Subsidized vs. Unsubsidized Student Loans: What’s the difference?

Jon O'Donnell Updated on July 2, 2020

Federal student loans, also known as Stafford Loans or Direct Loans, come in two forms: subsidized and unsubsidized.

Subsidized loans are offered to students with financial need. For these loans, the government will cover the interest while you're in school. Unsubsidized loans are offered to students without extreme financial need. If you get an unsubsidized loan, the loan interest will accrue while you're in school if you defer payments. Let's dig in to how each of these loans work. 

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A subsidized student loan is a loan offered by the federal government. With these loans, the subsidy comes in the form of the government helping you repay the loan while you're still in school.

So how do subsidized student loans work?

For both federal and private student loans, you are charged interest from the day the loan money is paid to you or your school. That means that even while your loan payments are deferred while you're still in school, your loan is racking up interest unless you pay the interest every month. When you graduate, the interest is "capitalized," meaning that it's added to the original loan balance. 

With subsidized student loans, the government steps in and makes interest-only payments on the loan while you're still in school. When you graduate, your loan balance should be pretty close the original amount of money you borrowed. 

For example, the yearly interest on a $4,000 federal loan is about $260. With a subsidized student loan, the federal government repays that amount on your behalf. So over four years of college, a $4,000 subsidized student loan vs. other types of loans could save you over a thousand dollars.

Note: All subsidized student loans are offered by the federal government. Private subsidized student loans do not exist.

How do you get a subsidized loan?

You apply for a subsidized or unsubsidized federal student loan the same way: Simply fill out the Free Application for Federal Student Aid (FAFSA)

Once the government receives your application, it forwards your information to the colleges or universities that you listed on your FAFSA.

The schools that decide to accept you will send you an acceptance letter and a financial aid package. The financial aid package will generally include information about federal and state grants, as well as your eligibility for federal subsidized and unsubsidized student loans.

Let’s pause here for a moment to clarify two things that people often get confused about:

  • Even though the FAFSA is a government application, your financial aid package will come from the colleges that you have applied to. You will not get an award letter from the federal government.
  • You may get more or less federal financial aid depending on which school you attend.

After taking into account the “free money” we mentioned above, it’s generally best to accept all subsidized loan dollars offered to you, followed by federal unsubsidized loans and then private loans, as necessary.

Who is eligible for a subsidized student loan?

Subsidized student loans may appear to be a great deal … and they are if you can get one. However, not everyone is eligible.

Generally, subsidized loans are offered to undergraduate students who can demonstrate financial need. Subsidized loans are not available for graduate students.

In addition, these loans have maximum limits that may not be enough to fully fund your education, so additional loans may be necessary.

For example, a first-year student may be eligible to borrow up to $3,500 in subsidized student loans, a second-year student may borrow $4,500, and third-year students and beyond may borrow up to $5,5000. (See this page from the Department of Education for more information.)

What is an unsubsidized student loan?

If you don’t qualify for a subsidized student loan, the government also offers unsubsidized student loans.

Unlike subsidized loans, these loans are not based on financial need. You, as the borrower, are solely responsible for repayment, including any payments due while you’re still in school.

These loans operate in a similar fashion to a loan from a bank or private lender. But because they’re offered by the federal government, they often offer lower interest rates and fees.

However, these loans also have maximum limits, so additional loans are often needed. For example, the max loan limit for a first-year college student is $5,500, which is generally not enough to fund an entire academic year. Many students opt to take private student loans to cover any additional tuition gaps that remain after scholarships, grants, and federal student loans. 

When does repayment start?

Many federal loans allow a grace period before you’re required to begin repayment. The grace period, which is often around six months, generally begins after you leave school or drop below half-time enrollment.

It’s important to note that interest may accrue during your grace period. If you’re able to start making payments before the grace period has expired, you’ll save yourself money on the life of the loan. Get in touch with your student loan servicer to find out more about your options. 

What if you can't pay?

Certainly, most college students hope to be gainfully employed not long after graduation. Still, it’s always a good idea to know what your options are should you find yourself in the unfortunate position of not being able to pay back your loan right away.

Here again, subsidized student loans can offer some reassurance. If you’re unable to pay for any reason, you can exercise one of two options: deferment or forbearance.

Deferment allows you to lower or postpone payments for up to three years, often without interest accrual during the time of nonpayment for subsidized loans. Unsubsidized loans may also allow deferment, but interest is usually charged during those period.

Forbearance lets you stop making payments for up to a year; however, interest will continue to accrue during that time.

Other funding options

If you’re not able to fully fund your education through grants, scholarships, and federal loans, you may need to investigate private student loans. Check out our picks for the best private student loan deals for the coming school year. 

Published in: Federal Student Loans

About the Author
Jon O'Donnell

Jon is a writer and marketer for Nitro who is passionate about bringing transparency to the student loan process along with providing families with the information needed to make smart financial decisions. He also just recently refinanced his student loans allowing him to pay them off 5 years faster all while saving an additional $152/month. As he continues to pay them off himself, he strives to help others do the same. Jon also has a long history of connecting people with educational opportunities to help them improve their careers and their overall personal finances. In his free time you can find him reading travel blogs and researching destinations around the world in search of his next adventure. Read more by Jon O'Donnell

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