Private student loans differ from federal student loans in a few ways. Understand these terms and you'll be equipped to make better decisions.
1) Loan length
Private loans are available in a variety of payment lengths, generally from 5 to 15 years. When comparing college financing options, it's important to consider both the payment amount and how long that payment will be made. You’ll pay less in interest if you pay off the loan in a shorter time period, but there generally isn’t a penalty for paying off your loan earlier. If you’re uncertain of how soon you can pay off your loan, opt for a longer repayment length. Then, when you can, make extra payments to pay off your loan faster.
A co-signer is a person who vouches for the original borrower's ability to repay the loan. The co-signer generally has the credit and income to warrant the money being lent. Legally, the co-signer is also considered equally responsible for loan repayment and any late payments show up on the co-signer's credit report. Cos-igners can ask for their names to be removed from the loan if the loan agreements include a method for them to do this. For example, a condition of co-signer release may be that 12 on-time payments are made and the primary borrower--the recently graduated student--makes enough income to make the payments without the cosigner’s help.
3) Credit approval
In order to qualify for a private student loan--especially one with a low interest-rate--credit approval is needed. A full credit check is run. The better your credit rating, the lower your interest rate could be. Income is also considered when determining the amount that will be lent.
4) Fixed Versus Variable Interest Rate
Private loans have two types of interest rates: fixed and variable. A fixed interest rate never changes. For example, if you borrow a private student loan at a 4 percent fixed interest rate, you will always pay the same amount of interest. However, if you have a variable rate, your interest rate could change multiple times--up or down--throughout the course of the loan. Similar to when you see mortgage rates change, private student loans rates can change, too. Your interest could be 4 percent one year and 7 percent the next, potentially increasing payments by over $100 per month. If you choose a variable-rate loan, make sure you are ready to take on the risk of your interest rate rising. Just like mortgages, you have an option to choose a rate that’s fixed at the current rate or one that can vary. After you start making payments you may find that interest rates are lower than when you took out your loan. This is a good time to start asking when should refinance your student loans.
5) Grace Period
It’s important to know when repayment begins. There may be a period of time where payments aren’t made at all while the student is in school; maybe even for 6 months afterward. This is called a grace period. There may also be a grace period of up to 10 days from the payment date each month before payments are considered late. It’s important to make sure you don’t confuse grace periods with a forbearance. A forbearance is an allowed repayment break generally due to an economic or medical situation. Discuss with your lender the policies on both grace periods and forbearances before borrowing, especially if you don’t have an emergency fund.