If you're planning on joining the roughly 43 million Americans who currently have student loans, you need to do everything you can not to join the approximately 10 million of them who right now are past due or in default. For those who fall behind on their debts, the impact on their life chances can be devastating, with poor credit reports and credit scores blocking their access to many jobs and dramatically pushing up all their borrowing costs, often by six figures over their lifetimes. In other words, it's perfectly possible for a student loan gone bad to cancel out all the advantages that a college education brought you. And that means picking the right loan and lender is vital.
1. Explore Federal vs. Private
For most borrowers, federal student loans are cheaper than private ones, which can sometimes charge up to 16 percent interest. They're also more likely to be helpful if you can't keep up payments owing to unemployment, poorly paid work or sickness.
However, if you've stellar credit and have no fear of being unable to stay current on the loan (maybe you're a wealthy parent paying for a child's education), it's possible to find very attractive deals in the private sector. And, because federal loans have strict caps on the amount that can be borrowed, many students find they have no choice but to turn to the private sector to fill the gap. Discover more at 3 Situations You May Need a Private Student Loan.
2. Shop Around
Although, as we're about to find out, your cost of borrowing isn't everything, it is likely to be your single biggest consideration. And the range of interest rates, discounts and borrowers' benefits available from private lenders is dazzling.
Remember, you're borrowing a whole heap of money ($28,950 on average for the class of 2014, according to the Institute for College Access and Success) for a very long time, which means even small differences can add up to serious sums. Time you spend when you shop around for a student loan may pay you one of the highest hourly rates you'll ever earn.
3. Be Skeptical
Assuming you're not a deadbeat, private lenders want your business, and they have all sorts of ways to entice you to sign up. Some of these are worthwhile, including discounts for making payments via electronic funds transfers and any waiving of default fees.
However, some aren't as good as they first seem. For example, you may be offered a 2 percent (1 percent is more common) rate reduction after you've made 48 on-time monthly payments. But, over an average 10-year loan, that 2 percent actually translates into a 0.7 percent reduction in total interest payments. And a single late payment will mean you don't qualify even for that. By some estimates, as few as 15 percent of borrowers actually receive all the discounts, rate reductions and benefits originally offered in their deals.
Don't be shy! After you've engaged with a lender but before you've made a commitment, ask lots of questions about these goodies, including, "What percentage of your borrowers actually receive each sort of benefit you're offering me?"
4. Hope for the Best ...
Suppose your career takes off after graduation and all your financial dreams come true. It might make sense for you to pay down some or all of your student debt early.
But different lenders can apply early payments to your account in different ways. Learn more at How to Correctly Make an Extra Student Loan Payment, and then check your prospective lenders' websites to make sure you choose the best deal. If you're still not clear, ask.
5. ... Plan for the Worst
Some lenders are pretty good at helping those with student debt through those financially sticky periods most of us encounter from time to time. But others aren't, and those can cause you serious stress and real hardship. So ask your prospective lenders about their policies for helping distressed borrowers. Equally, some are very inefficient at managing their loans, a process called "loan servicing." Aren't you already spending enough of your life on hold?
Check out the actual experiences of others who've already borrowed from those lenders online, using the LendingTree Lender Ratings page, and federal regulator the Consumer Financial Protection Bureau's database of consumer complaints, where you have to filter for "student loan." The latter has over 30,000 comments about consumer loans, and you need to recognize that even good lenders are likely to have occasional unhappy customers. Worry if yours has loads.
6. Other Considerations
- Avoid lenders with a bad reputation for efficiency. You need to be sure your loan application will have been processed and the funds in your account before you begin classes.
- Think "capitalization." If your lender adds accrued interest to your account while you're still in school, it will cost you. Most lenders do so (capitalize) only when your first payment is due, and that saves you real money.
7. Think Long Term
When you choose a student loan lender, you're entering a long-term relationship, probably one that will endure for a decade. That's longer than the average marriage lasts in the United States, according to The Economist.
So take your time choosing a lender you can live with, both financially and emotionally. Of course, if it all gets too much, you may be able to refinance your student loan, providing you have good credit and a job. But, like a divorce, that may involve stress, hassle and expense.
That's why, like a marriage, it's better to get it right first time around.