
Federal loans offer several repayment options. The Standard Repayment Plan requires fixed monthly payments over 10 years. The Graduated Repayment Plan starts with lower payments that increase every two years, also over 10 years. Both of these are available to all federal loan borrowers.
Income-Driven Repayment Plans tie your monthly payment to your current income. There are four versions: Income-Based Repayment (IBR), Pay As You Earn (PAYE), Revised Pay As You Earn (REPAYE), and Income-Contingent Repayment (ICR). On these plans, if your income is very low, your payment could be as little as $0 per month. The repayment period is typically 20 to 25 years, and any remaining balance is forgiven after that time. However, forgiven amounts may be treated as taxable income.
You can change your repayment plan at any time, and you should reconsider your choice if your income changes significantly. The Federal Student Aid website allows you to compare plans and estimate your monthly payment under each option.
What happens if you cannot pay: deferment, forbearance, and default
Deferment and forbearance are temporary pauses on federal loan payments. Deferment is available if you return to school at least half-time, enter the military, or face certain other hardships. During deferment, the government pays the interest on subsidized loans, but interest continues to accrue on unsubsidized loans. Forbearance is a more general pause available when you face financial hardship or other circumstances. During forbearance, interest accrues on all loans.
If you do not pay your loan for 270 days, your loan enters default. Once in default, the entire remaining balance becomes due immediately. The government can garnish your wages, seize your tax refunds, and report the default to credit bureaus, damaging your credit score for years. Defaulted federal loans can be rehabilitated by making nine on-time payments within ten months, which removes the default status from your credit report.
Private loans do not offer deferment or forbearance. If you miss payments, the lender can pursue collection immediately, and your credit score will suffer. Some private lenders offer hardship programs, but these are not standardized and vary by company.
Loan forgiveness programs for federal loans
Public Service Loan Forgiveness (PSLF) forgives the remaining balance on federal loans after you make 120 may have access to monthly payments while working full-time for a government agency or nonprofit organization. The payments do not have to be consecutive, but they must be made under an income-driven repayment plan. After 120 payments, any remaining balance is forgiven tax-free.
Teacher Loan Forgiveness forgives up to $17,500 of federal loans if you teach full-time for five consecutive years in a low-income school or school district. This program does not require an income-driven repayment plan and is separate from PSLF.
Permanent disability discharge forgives all federal loans if you become totally and permanently disabled. You must provide medical documentation, and the Department of Education will verify your status. Private loans do not have an equivalent program, though some lenders may discharge loans on a case-by-case basis.
Frequently Asked Questions
Do I have to start repaying my federal loan right after I graduate?
No. Federal loans enter a six-month grace period after you graduate or drop below half-time enrollment. You do not have to make payments during this time. After the grace period ends, repayment begins. If you return to school at least half-time, the grace period resets.
What is the difference between subsidized and unsubsidized federal loans?
On subsidized loans, the government pays the interest while you are in school and during the grace period. On unsubsidized loans, interest accrues from the moment the loan is disbursed, and you are responsible for all of it. Unsubsidized loans cost more over time because the interest compounds.
Can I pay off my student loan early without a penalty?
Federal loans have no prepayment penalty. You can pay extra toward your principal at any time, and the extra payment reduces the total interest you will owe. Private loans vary by lender; some charge a prepayment penalty, while others do not. Check your loan documents or contact your lender to confirm.
What happens to my student loans if I do not finish my degree?
Your loans enter repayment status once you drop below half-time enrollment, regardless of whether you finished your degree. The grace period still applies, but you will owe the full amount you borrowed plus accrued interest. If you return to school later, you may be able to defer payments again.
Can private student loans be discharged in bankruptcy?
Private student loans are rarely discharged in bankruptcy. You must prove undue hardship, which courts define strictly—usually requiring that you cannot maintain a minimal standard of living, that your situation is likely to persist, and that you have made good-faith repayment efforts. Federal loans have similar standards but slightly more favorable language in the law.