Repayment Options, Student Loan Resources

What is the Difference Between Subsidized and Unsubsidized Student Loans?

Going to college is a massive and expensive endeavor for young people today. With the average tuition of public colleges around $9,000 per year and private colleges at around $31,000 per year, it is only natural that almost every college student has student loans of some kind.

The federal government has its own loan program to help student borrowers get the funds they need to attend college. This is called the Direct Loan Program and it is administered by the US Department of Education. There are three types of loans offered by the Department of Education through the Direct Loan Program. These are Stafford loans, PLUS loans, and Consolidation Loans.

Stafford loans are by far the most common type of federal student loans for most borrowers. These are further divided between subsidized and unsubsidized loans. While there are some similarities between the two types of Stafford loans, there are many differences. Understanding the differences is important for new student borrowers who are trying to determine what the overall cost of their education will be.

How to Apply

Applying for federal student loans requires the same steps for both types of Stafford loans. Before you can get any financial aid from the government, you must complete a Free Application for Federal Student Aid, also known as the FAFSA. This determines your eligibility for student loans.

When you fill out the FAFSA, you will be asked what schools should get your application results. The results of your eligibility are sent to the school. Once the school formulates your student aid package, you will need to fill out a request for the student loans.

Qualifications for Approval

For both types of Stafford student loans, there is no credit check for qualification of the loans. Your credit history does not come into play whatsoever with these federal loans. However, there are some qualifiers that you must meet in order to get these student loans, and they vary by type.

A few qualifiers are the same for both loans. If you are an 18-year-old male you must be registered with the Selective service to qualify for federal financial aid. All borrowers must be actively seeking a degree. For repeat borrowers, there are also limitations on how much you can borrow over your lifetime and how many semesters you can borrow for over your lifetime, which you must not exceed to qualify for additional loans.

Subsidized vs Unsubsidized Student Loans

Subsidized Loans

Subsidized loans have additional requirements. Subsidized loans are only given to borrowers who can exhibit extreme financial need. You must fall below the income guidelines to qualify for subsidized loans. The income guidelines are based on household size, annual income based on your tax return for the previous year, and if you are a dependent student (which most first-time borrowers are). It will also take into account your parents’ income.

When you fill out your FAFSA for the year, you will have to include all of this information on your application. The federal government then uses this information to determine your eligibility for subsidized student loans as well as Pell Grants.

Unsubsidized Loans

Unsubsidized student loans do not have any income requirements. Anyone can take out unsubsidized student loans from the government as long as they meet the basic qualifications of being enrolled in a degree program, being registered with the Selective Service, and not exceeding the lifetime maximums. There are no additional qualifications for unsubsidized loans.

How Loan Amounts are Determined

Student loan amounts are determined by your school. When your school receives your FAFSA, they will make up a determination of the amount of Pell Grant and the subsidized and unsubsidized loans that you can get, making up your financial aid package. The biggest difference between subsidized and unsubsidized loan amounts is that you can only get as much in subsidized loans as is required for financial need.

This means that if you have a Pell Grant, scholarships, or other financial aid available, you can only borrow the amount of money in subsidized loans that you need to meet tuition and other fees, including room and board. Living expenses cannot come out of subsidized loans. Unsubsidized loans, however, can be borrowed for more than what you need to strictly cover tuition. It is from these loans that you can do things such as buy a laptop for your schoolwork.

Length of Qualification for Financial Aid

The length of qualification for financial aid is the same for both subsidized and unsubsidized loans. You can only qualify for federal student aid and loans for 150 percent of your degree program. For example, if you are in a four-year degree program, you can only get student loans for six years accumulatively, even if you do not attend school for those years consecutively.

Loan Fees

Loan fees for both subsidized and unsubsidized student loans are the same. It is 1.066 percent of the loan amount. This loan fee is deducted from the loan amount when it is disbursed to the school. Disbursement happens when the school notifies the federal government that you are enrolled and registered for classes.

Total Amount You Can Borrow

There are total amounts that you can borrow over your lifetime for both subsidized and unsubsidized student loans. If you go to an expensive private college, you will probably have to get private student loans either throughout your time in school or during the last two years of school, as you will not be able to borrow the full amount from the federal government.

Annually, you are limited on how much you can borrow per year, and you are limited on how much of that total amount can be in subsidized loans. The amounts differ depending on whether you are considered a dependent student or an independent student. For example, dependent undergraduate students in their first year can borrow $5500 in student loans with no more than $3500 in subsidized loans. But, the same student as an independent student can borrow $9500 with no more than $3500 in subsidized student loans.

Second year, third year, fourth year, and graduate students all have their own limits for dependent and independent students. Over the course of your lifetime, you also have limits. No student borrow can exceed $23,000 in subsidized student loans. Dependent students can only borrow a total amount of $31,000 and independent students can borrow a total amount of no more than $57,000.

Interest Rates

Interest rates for subsidized and unsubsidized loans are the same. They are set each year by the federal government based on current interest rates. The interest rates for subsidized and unsubsidized loans are fixed, which means that the interest rate at the time you take out your loan will be the interest rate for that loan for the lifetime of the loan unless you consolidate your federal loans at a later date after graduation.

The interest rates set by the federal government for subsidized and unsubsidized student loans are based on current interest rates, but they are usually quite low. You will be hard pressed to find any private student loan lender that can meet or beat the fixed interest rates offered by the federal government. This is done in an attempt to keep borrowers from going too far into debt or taking too long to pay off their student loans after graduation.

How Interest is Paid

The real nitty gritty of the difference between subsidized and unsubsidized loans is how the interest is paid. There are certain times during which you do not have to pay on your student loans. Namely, you do not have to pay on your student loans while you are in school until six months after you graduate.

However, interest begins accruing on the day that the loan is disbursed. So how is that interest handled while you are not paying on your loans during school? This is the real difference between subsidized and unsubsidized loans.

Subsidized Loans

With subsidized loans, the federal government pays your interest while you are in school and for six months after you graduate. This means that if you borrow $10,000 in subsidized student loans, you will owe $10,000 when you leave school and begin paying on your loans. This makes the cost of the student loans and your overall cost for education much less than it would be otherwise.

There are also a few other times when the federal government pays the interest on your subsidized student loans, such as deferments for certain situations as well as while you are in school. There are also some cases in which part of the interest might be paid for you when you are on income-based repayment plans.

Unsubsidized Loans

On the other hand, unsubsidized loans do not have the interest paid by the government. You are responsible for the interest from the day that the loan is disbursed. What this means is that the cost of the loan and your education is more, because you are paying a lot more interest over time.

You do have the option with unsubsidized loans to either make interest-only payments during your time in school or have that interest capitalized over time. If you choose not to make interest payments while in school, the interest will accrue and be tacked on to the principle of the loan.

When you do start making payments, you will be essentially paying interest over time on the interest that already accumulated while you are in school. This increases the cost of the loan significantly. If you can, you should make the interest-only payments while you are in school to eliminate some of the cost.

When Payment Responsibility Begins

Payment responsibility for your federal student loans begins six months after you graduate or leave school for any reason. However, you are responsible for the interest on unsubsidized loans from the day that they are disbursed. If you choose to make interest-only payments on your unsubsidized loans, you will need to start making those payments about one month after you first receive your loan.

Repayment Plans

There are many different repayment plans available for both subsidized and unsubsidized student loans. These repayment plans can be divided into three basic categories: standard, graduate, and income based. There are a lot of differences between them, namely how long you have to repay the loans. There are also some differences between how interest is handled on income-based repayment plans on subsidized and unsubsidized loans.

Standard

The standard repayment plan divides your loan payments into equal monthly installments that will have the loans fully repaid within 10 years after you graduate or leave school. Your monthly payments are based on the total amount of your student loans. This is the most basic and common repayment plan for both subsidized and unsubsidized loans.

Graduated

With the graduated repayment plan, you will still have your loans paid off within 10 years after graduation. The difference is that your loan payments are lower at the beginning of your repayment period and are increased each year gradually. The upside to a graduated repayment plan is that your payments are lower when you first enter the workforce and will be earning less money. The downside is that by the end of your repayment period, your payments are quite high.

Income Based

There are several different income-based repayment plans available for both subsidized and unsubsidized student loans. There are two versions of the Pay As You Earn plan, both of which extend the period you have to repay your loans to 20 or 25 years, and are based on graduating income as you progress in your career.

There is also an income-based repayment plan in which your payments are calculated based on what you can reasonably afford. Your income and reasonable expenses such as housing and food are taken into consideration, as well as your household size and dependents. With the income-based repayment plan, you have 20 to 25 years to repay your loans. If you still have a balance at the end of that time period, your remaining loans will be forgiven.

There is also an income contingent repayment plan, which allows your payments to be partially based on your income. However, you are responsible for paying the full amount of your loans within 20 years on the income contingent repayment plan.

Interest During Income-Based Repayment Plans

There are some differences in how interest is handled during income-based repayment plans in respect to subsidized and unsubsidized loans. When you are on an income-based repayment plan, it is possible that your monthly payment may not be enough to cover the interest for that month. When that happens, what happens to the interest that remains unpaid? This really depends on if they are subsidized or unsubsidized loans, and what type of repayment plan you are working with.

Subsidized

When it comes to subsidized loans, there are certain times when the federal government will pay your interest. How much of the interest that the government will pay and for how long depends on what type of income-driven repayment plan you are placed on by your student loan servicer.

If you have the Revised Pay as You Earn repayment plan, the federal government will pay your interest not covered by your monthly payments for up to 3 years, then they will pay 50 percent of the interest after that. So if your interest for the month is $30, but your monthly payment is only $20, the federal government will pay $10 for three years. After that initial three years, they would pay five dollars a month.

If you have the original Pay as You Earn repayment plan, the federal government will pay your interest not covered by your monthly payments for 3 years. After that initial three years, the federal government will no longer pay any of your interest payments. If your income-based monthly payment is not enough to cover the interest after that time, any remaining unpaid interest for the month is added to the principle of the loan.

If you have the income-based repayment plan, the federal government will pay your unpaid monthly interest for three years as well. However, if you are on the income-contingent plan you do not qualify for interest subsidy, and all the interest will be capitalized, or added to the principle of the loan.

An important thing to note here is that the interest subsidy for subsidized loans during repayment is only available while you are paying on the original unsubsidized loan. If you consolidate your subsidized and unsubsidized loans together into a consolidation loan, you will lose your eligibility for interest subsidy.

Unsubsidized

You will not get any assistance from the government with the interest on your unsubsidized loans. If your income-based repayment plan monthly payment is not enough to cover the interest for that month, the remaining interest is capitalized and added to the principle of the loan. This essentially means that you are paying interest on the interest during the life of the loan.

Interest During Deferment and Forbearance

The federal government does not offer any assistance in paying interest on subsidized or unsubsidized loans during forbearance periods. During those periods, the interest that you are not paying will be capitalized and added to the principle of the loan.

However, there are some provisions for people who have subsidized student loans in deferment. Deferments are granted for returns to school, economic deferments for financial hardship, and deferments for active military service men and women. When your subsidized student loans are in deferment for one of these reasons, the interest will be paid by the federal government.

Cost of the Loan

One of the things to really consider when you go to college is the actual cost of your education. The cost of your degree is not just the cost of tuition, books, fees, and room and board. It is also the interest and fees that you pay overtime on the student loans that you take out to pay for your education.

The cost of your loans will vary greatly depending on several factors. The repayment plan you choose can make a difference in the cost of your loans because the longer you are paying on the loans the more interest you pay in full. Consolidating loans and starting over on a repayment plan also increases the cost of your loans.

However, there are some differences in the overall cost of your loans when you look at subsidized and unsubsidized loans individually. The overall cost of subsidized loans is generally much smaller than the cost of unsubsidized loans.

Subsidized Loans

Subsidized loans tend to cost much less than unsubsidized loans due to the way the interest is handled and paid. While interest is accruing from the start of the loan, the federal government pays that interest while you are in school and throughout the time of your deferments, as well as during certain income-driven repayment plans. Because of this, as long as you keep your loans in good standing your interest will likely never be capitalized and added to the principle of the loan.

Unsubsidized Loans

Unsubsidized loans frequently cost much more than subsidized loans. While you are in school the interest has to be repaid. If you choose not to make interest-only payments while in school, those interest payments are added to the principle of the loan each month. That means that you are paying interest on the interest for the duration of your loans. This causes the total cost of the loan to be much more.

For example, if you do not make interest-only payments on a $10,000 unsubsidized student loan, by the time you enter your repayment period you could owe $13,000 or more depending on the interest rate at the time of the loan.

In addition, interest is not paid by the federal government on unsubsidized loans for any reason. If you enter a deferment period or go onto an income-based repayment plan that doesn’t cover the interest with the monthly payments, that interest will also be capitalized and added to the principle each month. Therefore, the longer you go without paying the interest the more it is going to cost you.

Student Loan Consolidation

Both subsidized and unsubsidized loans are eligible for student loan consolidation. The important thing to remember about consolidation is that consolidation loans are not subsidized. If you consolidate both subsidized and unsubsidized loans into a new direct consolidation loan, you will no longer be eligible for an interest subsidy. Your unsubsidized loans at that point are paid off by the consolidation loan, which is not subsidized.

Student Loan Forgiveness and Grants

There is no difference between subsidized and unsubsidized loans when it comes to student loan forgiveness programs. However, it is important to note that student loan forgiveness is very rare. You can get your student loans forgiven if you enter into public service for ten years, or if you work as a teacher for five years. You can also get your student loans forgiven if you make timely payments on an income-based repayment plan for 20 or 25 years and do not pay the full amount of your loans in that time.

There are also a number of grants available, from the federal government, states, and certain professions, that can be used to pay off your student loans. Grants are money that you do not have to repay. There are grants available for nurses, teachers, and military personnel. There are grants as well for doctors who volunteer their time, nurses, and lawyers who work in a public capacity, such as a public defender or prosecutor.

There are a lot of companies and telemarketers out there advertising student loan forgiveness. The fact of the matter is that there are no federal student loan forgiveness programs that are available for everyone. The vast majority of these are scams. In fact, many people who have never had student loans also get these types of calls.

If you do qualify for student loan forgiveness, or you qualify for grants to pay off your student loans, it is best to use the forgiveness or grant toward your unsubsidized loans. Since subsidized loans have a lower overall cost, it is better to make sure that your unsubsidized loans are repaid first. If you get a grant that is not enough to forgive your entire debt, prioritize the unsubsidized loans first.

Conclusion

Overall, the differences between subsidized and unsubsidized loans are easy to understand once you have the information. When deciding what types of loans you should have, it is definitely better to have subsidized student loans. However, it is important to remember that ultimately you do not decide what types of loans you get.

When your school creates your financial aid package, they will determine how much of your student loans will come from subsidized, unsubsidized, or other sources. These amounts are based on the policies of the federal government, but also the policies of the school. For example, some schools may allow you to borrow the maximum annual amount in unsubsidized loans even if you don’t need the full amount to pay for tuition, books, and room and board. Other schools will only allow you to borrow what you absolutely need to pay for school.

In addition, there is typically a fairly even mix of subsidized and unsubsidized loans in any financial aid package. For example, if you are borrowing both subsidized and unsubsidized loans, they may be subsidized $3,000 and unsubsidized $3,500. Usually, the amounts are fairly close. You will very rarely see a financial aid package that only contains subsidized loans without any unsubsidized loans.

The most important thing to consider when you look at the different types of loans is the cost of the loans and repayment options. It is always best to prioritize payment of your unsubsidized loans because the interest is not covered at any time by the federal government. For example, if you can afford to pay one loan but not another, put your subsidized student loans on deferment or an income-driven repayment plan, and pay your unsubsidized loans on a standard repayment plan.

When you prioritize your unsubsidized student loans over your subsidized loans, you will spend much less money overall. As long as your loans are listed individually, you have some options on how to repay the different types of loans separately. It is important to note also that different loans may be with different loan servicers. For each repayment plan change, you must contact the servicer of that particular loan.

Remember also that if you consolidate your student loans, they become a new loan, and are no longer eligible for interest subsidy by the government. If you know you will be taking advantage of interest subsidy through deferment or income-driven repayment plans, it is best to avoid consolidating your loans until you are making enough money to make monthly payments at least equal to the interest accrual on the loans.

If you are ever unsure of what you owe in subsidized or unsubsidized loans, contact the US Department of Education. They can inform you of the loan servicers that have your loans, and you can then contact those servicers for details of your student loan debt. The loan servicer can let you know which loans are subsidized or unsubsidized, and help you make a repayment plan that is to your best advantage.

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